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Executive Compensation: A Multidisciplinary
Review of Recent Developments

Cynthia E. Devers*
University of WisconsinMadison, School of Business, Madison, WI 53706
Albert A. Cannella, Jr.
Tulane University, A. B. Freeman School of Business,
7 McAlister Drive, New Orleans, LA 70118
Gregory P. Reilly
University of Connecticut, Storrs, CT 06269
Michele E. Yoder
University of WisconsinMadison, School of Business, Madison, WI 53706
The failure to document a consistent and robust relationship between executive pay and firm
performance has frustrated scholars and practitioners for over three quarters of a century.
Although recent compensation research has revealed alternative theoretical frameworks and
findings that hold the potential to significantly improve our understanding of executive compen-
sation, to date this diverse literature lacks theoretical integration. Accordingly, we develop a
framework to organize and review these recent findings. We further identify methodological
issues and concerns, discuss the implications of these concerns, and provide recommendations
for future research aimed at developing a more integrated research agenda.
Keywords: executive compensation; compensation design; incentive pay; corporate governance;

risk; agency theory; behavioral theory
In their 1997 review, Gomez-Mejia and Wiseman argued that the narrow focus of executive
compensation research excluded consideration of alternative theoretical perspectives and
methodologies; thus, it threatened to make the field stagnant. In response, they posed a series
*Corresponding author: Tel.: (608) 263-2138
E-mail address: cdevers@bus.wisc.edu

Journal of Management, Vol. 33 No. 6, December 2007 1016-1072
DOI: 10.1177/0149206307308588
2007 Southern Management Association. All rights reserved.
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Devers et al. / Executive Compensation 1017
of questions designed to expand the scope of executive compensation research and practice.
In the decade that followed, scholars from a number of disciplines have examined compen-
sation through a wide variety of theoretical lenses. Although this work has uncovered new
insights that hold the potential to significantly improve our understanding of executive com-
pensation, the disparate nature of this research restricts scholars capacity to effectively inte-
grate these insights into a more completely developed perspective. Thus, although
Gomez-Mejia and Wiseman argued for broadening the focus of compensation research in
1997, our review of the recent literature suggests the pendulum may have swung too far.
Accordingly, in this review we develop a framework to organize and evaluate recent com-
pensation research with the purpose of laying the foundation for the development of a more
unifying future research agenda. We focused our attention on studies published since the
1997 Gomez-Mejia and Wiseman review. We attempted to identify every executive compen-
sation study published in the past decade in management, psychology, finance, economics,
and accounting journals. Our initial efforts revealed several hundred published articles in the
compensation arena. Given space constraints, we focused on executive compensation articles
published in the most widely cited journals of each discipline, which resulted in a final sam-
ple of 99 articles (see Appendix). In sum, 44% of the articles were from management jour-
nals, 34% were from finance journals, 12% were from accounting journals, and the
remaining 10% were from economics, psychology, or other journals.
We begin by organizing executive compensation research into two main categories: (1) rela-
tionships between pay and performance and (2) relationships among pay and behaviors.
Traditionally, executive compensation scholars have focused most heavily on the relationships
between pay and performance (Finkelstein & Hambrick, 1996). However, because scholarly
interest in the behavioral consequences of compensation has grown significantly, over the past
decade a substantial amount of executive compensation research has occurred within both cat-
egories. Therefore, we further organized the literature in each main category into two subcate-
gories (for a total of four), with one set containing work examining the determinants of
compensation and the other containing work examining the consequences of compensation
(see list below). A brief description of each study, by subcategory, is provided in the Appendix.
I. Relationships between pay and performance

A. The influence of performance on pay
1. Principal-agent model influences
2. Performance surprises
3. Governance influences
B. The influence of pay on performance
1. Pay plan adoption
2. Elements of pay
3. Top management team pay and pay dispersion
II. Relationships among pay and behaviors
A. The influence of pay on executive actions
1. Goal alignment
2. Strategic choices
3. Individual choices
4. Goal misalignment
1018 Journal of Management / December 2007
5. Risk preference alignment

6. Contextual influences
7. Stock options
B. The influence of executive actions and other factors on pay
1. Contextual influences
2. Governance influences
3. Human capital and social influences
In the following sections, we review recent research in each of these areas. We then dis-
cuss cross-area work. Finally, we conclude by identifying methodological issues and con-
cerns, discussing the implications of these concerns, and offering future research directions
and suggestions aimed at advancing our knowledge of executive compensation.
Relationships Between Pay and Performance
The Influence of Performance on Pay
Researchers examining the influence of performance on executive pay generally depict

compensation as a reward for prior performance, or as a means of ex post settling up (Fama,
1980). Scholars often refer to this relationship as the sensitivity of pay to performance.
Conceptualizing payperformance sensitivity as the dollar change in executive wealth asso-
ciated with each dollar change in shareholder wealth, Jensen and Murphy (1990) found an
average increase in CEO compensation of $3.25 for every $1,000 increase in shareholder
wealth. Given that greater payperformance sensitivity should indicate greater alignment of
executive and shareholder interests, the authors concluded that the sensitivity of CEO pay to
firm performance was quite low. Nevertheless, scholars continue to scrutinize this relation-
ship with zeal. Although some recent work continues to focus on the main effect of perfor-
mance on pay, other studies have emphasized the influence of moderators and other factors.
Because Jensen and Murphys 1990 work remains the seminal payperformance sensitiv-
ity study, it commonly serves as a benchmark against which other findings are compared.
However, depending on the sample used, the timeframe studied, and the variables included,
the levels of payperformance sensitivity observed appear to vary widely. For example,
using panel data from 1980 to 1994, Hall and Liebman (1998) concluded that CEO pay
performance sensitivity was about four times higher than Jensen and Murphys study had
indicated. Because they used more recent data and had more comprehensive information
regarding CEO stock and stock option holdings, Hall and Liebman argued that they were
able to produce a more precise estimate of the sensitivity of CEO pay to firm performance
than Jensen and Murphy (1990). Additionally, they concluded that the sensitivity of CEO
compensation to firm performance has been increasing over time largely because of the pro-
liferation of stock options.
Principal-agent model influences. Scholars have also begun to more precisely examine
payperformance sensitivity by including the effects of other variables in their models. Some of
this work explicitly tests arguments from the principal-agent model of executive compensation.
For example, Aggarwal and Samwick (1999a) examined the effects of the volatility of firm
returns on compensation. Controlling for stock price variance, they found a median CEO
payperformance sensitivity of $14.52 per $1,000 change in shareholder wealth and a
median payperformance sensitivity for other executives of $3.30. Furthermore, their results
showed that as the volatility of firm returns increased, payperformance sensitivity
decreased. They concluded that examinations of payperformance sensitivity that fail to
adjust for volatility may be biased toward zero. Kraft and Niederprum (1999) offered addi-
tional support for this conclusion. Specifically, using data from a sample of German firms,
they found that as the variance in return on equity (ROE) increased, the sensitivity of top
managers salaries to ROE decreased.
In a more recent study, Aggarwal and Samwick (2003) demonstrated that higher levels of
executive responsibility were associated with greater payperformance sensitivity.
Specifically, controlling for executives characteristics, they demonstrated that the median
payperformance sensitivity of executives with divisional authority was $1.22 per $1,000
increase in shareholder wealth lower than executives with oversight authority and $5.65 per
$1,000 lower than that of CEOs. Adding further support for the notion that hierarchical level
matters, they demonstrated that although the median top management team (TMT) pay
performance sensitivity was $32.32 per $1,000, CEOs accounted for between 42% and 58%
of those aggregate TMT incentives. Finally, they demonstrated that, for divisional execu-
tives, the volatility of divisional performance decreased pay-for-divisional-performance sen-
sitivity, but increased pay-for-firm performance sensitivity, suggesting support for the
principal-agent argument that executives pay is tied less to firm performance when informa-
tion asymmetries regarding effort are reduced.
Drawing again on principal-agent arguments, Aggarwal and Samwick (1999b) examined
the use of relative performance evaluation (RPE) in managers compensation. Specifically,
they examined the influences of own-firm and rival-firm performance. Results indicated a
positive relationship between both own-firm and rival-firm performance and managers com-
pensation. However, findings further suggested that although some evidence of RPE in short-
term compensation existed, the ratio of own to rival payperformance sensitivity was lower
in more competitive industries. Thus, although principal-agent models overlook competition
effects, these models do help to explain the use of RPE.
More recently, Leone, Wu, and Zimmerman (2006) examined the effects of stock returns on
CEOs stock-based compensation. They found that although CEO cash-based compensation
was twice as sensitive to negative stock returns as it was to positive stock returns, returns exhib-
ited symmetrical effects on stock-based compensation. They concluded that their findings were
consistent with the notion that unrealized losses are reflected immediately in CEO cash com-
pensation, but unrealized gains are not, thereby reducing the costs of ex post settling up.
Performance surprises. Although the majority of payperformance sensitivity studies

examine general performance effects, some scholars have examined the effects of perfor-
mance surprises on compensation. For example, in a cross-sectional study, Baber, Kang, and
Kumar (1998) found that unexpected earnings and stock returns directly influenced changes
in cash-based and total compensation, but not changes in stock-based compensation. They
further found that although the persistence of unexpected current-period earnings positively
moderated the effects of unexpected earnings on cash-based and total compensation, it neg-
atively moderated those same effects on stock returns. Relatedly, Boschen, Duru, Gordon,
and Smith (2003) used time-series analysis to examine the differential effects of accounting
performance and stock returns on CEO pay. They found that unexpectedly good market and
accounting performance both led to initial increases in CEO pay; however, the results
diverged over time. Specifically, unexpectedly good stock price performance provided posi-
tive, but diminishing, increases, with a positive net benefit over several years. However,
although unexpectedly good accounting performance led initially to pay increases, it resulted
in lower pay in subsequent years. Thus, the long-run net gain in pay from unexpectedly good
accounting performance was zero. Accordingly, the authors point out the importance of con-
sidering the differential effects of unexpectedly good market and accounting performance on
compensation over multiple periods.
Governance influences. Conyon and Peck (1998) examined the role of governance struc-
tures on the performance-to-pay relationship. They found that boards and compensation com-
mittees comprised of higher proportions of outside directors were more likely to tie TMT pay
to market performance. Furthermore, supporting the impact of governance structures, Ke,
Petroni, and Safieddine (1999) found that accounting performance (return on assets; ROA)
was related to CEO compensation in diffusely held (public) firms but not closely held (pri-
vate) firms. They concluded that compensation in closely held firms was based more on sub-
jective than objective performance measures. In related work, Kraft and Niederprum (1999)
also found that ownership concentration was negatively related to both executive pay level
and payperformance sensitivity. However, more recently, Hartzell and Starks (2003) exam-
ined the influence of institutional investor concentration on managerial pay. Their results
demonstrated that although institutional ownership concentration was negatively related to
managers total compensation, it was positively related to the sensitivity of managerial pay to
firm performance. Finally, the only recent meta-analysis in this area demonstrated that firm
size accounted for over 40% of the variance in total CEO pay, whereas firm performance con-
tributed less than 5% (Tosi, Werner, Katz, & Gomez-Mejia, 2000).
The majority of recent work reviewed above demonstrates that the link between firm per-
formance and executive compensation becomes more or less elusive, depending on the vari-
ables examined and the pay elements considered. As our review also shows, most recent
work in this area draws from principal-agent theory or sociopolitical/power theories, with
little attention paid to other theoretical bases. For example, the extant literature is fairly silent
on labor market influences. Thus, some variables we believe may be relevant to developing
a deeper understanding of the relationship between performance and pay include labor
market considerations, such as executive reputation, human capital, discretion, industry
mobility, and industry pay. Furthermore, Hambrick, Finkelstein, and Mooney (2005) sug-
gested that extremely high executive job demands may result in pressure that negatively
affects firm performance. They also discuss the role that high incentive pay might play in
further increasing such pressure. Accordingly, the concept of how executive job demands
affect pay mix may shed more light on the payperformance relationship.
Regulation, specifically tax and accounting treatments of pay, is another factor that likely
influences executive compensation. For example, we expect that such regulations influence
the mix of compensation provided to executives through providing favorable or unfavorable

treatment of various pay package components (e.g., salary, performance-contingent compen-
sation, etc.). Because different elements of pay have different effects on executive behaviors
and, presumably, on firm performance, we speculate that examining the effects of regulation
on compensation offers important avenues for future research.
Finally, we note that although much of the work in this area examines the effect of perfor-
mance on total pay level, given that executives appear to perceive that unique elements of pay
(e.g., stock options, restricted stock) have differential risk properties (Devers, McNamara,
Wiseman, & Arrfelt, in press; Larraza-Kintana, Wiseman, Gomez-Mejia, & Welbourne, in
press), there is value in developing greater knowledge of how performance and the other fac-
tors mentioned above affect the actual structuring of executive pay packages.
The Influence of Pay on Performance
Scholars examining the influence of pay on performance conceptualize compensation as

a motivational tool; thus it is the predictor, rather than the predicted, variable in these
models. Prior research into the consequences of compensation has commonly examined the
influence of total pay or aggregate pay measures (i.e., pay mix) on firm outcomes. However,
considerable literature suggests that firm performance is not only a function of managerial
decisions, but also of factors outside managers control (McGahan & Porter, 1997; Yermack,
1997). Indeed, the results of research examining the ability of pay to influence performance
have produced equivocal results and raised questions concerning the efficacy of executive
compensation, as currently designed, to adequately align the interests of managers and
shareholders (Devers et al., in press). Given that there is a good deal of noise in firm-level
performance measures (Brush, Bromiley, & Hendrickx, 1999), and the relatively empirically
equivocal nature of the pay-to-performance relationship (Tosi et al., 2000), recent attention
has been directed toward examining the performance implications of pay plans and struc-
tures, individual pay elements (e.g., stock options), and top management team pay and pay
dispersion. We review this work below.
Pay plan adoption. Some scholars have argued for the importance of examining the
effects of pay plan adoption on firm performance. Specifically, Wallace (1998) examined the
adoption of residual income-based (RI) compensation plans by comparing a sample of firms
that adopted such plans against a control sample that used accounting-based performance
measures. Results demonstrated that RI plans were positively related to increases in residual
income; however, they were not significantly related to shareholder wealth increases, sug-
gesting, you get what you measure and reward (Wallace, 1998, p. 275). Balachandran
(2006) examined investment decisions of firms using RI plans. Results demonstrated that RI
plans led to increased RI deliveredsuggesting again that, you get what you pay for
(Balachandran, 2006, p. 1).
Morgan and Poulsen (2001) examined the adoption of proposals for executive pay-for-
performance plans. Results demonstrated that plan proposals were significantly associated with
increases in shareholder wealth, particularly for plans that targeted executives. They also found
that in the year before and the year after proposals, proposing firms had better stock-price
performance than nonproposing firms and that proposing firms maintained positive stock-price
performance and experienced increased accounting earnings after plan implementation.
Core and Larcker (2002) examined the effects of targeted ownership programs, which require
executives to own minimum levels of firm stock. Their results showed that, although prior to
plan adoption sample firms exhibited low levels of executive equity ownership and stock price
performance, executive equity ownership increased significantly 2 years following adoption.
They also found that excess accounting and stock returns both increased after plan adoption.
Finally, Hogan and Lewis (2005) examined the effects of economic profit plans (EPPs),
which reward managers when earnings exceed the cost of capital, on strategy and perfor-
mance. Results showed that although EPPs had no significant effect on shareholder value
overall, after partitioning adopters into anticipated and surprise adopters, they found that
anticipated EPP adopters managed assets more efficiently, had higher profitability, and cre-
ated greater shareholder value than a set of comparable firms that were predicted to adopt
EPPs but, instead, did not.
Elements of pay. Some scholars have examined the effects of distinct pay elements on per-
formance. For example, Certo, Daily, Cannella, and Dalton (2003) considered how investors
responded to the stock and stock option holdings of initial public offering (IPO) firm exec-
utives. They proposed that investors view stock options more favorably when IPO executives
also hold equity. Using data from 193 IPOs they found weak support for the prediction that
stock options increase valuation, but strong support for the argument that options interact
with equity ownership to increase IPO firm valuation.
Hanlon, Rajgopal, and Shevlin (2003) also concluded that stock options had positive per-
formance implications as they found that TMT stock option grants positively influenced
future firm performance. Specifically, they found that $1.00 of option grant value (Black
Scholes) was associated with approximately $3.71 of future undiscounted operating income
growth over the 5 years following the grants. However, interestingly, they found the relation-
ship between stock option grants and firm performance to be concave rather than linear, such
that it increased at a decreasing rate, thereby demonstrating the importance of considering
nonlinear associations between options and firm performance. Finally, combining an ele-
mental perspective with an international view, Kato, Lemmon, Luo, and Schallheim (2005)
examined the adoption of stock-option compensation by Japanese firms following a regula-
tory change in 1997 that permitted their use. They found abnormal returns of 2% around
announcement dates and increased operating performance post-adoption.
TMT pay and pay dispersion. Although we found that the majority of compensation
research still focuses on CEOs, some scholars have broadened their focus to include TMTs.
Much of this work examines the effects of pay dispersion. Much prior pay dispersion
research has tended to focus on the consequences of pay disparity across hierarchical levels
(vertical differentiation; e.g., tournament theory; Lazear & Rosen, 1981; Main, OReilly, &
Wade, 1993). In general, this literature suggests that although vertical pay dispersion can
increase individual motivation, it can also decrease productivity and collaboration and lead
to shorter tenures, higher turnover, and, at times, lower firm performance. More recent work
appears to support these conclusions. For example, Carpenter and Sanders (2002) examined
the interplay between CEO pay and TMT pay and its influence on firm performance. They
found that both the level of total TMT pay and the ratio of long-term to total TMT pay are
related (albeit imperfectly) to that of CEOs. They further demonstrated that the proportion
of long-term pay, as well as the alignment of TMT pay with CEO pay and with managerial
complexity, is positively correlated with performance. This work suggests that the influence
of CEO pay structure on firm performance is mediated by TMT pay, such that CEO pay
influences TMT pay, which subsequently affects performance. These results highlight the
importance of considering both CEO pay and TMT pay in executive compensation research.
In a more recent study, Carpenter and Sanders (2004) employed a contingency view of
information processing to examine the relationship between TMT pay and multinational firms
market-to-book value. Results demonstrated that that although CEO pay did not affect MNC
performance, TMT total pay and long-term incentive pay positively influenced subsequent year
performance and, further, the CEO-TMT pay gap was negatively related to performance. The
degree of firm internationalization (complexity) positively moderated all relationships. Finally,
Graffin, Wade, Porac, and McNamee (in press) explored TMT pay dispersion in firms with a
celebrity CEO. Results showed that the compensation increases bestowed on celebrity CEOs
(winners of a CEO of the year contest) are also captured by the other top managers of that firm;
however, pay dispersion among these TMTs is higher than in non-celebrity-CEO firms.
Additionally, they found that the pay dispersion differences in firms with celebrity CEOs are
more sensitive to ongoing accounting performance than those in non-celebrity-CEO firms.
Whereas tournament theory (vertical differentiation) studies have tended to dominate pay
dispersion research in prior decades, recent scholarly interest has appeared to shift, in part,
toward horizontal pay dispersion, or differences in pay among executives of the same hierar-
chical level (peers). Researchers considering horizontal pay dispersion typically assume that
individuals perceived economic value (e.g., skills, knowledge, and human capital) determines
their level of pay (Wade, OReilly, & Pollock, 2006). Drawing on social comparison
(Festinger, 1954) and fairness (Adams, 1965) theories, scholars generally argue that execu-
tives who believe they are paid less than their peers will be characterized by perceptions of
inequity, jealousy, and decreased satisfaction (Pfeffer & Langton, 1993), all of which threaten
both individual and firm performance. However, the evidence from these studies is mixed
(Henderson & Fredrickson, 2001). For example, Bloom (1999) concluded that pay dispersion
among professional athletes had a negative effect on team performance, whereas Conyon,
Peck, and Sadler (2001) found no relationship between pay dispersion and firm performance.
Other researchers have attempted to address these inconsistencies by examining the situ-
ational contingencies that may influence the effects of pay dispersion. For example, Siegel
and Hambrick (2005) argued that because technological intensiveness requires interdepen-
dence among TMT members, pay disparity will be more detrimental to firm performance in
high-technology firms than in low-technology firms. Examining the effects of vertical, hor-
izontal, and overall pay dispersion, they reported consistent support for their argument.
Furthermore, Shaw, Gupta, and Delery (2002) concluded that dispersion is associated with
higher levels of workforce performance when used in conjunction with individual incentives
and in independent work contexts, but is less effective when used without incentives and in
contexts requiring high employee interdependence. Finally, Henderson and Fredrickson
(2001) tested behavioral vs. economic (tournament) theory explanations for both the cause
and performance effects of pay dispersion between CEOs and TMT members. A behavioral
view suggests that pay disparities negatively affect group coordination. Conversely, an eco-
nomic view suggests that larger pay gaps create tournaments that substitute for monitoring.
Henderson and Fredrickson concluded that behavioral and economic theories are comple-
mentary in explaining the consequences and effects of pay dispersion. Specific to perfor-
mance, they found that both behavioral theory (more equal pay helps teams collaborate) and
tournament theory (shirking is reduced through competition) explain the effect of pay disper-
sion on firm performance. However, they also found greater pay dispersion under conditions
of high coordinationa conclusion difficult to reconcile with Shaw et al. (2002) and Siegel
and Hambrick (2005). Finkelstein and Hambrick suggested that TMT pay dispersion may
have important substantive consequences for how the team functions as a group (1996,
pp. 294295). Although overall research evidence supports this claim, precisely how
dispersion exerts its influence remains unclear. Given that strategic choices are strongly
influenced by executives idiosyncratic preferences (Cannella & Holcomb, 2005; Hitt &
Tyler, 1991), we encourage additional research capable of more clearly determining both
whether and how pay dispersion impacts TMT cooperation and, ultimately, firm performance.
In sum, although the two areas reviewed above (pay as an antecedent of performance and
performance as an antecedent of pay) exist concurrently, they remain almost completely dis-
connected. Accordingly, with the exception of a few studies noted in a following section,
little attention has been paid to the complexities inherent in determining the nonrecursive
effects that are likely to occur in the payperformancepay arena. Thus, important questions
remain. For example, scholars often use evidence of performance-to-pay sensitivity to sup-
port pay-to-performance theorizing and vice versa. However, the question of to what extent
we can expect evidence from models that examine whether performance predicts pay or pay
predicts performance to converge remains unanswered. Furthermore, work comparing and
contrasting the effects of variable ordering is virtually nonexistent. Therefore, questions
regarding the role of time and the temporal structuring of variables in compensation models
also remain unaddressed.
There are several reasons for the lack of attention to the alignment between pay for perfor-
mance models and performance for pay models. First, the models themselves are quite complex,
and require extensive time-sequential data. Many executive compensation studies are cross-sec-
tional, though the more recent approaches have involved panel models. Second, the theory behind
these two approaches is very different, and not necessarily consistent. Pay-to-performance
approaches typically draw on motivational theories in psychology, whereas performance-to-pay
studies are virtually always grounded in agency theory. These theories are not necessarily rec-
oncilable, because they draw on very different fundamental assumptions, point to different vari-
ables, and highlight somewhat different mid-level research questions. Finally, there are simple
time-dependent effects (i.e., the influences of CEO tenure, age, and temporal incentives) whose
effects must be teased out to reconcile the two broad approaches. This greatly increases the com-
plexity of an already complex research problem. Still, although addressing these questions is dif-
ficult, we strongly believe that more rigorous examinations of the interrelatedness (or lack thereof)
between pay-to-performance and performance-to-pay relationships are critically important if we
wish to further understanding of executive compensation.
Relationships Among Pay and Behaviors
The Influence of Pay on Executive Actions
Agency scholars suggest that incentive pay aligns the interests of executives and share-
holders by curbing executive opportunism and discouraging risk aversion. However, given
the equivocal nature of payperformance research, a two-pronged approach to analyzing the
interest alignment argument seems appropriate. First, although many scholars attempt to
gauge the efficacy of interest alignment by examining the relationships between pay and per-
formance, implicit in the interest alignment argument is the assumption that pay influences
behavior, which, in turn, affects performance. Thus, much prior compensation research has
focused on the direct (but admittedly coarse and distal) pay-to-performance relationship.
However, because firm performance is a function of both executives actions and exogenous
forces (McGahan & Porter, 1997; Yermack, 1997), it is not surprising that pay-to-performance
research has returned somewhat equivocal results (Tosi et al., 2000). As a result, more
recently, scholars have begun to examine more proximal and direct behavioral outcomes of
compensation to evaluate interest alignment predictions. Second, embedded within the inter-
est alignment logic are separate goal alignment and risk preference alignment arguments,
each of which is hypothesized to affect different behaviors. Therefore, both should be sepa-
rately, but concurrently, considered in compensation theory and research. We outline goal
and risk-preference alignment arguments and research below.
Goal alignment. The majority of compensation research and practice is grounded in pos-
itive agency theory predictions suggesting that because it ties pay to firm outcomes, incen-
tive pay will reduce the threat of executive opportunism by motivating executives to engage
in actions that maximize firm performance. However, although it is widely believed that
incentive pay reduces opportunism, we argue that a strict interpretation of the positive
agency argument suggests that rather than dispatching executives self-interest, incentive pay
is intended to take advantage of executives self-interest by channeling their focus away from
extracting opportunistic rents and toward maximizing shareholder wealth. More specifically,
by linking compensation to firm performance, incentive pay is intended to motivate execu-
tives to focus on shareholder value-maximizing, rather than shareholder value-detracting but
personal value-increasing actions (e.g., shirking, excessive perquisite consumption).
Following this logic, studies concerned with the influence of pay on behaviors have gener-
ated much scholarly knowledge in recent years. We review this work below.
Strategic choices. When executives reveal private information to investors, increased

transparency reduces information asymmetry, makes monitoring easier, and decreases the
prospects of moral hazard, thus, better aligning goals. In testing the goal alignment capabil-
ity of incentive pay, Nagar, Nanda, and Wysocki (2003) found support for their prediction
that information disclosures are positively influenced by both the CEOs ratio of stock-based
to total compensation and the CEOs average value of shareholdings.
Executive attention also appears important to goal alignment. For example, Cho and Hambrick
(2006) examined airline activities during the 10-year period after industry deregulation. They
investigated whether the extent of performance-based pay affected the degree to which TMTs
focused attention on strategic issues that were more relevant in the post- versus prederegula-
tion environment. Results indicated that performance-based pay directed managerial attention
toward specific postderegulation relevant issues and, further, that the effect of TMT composi-
tion and pay on strategic change is fully mediated by managerial attention.
Finally, Mehran, Nogler, and Schwartz (1998) used liquidation policy to investigate the effect
of pay structure on goal alignment. Their evidence showed that voluntary liquidations that
increased shareholder value were positively related to the percentage of shares owned by the
CEO and positively related to the sensitivity of CEO option compensation to stock price change.
Individual choices. Some scholars have suggested that shareholder value creation is
related more to the individual choices of managers than to their strategic choices. For
example, Rynes, Gerhart, and Parks (2005) argued that pay influences motivation and per-
formance through both incentive and sorting effects, with the latter influencing the types of
individuals who are attracted to (self-selection) and retained by organizations (Gerhart &
Milkovich 1992; Lazear 1986). Indeed, recent work highlights the effect of pay on execu-
tives effort levels and their decisions to select into firms and either remain with their firms
or leave. For example, Dunford, Boudreau, and Boswell (2005) found that the percentage of
underwater stock options held by executives was positively related to job search.
Furthermore, this relationship was moderated by beliefs about the adequacy of pay and
employment alternatives. The authors concluded that when options were underwater, execu-
tives incurred greater risk, thus, they were more likely to search for better employment
options than to expend more effort. Similarly, Carter and Lynch (2004) investigated the
effect of stock option repricing on employee turnover. Although they did not find that repric-
ing underwater options affected executive turnover, using forfeited stock options to proxy for
employee turnover, they did find that repricing helped prevent employee turnover because of
underwater options. In related work, Banker, Lee, Potter, and Srinivasan (2001) argued that
increased performance resulting from the adoption of incentive pay plans derives from self-
selection and effort. Results showed that capable employees seek out jobs where superior
skills are rewarded; thus, they are drawn to jobs with greater levels of incentive pay.
Goal misalignment. Although agency scholars argue that incentive pay positively influ-
ences interest alignment, interestingly, our broad-based review of the literature suggested
that goal misalignment might be one of the most reliable outcomes of executive pay. For
example, although it is a fairly recent phenomenon, scholars have examined option backdat-
ing in some detail. Specifically, Yermack (1997) examined the effects of CEO stock option
awards on stock returns. He found that although stock returns prior to award dates were nor-
mal, returns over the subsequent 50 trading days exceeded market returns by over 2%. He
interpreted this evidence as indicating that CEOs opportunistically schedule awards prior to
anticipated stock price increases. Furthermore, Aboody and Kasznik (2000) examined the
effects of scheduled CEO stock option awards on abnormal returns. Although they found
negative abnormal returns prior to scheduled awards, they found positive abnormal returns
in the 30 days following awards. They concluded that CEOs opportunistically release infor-
mation around scheduled awards. Using a different data source, Chauvin and Shenoy (2001)
found negative abnormal returns prior to CEO stock option grants; however, they found no
evidence of positive abnormal returns after awards.
Lie (2005) attempted to reconcile this mixed evidence. He found that when stock returns
were abnormally low prior to unscheduled executive option awards, they rose to abnormally
high levels after awards. Explaining why these results differed from other studies, he sug-
gested that this pattern has intensified over time, as executives have become more skilled and
aggressive in opportunistically timing awards. He concluded by noting that unless executives
possess an extraordinary ability to forecast the future marketwide movements that drive these
predicted returns, the results suggest that at least some of the awards are timed retroactively
(Lie, 2005, p. 802). Finally, Heron and Lie (2007) appear to have definitively answered the
backdating question. They found that after the Securities and Exchange Commission 2-busi-
ness-day reporting rule for option grants became effective (August 29, 2002), the return pat-
tern Lie (2005) demonstrated became significantly weaker overall and completely disappeared
for grants reported within 1 day of their grant date. Thus, they concluded that abnormal
returns around option grants were predominately because of option backdating.
Research has also demonstrated that executives may manipulate information to extract
opportunistic rents. For example, using discretionary accruals as a measure of earnings man-
agement, Guidry, Leone, and Rock (1999) demonstrated that incentive-based pay appears to
lead managers to maximize their short-term bonuses by emphasizing short-term value cre-
ation at the expense of long-term value. Similarly, Bergstresser and Philippon (2006) showed
that incentive pay appears to motivate executives to both manipulate earnings and to cash in
their equity-based pay when stock prices are artificially inflated. Also, Coles, Hertzel, and
Kalpathy (2006) proposed and found that executives attempt to manage earnings around
stock option reissues in an effort to secure option grants at the lowest possible price.
In studying the effects of information manipulation, Burns and Kedia (2006) explored the
effects of CEO compensation on misreporting that ultimately resulted in earnings restate-
ments. They found evidence that the sensitivity of CEOs stock option portfolios to stock
price is strongly related to misreporting. However, they found no such relationship with other
elements of CEO pay. In similar work, OConnor, Priem, Coombs, and Gilley (2006)
explored the effect of stock option grants to CEOs on fraudulent financial reporting. They
found that the association between large CEO stock option grants and fraudulent reporting
was conditioned by CEO duality and director stock options, such that when CEO duality and
board stock options existed simultaneously or were simultaneously absent, increases in CEO
stock option grants decreased fraudulent reporting. However, when CEO duality existed in
the absence of board options, or vice versa, the relationship was positive.
Scholars have also examined the effects of compensation on repricing and corporate pay-
out decisions. For example, under the assumption that executives have control over option
repricing, Callaghan, Saly, and Subramaniam (2004) examined whether repricing is system-
atically timed to coincide with favorable stock price movements. They observed sharp
increases in stock price in the 20-day period following repricing dates, and interpreted this
as evidence that CEOs can opportunistically manage the timing of option repricing.
Finally, testing the assumption that stock options provide executives with incentives to
reduce dividend payouts, Fenn and Liang (2001) found that stock options were positively
associated with increased open market share repurchases at the expense of dividends. In
related work, Sanders and Carpenter (2003) examined dividend policy from both goal align-
ment and risk preference alignment perspectives. Using agency and behavioral theory argu-
ments, they asserted that because repurchases generally lead to stock price increases, stock
options should lead to more repurchases. They further suggested that the risk bearing of
stock options motivates executives to redirect funds away from long-term investments
toward repurchases as a means of reducing risks of undesirable stock price fluctuations.
They found that stock repurchase programs were more likely under conditions of informa-
tion asymmetry between executives and external monitors. They further found that when
CEOs held significant stock option pay, firms were more likely to initiate repurchase
programs. Repurchase announcements were also more prevalent when performance expec-
tations were high and when performance targets were missed.
In sum, the research evidence to date strongly supports the conclusion that executives use
incentive compensation in ways that benefit themselves at the expense of shareholders. This
is not surprising, given the body of research about overall compensation and executive self-
interests. Still, this evidence does not preclude the possibility that incentive compensation
has benefits overall, or that the benefits do not outweigh the costs.
Risk preference alignment. The impetus for the risk preference alignment argument is the
widely held assumption that the risk attitudes of shareholders and executives inherently
diverge. Specifically, scholars argue that because shareholders can diversify their personal
wealth across firms with varying prospects, they are risk-neutral with respect to investment
decisions (Milgrom & Roberts, 1992). On the other hand, because the majority of their per-
sonal wealth and human capital are tied directly to their employing firms, executives are over-
invested in their respective organizations. Accordingly, precluded from effectively diversifying
employment and personal wealth risk, executives are assumed to be risk-averse (Jensen &
Meckling, 1976). As a result, under the assumption that large returns accrue to large risks
(Sharpe, 1970) scholars argue that agency costs are incurred when executives avoid risk at the
expense of returns (Wiseman & Gomez-Mejia, 1998). Therefore, resolving this issue involves
aligning the risk preferences of risk-averse executives with those of risk-neutral shareholders
(e.g., Bloom & Milkovich 1998; Coffee 1988; Hall & Murphy, 2002; Holmstrom, 1979).
It is important to note that Holmstroms (1979) very rigorous treatment of the incentive
alignment issue concluded rather definitively that complete risk preference alignment
between managers and shareholders can never be achieved, because no amount of incentives
would make executives risk-neutral with respect to their employers. However, incentives can
reduce the extent of risk preference misalignment, and that reduction has been the focus of
most incentive alignment research. Scholars have generally tested the ability of incentive pay
to improve risk preference alignment by examining the extent to which incentives increase
executives risk taking. For example, Datta, Iskander-Datta, and Raman (2001) examined the
influence of CEO stock option compensation on acquisition behavior. They found that option
pay (measured as the ratio of the Black-Scholes value of options granted in the year before
the acquisition to total compensation), was negatively associated with acquisition premiums.
They further found that option pay positively influenced the acquisition of high-growth tar-
gets and was associated with greater post-acquisition firm risk. They concluded that stock
option pay improves risk preference alignment by encouraging CEOs to undertake riskier
investments. Relatedly, Rajgopal and Shevlin (2002) examined the relationship between
stock options and risk taking in oil and gas firms. Specifically, they tested whether stock
options encouraged CEO risk taking, measured as the coefficient of variation in expected
future cash flows from exploration. They concluded that stock options increased exploration,
which is viewed as riskier than exploitation.
Desai and Dharmapala (2006) investigated whether incentive levels (the proportion of the
Black-Scholes value of options granted during the year to the sum of salary, bonus and stock
option value) and governance affected tax sheltering. Tax sheltering strategies are generally
proshareholder, however, the authors demonstrated that stock option grants negatively influ-
enced tax sheltering, except in well-governed firms. Because tax avoidance allows executives to
opportunistically divert firm rents to themselves, the authors suggested that executives pass up
tax sheltering opportunities to protect themselves from being tainted by diversion. They con-
cluded that executives consider both firm and personal risks when making strategic decisions
and, thus, unless firms are well-governed, stock option pay does not align risk preferences.
Contextual influences. Carpenter (2000) developed a mathematical model of the relation-

ship between stock option compensation and managerial risk taking. Focusing on the effect
of extremely out-of-the-money (OOTM) options, Carpenter proposed that options exhibit
some nonintuitive effects on risk. The results of her model suggested that although options
that are extremely OOTM can motivate excessive executive risk taking, options deep in the
money (offering high potential value) exacerbate executive risk aversion and lead to
decreases in risk taking. Similarly, another mathematical model produced by Dow and
Raposo (2005) discussed the idea that performance-related compensation creates incentives
for executives to seek overly ambitious, difficult-to-implement strategies. They suggested
that in dynamic contexts shareholders can curb this tendency by committing up front to very
high CEO compensation through ex ante contracting, or, conversely, by committing to
never paying the high compensation such dramatic change requires. Through yet another
theoretical model, Cadenillas, Cvitanic, and Zapatero (2004) considered the effects of incen-
tive pay on firm leverage decisions. Their model suggests that although CEOs control their
own effort and overall project volatility, shareholders control CEO compensation and firm
leverage. Through this model they showed that more highly levered stock encourages good
managers to take greater risks because they can use their higher abilities to correct for neg-
ative outcomes. In contrast, low ability managers with highly levered stock will shun risk
because they lack confidence in their abilities.
Examining risk in a different way, Knopf, Nam, and Thorton (2002) suggested that
because the payoff structure of stock options is convex in relation to firm stock price (value
increases with firm volatility), options should mitigate executive risk aversion (hedging
behavior). However, they noted an alternative argument suggesting that the sensitivity of an
option portfolio to stock price positively influences executives risk bearing and, thus, convex
payoff structures induce risk-averse behavior. Testing these competing views they found that
executive risk bearing increased risk aversion, in that sensitivity of stock and options to stock
prices was positively related to firm hedging. Taking a different view, Schrand and Unal
(1998) argued that hedging is a risk-allocation rather than risk-reducing strategy. Testing a
theory of coordinated risk management, they found that core-business risk (credit risk) earned
positive net present value (NPV), whereas homogenous risk (interest rate risk) exhibited a null
NPV effect. They further noted that because firms may not be able to unbundle these two
risks, a more logical way to manage homogenous risk may be to hedge, even in risk-seeking
firms. Their evidence further showed that after thrifts converted from mutual charters to stock
charters, they assumed more risk, and that risk involved more credit risk and less interest rate
risk. They also found evidence that managers who purchased above the median number of
shares at conversion reduced total return volatility after conversion. Conversely, managers
who were granted options at conversion increased total return volatility.
Wiseman and Gomez-Mejia (1998) integrated agency and behavioral decision theories to
re-examine the construct of compensation risk and its influences on executive behavior with
their behavioral agency model (BAM) of managerial risk taking. Although a complete
review exceeds our space limitations, in general, the BAM challenges agency theorys sim-
plistic depictions of risk by suggesting that certain decision situations (e.g., monitoring,
problem framing, and performance) differentially influence executive risk taking. In the
BAM, rather than assuming consistent risk aversion, executives are perceived to be loss
averse, such that their desire to minimize losses exceeds their desire to maximize gains (cf.,
Kahnemen & Tversky, 1979). Following this logic, under the assumption of loss aversion,
executive risk behavior is context- (situation-) dependent, such that negative contexts moti-
vate risk taking and positive contexts motivate risk aversion (Kahnemen & Tversky, 1979).
Although compensation researchers commonly view restricted stock, stock options, stock
ownership, and long-term performance plans as substitutable incentives with similar risk
properties, and therefore often group them into a single measure of pay (i.e., pay mix), the
BAM implies that the individual elements of compensation (e.g., salary, stock options) are
likely to have different implications for risk taking. Building on this argument, recent work
reveals that because different pay elements have different risk properties, each element can
exhibit a unique influence on executive behavior. In light of the popularity of restructuring
executive pay packages, a deeper theoretical and empirical understanding of how different
pay forms motivate behavior, individually and collectively, is essential. We review recent
work in this area below.
Stock options. The theory underlying the use of stock option compensation derives from
the financial and economic assertion that stock options offer upside potential, but limit
downside risk (e.g., Sharpe, 1970). Specifically, building on the fundamental assumption of
a positive relationship between risk and return, increased stock price volatility will increase
stock option value (Black & Scholes, 1973; Sharpe, 1970). Therefore, stock option pay
should discourage executive risk aversion. Supporting this view, Sanders (2001) found that
CEO stock ownership (equity) and stock options had different effects on CEOs strategic
decisions (increases in acquisitions and divestitures). More specifically, he argued that
because they contain limited downside risk, stock options should positively influence risk
taking and stock ownership should negatively influence risk taking. Results supported his
prediction; thus, he concluded that stock options lower CEOs perceptions of downside risk.
Nevertheless, other scholars have offered empirical evidence that stock options do not
always lead to behavior that consistently conforms to rational financialeconomic predictions.
For example, Bettis, Bizjak, and Lemmon (2005) found that stock price volatility increased
early option exercise (e.g., exercise prior to expiration), indicating risk aversion. Furthermore,
Heath, Huddart, and Lang (1999) demonstrated that early option exercise was positively asso-
ciated with stock price appreciation, behavior that is not predicted in normative option valua-
tion models (e.g., Black-Scholes).1 In response, scholars have suggested that these results arise
because risk aversion leads executives to either under- or overvalue options relative to norma-
tive model values (Bettis et al., 2005; Hall & Murphy, 2002). Alternatively, others have argued
that stock option valuation is too complex to have much effect on executive behavior with
respect to the timing of exercise (Bergman & Jenter, 2005).
Offering an alternative perspective, Devers, Wiseman, and Holmes (2007) argued that
owing to an endowment effect,2 executives valuations of awarded stock options are likely to
surpass subjective valuations of options not yet awarded. They further argued that because
executives are loss and not risk averse, they would assign a premium to stock price volatil-
ity when stock prices are declining, but discount volatility when stock prices are increasing.
Results demonstrated broad support for these predications. Although the majority of com-
pensation research values stock options using normative financial option models, the theory
and evidence put forth by Devers et al. (2007) highlight that there are agency costs associ-
ated with stock options that reduce their efficiency as incentive alignment mechanisms.
Furthermore, this research challenges the viability of empirical approaches that use norma-
tive models to place values on stock options. As we noted earlier, the assumption of risk neu-
trality, essential for most of these models, is clearly not viable for most executives.
Building on the BAM, Devers and colleagues (in press) argued that CEOs perceive the
risk properties of unexercisable and exercisable stock options differently. Specifically, they
predicted a linear relationship between the accumulated value of unexercisable options and
strategic risk. However, they argued that when stock options are in the money, exercisable,
and exhibit significant spread value (i.e., the difference between current share price and
option exercise price), CEOs endow their personal wealth with a portion of this value.
Extending the concepts of endowment, loss aversion, and diminishing sensitivity
(Kahneman & Tversky 1979), they further argued that when exercisable options exhibit high
spread value, CEOs will reduce strategic risk investments to mitigate downside compensa-
tion risk. Results confirmed these arguments.
In a further extension of the BAM (Wiseman & Gomez-Mejia, 1998), Larraza-Kintana
et al. (in press) examined the effects of employment risk, variability in cash-based pay,
downside compensation risk, and stock option value on CEO risk taking. Drawing on
prospect theory, they proposed that employment risk and variability in cash-based pay cre-
ate potential loss situations, which positively influence strategic risk taking. Conversely, the
ratio of downside risk to cash-based pay and the value of in-the-money stock options create
potential gain contexts, which negatively influence strategic risk taking. Using survey data
collected from IPO firm CEOs, they found broad support for these predictions.
Efforts to restructure executive compensation have led to calls to replace stock option
grants with restricted stock grants3 (Bebchuk & Fried, 2004). Indeed, a popular belief has
emerged suggesting that restricted stock is a more effective interest alignment mechanism
than stock options (Bebchuk & Fried, 2004). However, recent work appears to indicate that
restricted stock might exacerbate executive risk bearing. For example, Parrino, Poteshman,
and Weisbach recently noted that unlike stock options, restricted shares force managers to
bear both upside and downside risk (2005, p. 30). Indeed, Hall and Murphy (2002) found
that executives place a higher value on restricted stock than they do on stock options.
Furthermore, finding that high-growth firms are more likely to reward executives with stock
options than restricted stock, Bryan, Hwang, and Lilien conclude that although stock options
are efficient incentives, restricted stock likely exacerbates the CEOs unwillingness to take
risky, yet positive net present value projects (2000, p. 689). In support, Devers et al. (in
press) provided empirical evidence that the accumulated value of restricted stock held by
CEOs led to lower strategic risk investments. Because restricted stock carries significant
value on award, they concluded that CEOs endowed their perceptions of personal wealth
with the restricted stock value, which created downside risk that exacerbated risk aversion.
Summary of research on pay and actions. As stated above, earlier executive compensa-
tion research focused primary attention on the relationships between pay and performance.
However, more recently scholars have turned attention toward more proximal relationships.
Specifically, as the work reviewed above shows, much of this attention focuses on the rela-
tionship between pay and executive actions. The results of this work suggest that pay does
influence executive action, but not necessarily in the simplistic manner prescribed by the
principal-agent framework. For example, although some scholars examining goal alignment
reported evidence that performance-based pay appeared to more closely align executives
and shareholders interests, many more demonstrated the opposite. In fact, as earlier men-
tioned and consistent with anecdotal evidence, studies examining several executive behav-
iors, including option backdating, earnings manipulation, and dividend policy, suggest that
goal misalignment is perhaps the most predictable outcome of incentive pay.
Although the majority of studies in this section focused on goal alignment, some have
examined the efficacy of incentive pay in aligning the risk preferences of executives and share-
holders. Similar to goal alignment, the results of these studies are also mixed. For example,
whereas the results of some studies show that incentive pay, specifically stock options, leads to
greater risk taking, others report the opposite effect. Although on the surface these mixed find-
ings are difficult to explain, a closer look reveals that the way scholars operationalize variables
has likely influenced the conclusions of these studies. For example, Carpenter (2000) sug-
gested that although stock options that are extremely underwater may lead to excessive risk
taking, options that are deep in the money should lead to risk aversion. Devers et al. (in press)
added empirical support for this notion by demonstrating that in-the-money exercisable options
exhibit significant accumulated value, and that value constrains CEO risk taking. Furthermore,
researchers have begun to demonstrate that individual elements of pay (e.g., stock options,
restricted stock) impact executives risk preferences differently (Devers et al., in press).
Collectively, the studies reviewed here suggest that the individual elements of incentive pay
and changes in the accumulated value and vesting status of stock options can exhibit different
influences on executive risk preferences and actions. Thus, this work reveals that the unique
elements of executive pay exhibit more complex influences than commonly understood and
lend credence to recent criticisms that simplistic conceptualizations of executive risk prefer-
ences and individual pay elements are incomplete. Nevertheless, the majority of compensation
scholars continue to aggregate the individual incentive elements of CEO pay packages into a
single measure (i.e., pay mix) and/or operationalize the value of stock options with normative
models such as the Black-Scholes pricing formula, which derive static theoretical option val-
ues on the day of award. Accordingly, we argue that scholars should move away from coarse
conceptualizations, such as pay mix, which may exacerbate measurement problems and recog-
nize the possibility that executives perceive and respond differently to individual compensation
elements. We also suggest that scholars begin to consider the dynamic nature of these compen-
sation elements by accounting for factors such as fluctuations in accumulated value and vest-
ing status in their compensation models.
The Influence of Executive Actions and Other Factors on Pay
Although examinations of the effects of pay on behavior outpace work in all other areas,
scholars have also investigated behavioral influences on executive pay. However, this work
is extremely disparate. For example, Bernardo, Cai, and Luo (2001) developed an economic
model to disentangle whether the executive behaviors required by specific jobs determined
pay structure or whether pay structure determined executive behaviors. They concluded that
managers likely receive greater performance-based pay because they manage higher quality
projects rather than performance-based pay causing higher quality projects.
Bliss and Rosen (2001) examined pay related to acquisitions. They found that CEOs in
high-merger banks were rewarded for profitability (ROA), whereas CEOs in low-merger
banks were rewarded for growth. More interestingly, they found that although reductions in
stock price owing to bank acquisitions decreased the performance-related compensation of
acquiring banks CEOs, these losses were offset by the increased compensation that accom-
panied firm growth. Additionally, they documented a positive relationship between ROA and
both cash and total compensation and that growth through acquisitions increased CEO pay
significantly more than organic growth. Grinstein and Hribar (2004) recently confirmed this
pay-for-growth relationship, but further demonstrated that although CEOs in their sample
received bonuses from acquisitions, these bonuses were an increasing function of CEO
power, deal size, and effort. Barkema and Pennings (1998) also demonstrated the effect of
power on pay. Using a sample of Dutch executives they found that covert power (CEO tenure
and founder status) magnified the effect of overt power (the fractions of CEO and family
shareholdings) on compensation. These effects were most pronounced for CEO bonus size.
In addition to power, incentive pay is also affected by executive rank, wealth, and star
power. For example, Barron and Waddell (2003) found that the compensation of executives
has become more incentive-based over time. They further found that incentive pay became
more equity-based as executives moved to higher positions within the same firms; however,
the proportion of equity-based pay consisting of stock options decreased for the highest level
executives. Furthermore, Becker (2006) examined the effect of wealth on risk aversion. He
found a positive association between CEO wealth and the strength of CEO incentive pay
(stock and stock option holdings), indicating that wealthy CEOs were more likely to accept
riskier pay packages. In another recent study, Wade, Porac, Pollock, and Graffin (2006)
examined the effect of CEO star certification (CEO of the year award recipients) on perfor-
mance and CEO pay. Their results showed positive abnormal stock returns immediately fol-
lowing the award; however these effects soon faded and quickly became negative. Their
findings also indicated that star certification exhibited a positive influence on recipients pay,
in excess of that associated with performance differences. They further found that star certi-
fication positively impacted pay when ROE remained positive; however, when ROE turned
negative, star CEOs received less total pay for equivalent performance than those who had
never been star certified.
Lastly, Coombs and Gilley (2005) found that stakeholder-related initiatives appear to
threaten CEO wealth. Their results demonstrated that stakeholder management was nega-
tively related to CEO salaries and, generally, unrelated to other compensation measures.
They also found that stakeholder management negatively moderated the positive relationship
between performance (market and accounting) and compensation.
Contextual influences. Some scholars have responded to Gomez-Mejia and Wisemans

(1997) call for a focus on contextual factors in compensation design. For example,
Finkelstein and Boyd (1998) examined the effect of managerial discretion on CEO pay.
Their results indicated a positive relationship between managerial discretion and CEO com-
pensation. They further argued and found that this relationship is moderated by firm perfor-
mance, such that the relationship between discretion and pay is stronger when performance
is high. In addition, Balkin, Markman, and Gomez-Mejia (2000) extended the resource-
based view (RBV) to argue that innovation will influence both long- and short-term CEO
compensation in high-technology firms. Specifically, they argued that in environments char-
acterized by high uncertainty and high discretion, because innovation is more easily con-
trolled by principals, CEOs will be rewarded more for innovation (e.g., research and
development [R&D] and patents) than for firm performance. Their results confirmed this
proposition. Furthermore, they found no link between pay and ROA. Finally, Miller,
Wiseman, and Gomez-Mejia (2002) examined the effects of market (systematic) and firm-
specific (unsystematic) risk on CEO compensation. They argued that because contingent
compensation becomes less efficient as uncertainty increases, the instrumentality of contin-
gent compensation is highest at moderate levels of risk. In support of this argument, their
evidence indicated a curvilinear relationship (inverted U) between firm-specific risk and
contingent pay, but no relationship between market risk and contingent pay.
Governance influences. Scholars have also examined the effects of governance-related

factors on executive pay. Although this limited evidence suggests that governance does
impact pay, its specific impact remains unclear. For example, Daily, Johnson, Ellstrand, and
Dalton (1998) found no support for the proposition that board compensation committee
composition influences CEO pay levels or the use of performance-contingent pay. However,
in a recent meta-analysis, Deutsch (2005) found that the proportion of outside directors was
generally negatively associated with the use of CEO performance contingent pay.
Examining the monitoring ability of boards, Wright, Kroll, and Elenkov (2002) showed
that, whereas postacquisition firm size drives CEO compensation in firms with lax monitor-
ing, acquisition performance drives CEO compensation in vigilantly monitored firms.
Viewing monitoring in a more fine-grained way, David, Kochhar, and Levitas (1998) catego-
rized institutional investors into pressure-sensitive (e.g., banks, insurance companies, non-
bank trusts) and pressure-resistant (e.g., public pension funds, mutual funds, endowments,
and foundations) groups. They predicted that pressure-resistant institutional investor ownership
would be negatively associated with CEO pay levels and positively associated with the use
of performance-contingent pay. Although they found support for their prediction about the
level of CEO pay, they found no support for the prediction about performance-contingent
pay. Last, combining these perspectives, Core, Holthausen, and Larcker (1999) concluded
that CEOs earn more under weak governance structures. Specifically, they found that CEO
pay decreased with the percentage of inside directors, but increased with board size, the per-
centage of outside directors appointed by the CEO, the percentage of gray outside directors
(if they or their employer received payments from the firm in excess of director pay), the per-
centage of outside directors over age 69, the percentage of outside directors who serve on
three or more boards, and CEO duality. They also found that CEO pay decreased with CEO
ownership stake and when a non-CEO internal board member or external blockholder owned
at least 5% of the firm.
Finally, in a cross-sectional study, Geletkanycz, Boyd, and Finkelstein (2001) investi-
gated whether outside director service on other boards impacted CEO compensation. They
argued that because social capital is less a source of power than a source of valuable inputs
to the firm, when CEOs external ties are valuable to firms, that value will be reflected in
their pay. Results provided weak support for the hypothesis that CEO external directorate
networks were positively associated with CEO pay; however, they found strong support for
the prediction that diversification strengthened this association.
Human capital and social influences. Arguing for a different perspective on TMT pay,
Combs and Skill (2003) contrasted managerialist and human capital perspectives on executive
pay premiums. Managerialist theory suggests that high pay is a function of entrenchment,
whereas human capital theory suggests that pay is driven by unique abilities and skills. Combs
and Skill suggested that although managerialist theory predicts that the sudden death of a highly
paid executive would result in a positive shareholder response, human capital theory predicts the
opposite. They used a contingency perspective to develop and test two hypotheses: (1) as an
executives power increases, pay premiums will positively affect shareholders response to a key
executives sudden death and (2) as governance strength increases, pay premiums will nega-
tively affect shareholder response to a key executives sudden death. Using data from 77 sudden
executive deaths, and measuring performance with a 2-day cumulative abnormal return (CAR),
they found weak support for the first hypothesis and strong support for the second.
In a more complex approach, Carpenter, Sanders, and Gregersen (2001) suggested that
because human capital is intangible and socially complex it provides higher benefits when
bundled with complementary resources. They combined RBV and dynamic capabilities per-
spectives to examine the implications of CEOs international experience (defined as a mini-
mum of 1 year abroad) on CEO pay. Using data from MNCs operating in at least three
foreign countries, they found no association between international experience and CEO pay.
However, the interaction between CEO international experience and the breadth of the firms
global strategic posture exhibited a strong effect, such that CEOs in firms with broad global
strategic postures were paid more when they had international experience.
More recently, Carpenter and Wade (2002) examined how human capital and opportunity
structures of non-CEO executives influenced their compensation. They proposed positive
associations between executives cash compensation and whether executives functional

positions were (a) associated with those functions that received greater resource allocations
in their firms, (b) similar to the CEOs, and (c) integral to the firms management of strate-
gic resource allocations. They used a 5-year panel data set that combined survey and archival
data on the four highest levels of senior executives in large U.S. firms, and reported broad
support for their predictions. However, taking a different perspective, Fiss (2006) proposed
that differences, rather than similarities, in human capital influence the relationship between
CEOs and boards of directors and, in turn, CEO pay. Data from large public firms in
Germany supported his thesis.
Finally, drawing on social comparison theory, Ezzamel and Watson (1998) argued that com-
pensation committees resolve situations in which CEOs are under- or overpaid relative to the
labor market. Their results indicated that both under- and overpayment anomalies have impor-
tant influences on CEO pay and that such comparisons contribute to an upward pay bias.
In sum, and not surprisingly, this work indicates that firm growth, executive power, and
rank each affect executive pay. However, of specific interest is the evidence that growth
through acquisition may increase managers compensation, irrespective of acquisition per-
formance. This raises the question of whether a pay-for-growth strategy renders acquisition
investments more attractive to executives than objective assessments of acquisition perfor-
mance would indicate, and provides a fertile avenue for future research.
Also interesting are the findings that contextual, human capital, and social influences
have important influences on executive pay. We believe that taken together, these results
indicate the value in recognizing that pay is not simply a function of size, but can be affected
by factors both endogenous and exogenous to the firm and we encourage research that con-
tinues to explore the influences of executive-specific characteristics, market forces, and
social comparisons on executive pay.
Last, the number of high-profile corporate scandals coupled with the passage of the
Sarbanes-Oxley Act (SOX) has led an increasing number scholars and practitioners to argue
for corporate board reform. However, the work reviewed here is somewhat equivocal regard-
ing the effects of board composition on executive pay. Accordingly, we believe there is a
need for research that more thoroughly examines how different board configurations and
various governance contexts and situations influence executive pay. We also believe that
there is a need for research that fully investigates the costs of broad remedies to agency prob-
lems, such as those provided by SOX. Executives are clearly self-interestedwe need no
further evidence of that. Still, reductions in the costs of self-interested behavior should out-
weigh the costs of the measures that bring about those reductions. It is not clear that SOX
provides a cost-effective remedy.
Cross-Area Studies
Although our review found that the majority of compensation research falls into one of
the four categories examined here, some scholars have attempted to integrate across cate-
gories. For example, Bloom and Milkovich (1998) explored the influence of business con-
text on the relationships between incentive pay, risk taking, and firm performance. Results
indicated that firm risk was negatively related to incentive pay and positively related to base
pay. Additionally, incentives were negatively related to performance in high-risk firms. They
concluded that when business risk is too high, incentive pay is not appropriate and may push
managers to lower risk.
Guay examined how firms financing and investment decisions are affected by the convex-
ity of the paywealth relationship (the change in the value of CEOs stock option and stock
holdings for a given change in stock-return volatility) or the sensitivity of managers wealth
to the volatility of equity value. (1999, p. 44). He found that although the convexity provided
by stock options was high, the convexity of stock was quite low. He further demonstrated that,
cross-sectionally, when controlling for the slope of the wealth-to-performance relation, this
sensitivity was positively related to firms investment opportunities. Specifically, opposite to
Bloom and Milkovichs (1998) findings, CEOs appeared to be more willing to invest in risk-
increasing projects as convexity in the relation between wealth and stock price increased.
Similarly, Coles, Daniel, and Naveen (2006) also found that CEOs with higher sensitivity
of wealth to stock volatility implemented riskier investment and debt policy decisions. They
further concluded that riskier investments generally led to pay structures with higher stock
volatility sensitivity and lower payperformance sensitivity and that stock-return volatility
had positive effects on both sensitivity of wealth to stock volatility and payperformance
sensitivity.
Anderson, Banker, and Ravindran (2000) examined the simultaneous relationships
between performance and pay and pay and performance using data on information technol-
ogy executives. Using a system of simultaneous equations, they concluded that the ratio of
cash bonus and stock option pay to total compensation increased with stock returns. They
further demonstrated that level of pay, and the degree to which stock options and cash
bonuses were used, positively influenced stock returns.
In a unique study, Hayes and Schaefer (1999) suggested that more information regarding
future performance is contained in compensation when executives are rewarded for unob-
servable performance indicators. Thus, they proposed that if executive compensation is
based on externally unobservable indicators that positively correlate with future perfor-
mance, then variation in current compensation that is unexplained by observable measures
should predict future variation in observable performance. Findings demonstrated that unex-
plained pay predicts future performance and, further, that this relationship was stronger
when observable performance indicators provided less information (were more volatile). The
authors concluded that boards collect and use unobservable information, thus, they do fill an
important governance role.
More recently, Makri, Lane, and Gomez-Mejia (2006) examined the relationship between
CEO incentives, innovation, and firm performance in technology-intensive firms. They
showed that as technological intensity increased, CEO bonuses became more closely tied to
financial measures and CEOs total incentives were more associated with innovation behav-
ior (invention resonance and science harvesting). They further found that as technological
intensity increased, aligning bonuses with financial results and aligning total incentives with
measures of innovation activities predicted firm performance (market-to-book value). Thus,
technology-intensive firms appear to utilize both outcome- and behavioral-based incentives.
Datta et al. (2001) showed that stock option grants were positively related to 2-day CARs
surrounding acquisitions. They further found that acquiring firms that granted the TMT high
levels of stock option compensation relative to total compensation in the previous year paid
lower acquisition premiums, were more likely to invest in high growth targets, and invested
in riskier acquisitions. Furthermore, although Devers, Holcomb, Holmes, and Cannella
(2006) similarly found that TMT incentive pay increased acquisition behavior (risk), they
also found that the level of dispersion in TMT incentives attenuated this effect. Also, con-
trary to agency theory assumptions, their findings showed that risk behavior had a negative
effect on shareholder returns. Taking the opposite approach, Tuschke and Sanders (2003)
examined divestitures following the voluntary adoption of stock-based incentive plans in
German public firms. They predicted that the adoption of stock-based incentive plans would
positively influence divestitures and that, in turn, divestitures would mediate the positive
association between such incentives and subsequent performance. They found support for
their predictions; however, the mediation effect was weak.
In a different vein, Bitler, Moskowitz, and Vissing-Jorgensen (2005) explored the linkages
between equity pay, effort, and performance. Examining data from entrepreneurs who both
founded and retained an ownership stake in their firms, they found evidence that managerial
equity ownership was positively related to managerial effort. In turn, they found that effort
was positively related to firm performance. Additionally, they found that the personal wealth
of entrepreneurs predicted the extent to which equity dominated CEO compensation.
Finally, examining the importance of pay fairness, Wade et al. (2006) found that CEO
over- or underpayment cascades downward through managerial ranks. They also found that
powerful CEOs appeared to use their power to increase both their salaries and the salaries of
their subordinates. Last, the authors showed that when managers were underpaid relative to
their own CEOs they were more likely to leave their firms. Consequently, the fairness of
CEO pay setting and the sorting effect hold important implications for executive pay.
In sum, although these studies attempt to integrate across our four categories, the substan-
tial differences across categories make their results difficult to compare or synthesize. We
discuss this and other methodological and conceptual issues below.
Methodological Issues and Future Directions
Our review suggests that although research is concurrently occurring within the four cat-
egories we identified, these categories remain almost completely disconnected. As a result,
we found a strong bias toward independence across and within the relationships under study
and the disciplines drawn on. With the exception of the few studies examined above, we
found scant attention focusing on integrating research findings across categories. Even less
work has attempted to integrate findings within categories. As discussed earlier, Gomez-
Mejia and Wiseman (1997) argued that many of the problems they noted in executive com-
pensation research had resulted from a narrow focus that failed to incorporate other
theoretical perspectives and methodologies. In contrast, we found recent work so expansive
in its approaches that our ability to draw meaningful conclusions was severely limited.
Our review also reveals that the majority of executive compensation research emanates
from the management and finance areas. However, although scholars in these disciplines
study similar constructs and relationships, they do so from very different perspectives (Lane,
Cannella, & Lubatkin, 1999). For example, developing, extending, and testing theoretical
logic is fundamental to management research. On the other hand, empirical regularity, rigor,
and sensitivity analyses are principal to finance research. Given these extremes, it is not sur-
prising that cross-discipline integration is rare. Nevertheless, we believe common ground
exists in which these (and other) disciplines can inform one another. It is clear that there is
still much to be learned about executive compensation, thus, we believe that cross-discipline
integration holds the potential to significantly advance compensation research and practice.
Accordingly, we encourage compensation scholars to recognize and incorporate the contri-
butions and insights from other disciplines in their work.
Furthermore, and perhaps more troubling, our review revealed that compensation research
broadly suffers from a number of conceptual and methodological issues. For example, we
found little consistency in the operationalization of many important constructs of interest.
Particularly troubling was the use of ambiguous or inconsistent measures of firm performance,
compensation, and risk (both action risk and perceptual risk). We also found the selection cri-
teria for sample frames, time lags, covariates, and statistical methodologies to be wide ranging.
We believe that the broad, disconnected nature of the field, coupled with the conceptual and
methodological heterogeneity noted above, continues to constrain the advancement of execu-
tive compensation research. Nevertheless, it also presents a mixed blessing. Specifically, many
questions remain unanswered, limiting our understanding of the determinants and conse-
quences of executive compensation. At the same time, the many unanswered questions offer
compensation scholars extremely fertile research opportunities. In this last section we evaluate
some of those opportunities and offer directions for advancing compensation research.
Performance
Given that firm performance is not only a function of managerial decisions but also fac-
tors outside managers control, Gomez-Mejia and Wiseman (1997) questioned the use of
firm performance as an indicator of interest alignment effectiveness. They further lamented
that although Tosi and Gomez-Mejia (1989) argued for a moratorium on archival-based
research testing the link between executive pay and firm performance, scholars had widely
ignored that advice. Unfortunately, a decade later, we arrive at a similar conclusion. For
example, agency-theoretic arguments strongly support the conclusion that shareholder
wealth maximization (e.g., market-based performance) should be the definitive criterion
for compensation research. However, our review shows that researchers commonly select
one or more performance measures from a variety of available alternatives, be they market-
or accounting-based measures. We further found that within these coarse-grained categories,
scholars operationalized performance in a variety of ways, including, but not limited to,
ROA, ROE, market-to-book, buy-and-hold returns, shareholder returns, or short-term CARs.
Furthermore, other scholars used the variation (volatility), or year-over-year changes in these
measures to operationalize performance.
Generally, scholars have argued that accounting-based measures are directly influenced
by executives actions, through changes in debt structure, inventory management procedures,
and accounting procedures (Murphy, 2000). However, market-based measures are noisy and
more difficult for executives to directly influence (Wiseman & Gomez-Mejia, 1998; Murphy,
1999). For example, Murphy (2000) recently found that firms tying executive pay to
accounting-based performance measures were more likely to show evidence of income
smoothing than those tying pay to market-based measures, supporting the view that execu-
tives can exert more influence over accounting-based measures of performance. Nevertheless,
many scholars consider accounting-based measures and market-based measures as
isomorphic.
Although it is logically appealing to expect positive accounting-based performance to
increase investors firm valuations, and thus market performance, we note that accounting-
based measures reflect current (and recent past) performance, whereas market-based mea-
sures reflect investors perceptions of future value. Thus, anticipated earnings are typically
factored in to market valuations. As a result, when earnings are announced, investors may
expect regression to the mean, such that when earnings are high, investors anticipate down-
turns, and vice versa, and, thus, value firms accordingly (Keats & Hitt, 1988). Indeed, evi-
dence on the relationship between earnings and market returns has been mixed (for recent
examples see Wade et al., 2006; Core & Larcker, 2002; Morgan & Poulsen, 2001). To this
end, we encourage work that more comprehensively develops and tests theory to guide
researchers selection of performance measures appropriate for their research questions.
Risk and Risk Perceptions
The risk preference alignment argument suggests that alignment is achieved by motivating
executive risk neutralitya focus on the expected value of choices, irrespective of their risk
(Milgrom & Roberts, 1992). However, we surmise that because risk neutrality is difficult to
operationalize (much less achieve in a corporate setting), the risk-preference alignment argu-
ment is commonly interpreted as suggesting that incentives must be structured to promote
executive risk taking (Datta et al., 2001; Tosi, Katz, & Gomez-Mejia, 1997). However,
although risk taking holds a prominent place in compensation research, it is commonly con-
ceptualized in very simplistic and often conflicting ways (Palmer & Wiseman, 1999). For
example, because a link is presumed to exist between managers risk-taking behavior and their
organizations risk profiles, we found that researchers often used organizational-level risk mea-
sures (e.g., volatility) as proxies for managerial risk taking. Nevertheless, scholars have cau-
tioned that these measures might not actually reflect executives perceptions of risk
(McNamara & Bromiley, 1999; Ruefli, Collins, & Lacugna, 1999). In support, Palmer and
Wiseman (1999) found that managerial risk and organizational risk are distinct constructs and
argued that considering both constructs can help increase the explanatory power of extant man-
agerial risk models. However, our review indicates little progress in this area.
We further found that because obtaining primary data from executives is difficult,
researchers most often turn to complicated theoretical and mathematical models that are
incapable of accounting for human perceptions and biases (Hall & Murphy, 2002) or
ambiguous proxies to impute executive risk preferences. Thus, using archival data to deter-
mine whether certain compensation structures lead to risk-increasing or risk-reducing
actions is perhaps more guesswork than science. Accordingly, the influence of executive
compensation on risk taking remains an open question. In response, we suggest that com-
pensation researchers would benefit by shifting at least some attention away from the exclu-
sive reliance on secondary data, and toward primary data capable of specifically capturing
executives perceptions of both compensation and risk. Although we note the difficulties
inherent in collecting this type of data, we believe that it could play an essential role in
advancing the state of compensation research.
Other Methodological Issues
Although space limitations prevent a more complete evaluation of methodological issues,

we feel compelled to briefly summarize some that we believe are more central to the advance
of compensation research. First, the role of time presents an important methodological con-
cern. For example, our review indicates that time may exhibit a confounding influence on
research findings. Specifically, Hall and Liebman (1998) suggested that their sample time-
frame may have contributed to the differences between their payperformance sensitivity
results and those reported by Jensen and Murphy (1990) from an earlier time period.
Although several studies reviewed here included time lags for independent and dependent
variables, others examining the same relationships and variables did not. Indeed, although
some scholars examined pay in time t based on performance in time t (or vice versa) others
lagged variables anywhere from one to eight periods. Similarly, pay components are often
awarded at different times. For instance, although stock option grants are often unscheduled,
some are scheduled in advance. For this reason, options awarded in time t may have actually
been announced and mentally accounted for by executives in time t-1. A better understand-
ing of the role of time in compensation research appears important, yet we found little
acknowledgement of this issue.
Second, we found that samples and sample selection techniques differed considerably
across the studies we reviewed. Although we expect that samples and their selection meth-
ods affect the results of compensation models, again we found very little consistency in these
methods and virtually no theoretical discussion to guide these choices. Furthermore, we
found that compensation research is moving away from an emphasis on cross-sectional
research and toward longitudinal and dynamic panel research. Therefore, we also found
increasing complexity and wide variation in the statistical tools and analytical methods
researchers employed. More concerning were the differential influences these choices
seemed to have on results. Thus, although we applaud efforts to introduce more powerful and
complex statistical tools, we simultaneously question doing so in the absence of complete
theoretical and empirical understanding and validation. Indeed, the perpetuation of a multi-
tude of analytic tools that are not fully understood or justified, and their corresponding dis-
parate results, presents a slippery slope that we strongly caution against.
Finally, the variables included in compensation models clearly exhibit important influ-
ences on outcomes. Indeed, the different covariates, moderators, mediators, and controls used
by compensation researchers number so large that they warrant a review all their own.
Thus, although examining the role of other influences on the determinants and consequences
compensation is promising, we suggest more continuity would surely benefit the field.
Conclusion
Although our review guided our evaluation of these issues, we note that they are quite
consistent with others raised by compensation scholars in the past two decades (see Lubatkin
& Shrieves, 1986; Gomez-Mejia & Wiseman, 1997). Therefore, we suggest that the failure
to conceptually develop these factors and their roles in compensation research has likely con-
tributed to the mixed findings that pervade the field. As a result, we expect criticisms regard-
ing the efficacy of executive pay to achieve interest alignment to continue to plague
compensation research and design until scholars more rigorously consider these issues in
theoretical and empirical work. Accordingly, we challenge future compensation scholars to
develop more complete theoretical and empirical support and validation capable of guiding
researchers choice of performance measures, timeframes, samples, methods, and variables.
Appendix
Performance or
Executive Actions
Years Constructs &
Year Study Sample Studied Pay Measures Measures Key Findings
The influence of performance on pay

1999a Aggarwal & More than 1993-1996 Total pay (level and Percentage and dollar Increasing variation in the firm's
Samwick 1,100 chief change) and total returns to share- performance leads to decreas-
executive pay plus change in holders ing pay-performance sensitiv-
officers the market value of ity (PPS) median (mean) CEO
(CEOs) and equity and stock PPS was $14.52 ($69.41) per
more than option holdings $1,000 change in shareholder
3,900 other wealth.
executives
from Execu
Comp
1999b Aggarwal & 1,519 CEOs 1992-1995 Short-term, long-term, Dollar returns to Returns predict total pay; the
Samwick and 6,305 and total pay shareholders at ratio of own PPS to rival PPS
other beginning of period is lower in industries with
executives more competition. There was
from evidence of relative perfor-
ExecuComp mance evaluation in short-
term pay.
2003 Aggarwal & 13,109 1993-1997 Short-term, long-term, Returns to Position in the top management
Samwick executives and total pay plus shareholders team (TMT) and level of
from change in the value responsibility predict
ExecuComp of shares and stock incentive pay. The median
options held (mean) CEO PPS was $13.78
($41.22) per $1,000 change in
shareholder wealth.
(continued)
1043
1044
Appendix (continued)
Performance or
Executive Actions
Years Constructs &
1998 Baber, Kang, & CEOs of 713 1992-1993 Percentage changes in Raw stock returns Unexpected earnings and stock
Kumar firms from cash salary and (as a proxy for returns predict changes in
CompUSA bonus, cash bonus unexpected returns) cash and total pay. Earnings
alone, stock-based and unexpected persistence positively moder-
pay, and total pay earnings per share ates the earnings relationship
and negatively moderates the
returns relationship.
2003 Boschen, Duru, CEOs of 30 1959-1995 Cash and total pay Return on assets Unexpectedly good accounting
Gordon, & firms in (ROA) and annual performance provides a net
Smith existence rate of shareholder benefit to CEO pay of 0 over
from 1959 to return; Unexpected 10 years. Unexpectedly good
1995 performance based stock price performance pro-
on residuals of duces positive net benefits in
regression the short and long run.
1998 Conyon & Peck Highest paid 1991-1994 Cash pay Total shareholder Performance predicts pay, but
director of 94 return the coefficient is larger when
of the top 100 more nonexecutives are on the
publicly traded remuneration committee and
U.K. firms board.
1998 Hall & Liebman CEOs of 478 1980-1994 Total pay, changes in Firm returns CEO pay and wealth are related
large market value of to firm performance and the
corporations stock and stock relationship is stronger than pre-
options, and change viously found. CEO PPS has
in wealth been increasing over time
because of larger options grants.
2003 Hartzell & Executives of 1992-1997 Performance sensitivity Change in Change in shareholder wealth
Starks 1,914 firms of options granted, shareholder wealth predicts change in total pay.
from salary, change in and Tobin's Q Institutional ownership is
ExecuComp cash pay, and total positively related to PPS and
pay (level and negatively related to total pay.
change)
1999 Ke, Petroni, & 63 CEOs in 1994-1996 Cash pay (level ROA and change in There is no significant
Safieddine the property and change) ROA relationship between ROA
liability and pay for private insurers
insurance but there is a positive relation-
industry ship for public insurers.
The influence of performance on pay

1999 Kraft & Executive board 1987-1996 Average pay (salary) Return on equity ROE is related to pay, but the
Niederprum of 170 of the executive (ROE) and ROE PPS drops as profit variance
German firms board variance increases. There is a negative
relationship between owner-
ship concentration and
pay/PPS.
2006 Leone, Wu, & 2,751 CEOs 1992-2003 Changes in cash and Compounded Change in cash pay is positively
Zimmerman from equity-based pay monthly returns, related to returns and change
ExecuComp (option and change in ROA, in ROA (change in equity pay
restricted stock and a bad news is not). The relationship is
grants) indicator twice as strong for negative
stock returns as for positive
stock returns.
2000 Tosi, Werner, 137 articles Meta-Analysis Pay measure used in Absolute financial Forty percent of the variance in
Katz, & the source study performance levels; pay is explained by firm size,
Gomez-Meija changes in financial whereas less than 5% is
performance, ROE- explained by performance.
short term, and The correlation between pay
ROA and performance is 0.212.
(continued)
1045
Performance or
1046
Executive Actions
Years Constructs &
2006 Balachandran 147 residual 1986-1998 Plan adoption Change in delivered Residual income increases
income indicator residual income once it is included in the
adopting firms pay criteria.
with matched
pairs
1999 Bloom 1,644 Major 1985-1993 Player salaries used Individual level: Pay dispersion produces lower
League to create multiple three stats per organizational and individual
Baseball measures of player; team performance. The individual
players on dispersion and level: winning performance relationship is
29 teams pay rank percentage, gate moderated by the individual's
receipts, and pay rank.
financial
performance
2002 Carpenter & Executives of 1993-1995 Total pay and ratio of Average ROA Alignment of TMT pay is
Sanders 199 Standard long-term pay to positively correlated with
& Poors total performance. CEO pay
(S&P) 500 structure is related to firm
firms performance through TMT
pay structure.
2004 Carpenter & Executives of 1992-1993 Total pay, long-term Market-to-book value CEO pay does not predict MNC
Sanders 224 U.S. pay level and (controlled for prior performance, but TMT total
multinational structure value to capture the and long-term pay do.
corporations (long-term/total), change) The CEO-TMT pay gap is
(MNCs) from and CEO/TMT negatively related to MNC per-
the S&P 500 pay gap formance, and the degree of
internationalization is a moder-
ator of all the relationships.
2003 Certo, Daily, CEOs of 193 1996-1997 Indicator of options Percentage price CEO option pay is positively
Cannella, & initial public granted, value of premium related to IPO valuation &
Dalton offering (IPO) options granted. CEO equity ownership
firms and percentage positively moderates the
equity relationship.
The influence of pay on performance
2001 Conyon, Peck, 532 executive 1997-1998 Cash, incentive, and ROA and annual total Pay dispersion does not predict
& Sadler directors of total pay shareholder returns firm performance. The gap
100 of the between levels increases as
U.K.s largest the level increases and cash
public pay is higher when there are
companies more contestants.
2002 Core & Larcker Over 170 firms 1991-1997 Plan adoption ROA (2 years) and Target ownership programs lead
that adopted indicator and buy-and-hold to higher firm performance
mandatory increase in excess returns (ROA over 2 years and returns
stock ownership (immediate and 6, at 6 months) and greater man-
ownership (regression 12, and 24 months) agerial ownership.
programs residuals) compared to
matched control
firms
In press Graffin, Wade, 264 S&P 500 1992-1996 Total direct Total shareholder TMT pay levels and dispersion
Porac, & firms compensation return and ROE are affected by CEO status.
McNamee (TDC1 in
ExecuComp)
2003 Hanlon, Executives of 1992-2000 Value of stock options Ratio of annual One dollar of option grant value
Rajgopal, & 1,069 firms granted operating income to is associated with $3.71 of
Shevlin found in sales future operating income. The
ExecuComp relationship is concave.
2001 Henderson & Executives of 1985-1990 Cash, long-term, ROA, ROE, also The effects of the long-term pay
Fredrickson 129 firms in and total pay checked stock price gap on firm performance are
four industries dispersion- with similar results moderated by the nature of
difference between the coordination needs. There
CEO pay and is a positive relationship when
average TMT pay there are more vice presidents
and greater related
diversification and a negative
relationship when there are
more businesses and
higher-capital investments.
1047
(continued)
1048
Performance or
Executive Actions
Years Constructs &

2005 Hogan & Lewis 108 firms 1983-1996 Plan adoption Economic profit, Firms that possess characteris-
that adopted indicator operating income tics that make it likely they
economic before depreciation, would adopt EPP, and which
profit plans profit margin, ROA, then do adopt EPP, outper-
(EPP) and market-to-book form nonadopters who were
matched ratio, measures expected to adopt.
nonadopters of turnover, and
investment
decisions
2005 Kato, Lemmon, 344 Japanese 1997-2001 Plan adoption indica- Cumulative abnormal Adoption of option-based pay is
Luo, & firms that tor and fraction of returns (CARs) and associated with positive CARs
Schallheim adopted stock shares outstanding ROA (5-day window), increased
option plans ROA, and higher levels of
(562 managerial ownership.
adoptions)
2001 Morgan & S&P 500 firms 1992-1997 Plan recommendation CARs, buy-and-hold Firms that adopt pay for
Poulson that proposed indicator returns, performance plans demon-
a pay-for-per- earnings/assets, strate better pre- and post-
formance sales/assets, asset announcement performance.
plan (958 growth, and sales
proposals) growth
2002 Shaw, Gupta, & 379 trucking 1994-1995 Measures of pay Truckingaccidents, Pay dispersion predicts higher
Delery firms and 141 dispersion and out of service, and levels of performance in
concrete pipe a measure of driver performance; the presence of individual
firms individual incentives concrete pipe incentives and independent
for drivers labor hours, lost work and lower levels of
time accidents, performance when work is
and employee more interdependent and there
performance are no individual incentives.
2005 Siegel & Top 1991-1992 Short- and long-term 2-year average Pay disparity is negatively
Hambrick management pay and vertical, market-to-book related to performance in
groups horizontal, and and total high-tech firms.
(top three overall pay disparity shareholder returns
hierarchical adjusted for
levels) in 67 industry
firms performance
1998 Wallace 40 firms that Mainly Plan adoption Residual income and Residual income-based plans
adopted resid- 1988-1997 indicator shareholder wealth affect investment decisions
ual income and predict increases in
plans with residual income but not
matched pairs shareholder wealth.
The influence of pay on executive actions

2000 Aboody & 2,039 option 1992-1996 Pay contextfirms Earnings announce- CEOs of firms with scheduled
Kasnick awards from with regularly sched- ment date relative awards make voluntary
572 firms uled award dates; pay to option award disclosures of information
amountabnormal date to maximize the value of
returns their grants.
2001 Banker, Lee, 3,776 1987 Switch to incentive Selection by higher They predict and find evidence
Potter, & employees in pay performers/turnover to support the idea that perfor-
Srinivasan a large retailer by low performers mance improvements after
implementation of an incen-
tive pay plan come from
selection and increased effort.
(continued)
1049
Performance or
1050
Executive Actions
Years Constructs &

2004 Bebchuk & N/A N/A N/A N/A Shareholder outrage at the costs
Fried of pay gives boards incentive
to camouflage pay. Benefits
such as deferred pay tax bene-
fits, retirement pensions, post
retirement perks, and consult-
ing contracts are ways that
pay is hidden.
2005 Bergman & Large-, 1992-2003 Per employee option Employee sentiment Stock option valuation is too
Jenter mid-, and grantsnonexecutive option value complex for executives to
small-cap grants divided master.
firms by number of
employees
2006 Bergstresser & 4,000 large 1996 Proportion of incentive Earnings More incentivized CEOs lead
Philippon firms paydelta managementlevel firms with more earnings
of earnings restated management.
as a percentage of
assets
2005 Bettis, Bizjak, 141,120 option 1997-2002 Value of options at Timing and Found that stock price volatility
& Lemmon exercises at exercise, ratio of characteristics of increased early option
3,966 firms stock price to options exercised exercise (prior to expiration),
strike price when indicating risk aversion.
exercised
2000 Bryan, Hwang, 1,788 large-, 1992-1997 CEO stock options Investment in risky High-growth firms are more
& Lilien mid-, and and restricted stock positive net present likely to reward executives
small-cap value projects with stock options than
firms restricted stock. Although
stock options are efficient
incentives, restricted stock
increases CEO unwillingness
to take on risky, yet positive
value, projects.
Performance or
Executive Actions
Years Constructs &

2006 Burns & Kedia Firms from 1995-2001 Sensitivity of option Misreporting CEOs with option portfolios
large-, payoption change restatements that are more sensitive to
mid-, and given 1% change in changes in stock price are
small-cap stock price and more likely to misreport.
S&P options held There was no relationship
with other forms of pay.
2004 Cadenillas, Economic N/A Riskiness of stock Manager risk taking Levered stock incents good
Cvitanic, & modelno given in a pay managers to take greater risk
Zapatero data package; degree of because they know they can
leverage in stock use their higher ability to cor-
granted to managers rect a bad state through more
effort. Low-type managers
won't take the extra risk
because they are not confident
in their ability.
2004 Callaghan, Saly, 235 repricing 1992-1997 Value of options via The date of the They find that executives
& events changes in stock earnings announce earnings either
Subramaniam price at the date of announcement before or after option
repricing relative to the repricing to maximize their
repricing date own option value.
2000 Carpenter Economic N/A In-the-money status of Risk taking Option concavity can have non-
modelno options intuitive effects on risk.
data Extremely out-of-the-money
options can cause excessive
risk taking. Very valuable
options, or issuing more
options, can lead to decreased
risk.
1051
(continued)
Performance or
1052
Executive Actions
Years Constructs &

2004 Carter & Lynch Matched sample 1998 Pay policy Turnover There was little evidence that
measuredoes the repricing affects executive
firm reprice or not? turnover and some suggestion
that repricing helps prevent
turnover because of
underwater options.
2001 Chauvin & 783 grants 1991-1994 Options Abnormal returns There were negative abnormal
Shenoy given to measured as an returns prior to CEO stock
CEOs at 209 indicator of option grants. Abnormal
firms executive actions returns were more negative
for scheduled awards than for
the total sample.
2006 Cho & 30 publicly 1976-1986 Performance- Attention on entre- Greater increases in performance-
Hambrick traded airlines dependent preneurial activities based pay lead to greater
paybase/total pay and issues using a shifts in attention
text analysis-based and the effect of TMT
measure using composition and pay on
annual letters strategic change is fully
mediated by attention.
2006 Coles, Hertzel, 80 firms that 1999-2002 Structure of option Earnings Executives try to manage
& Kalpathy repriced reissue dates management earnings near option reissues.
options In this case, it did not work.
2006 Desai & 661 firms found 1993-2001 Degree of incentive Tax avoidance based Higher incentives lead to lower
Dharmapala in Compustat pay-options/total, on regression tax sheltering except in very
restricted stock/total, residuals well-governed firms.
both/total
In press Devers, 500 1992-1999 The spread value of Strategic risk taking Value of CEO-restricted stock
McNamara, manufacturing exercisable options, actions: R&D exhibits a negative effect on
Wiseman, & firms unexercisable spending, capital strategic risk.
Arrfelt options, and expenditures, and
restricted stock long-term debt
2007 Devers, 94 managers N/A Objective valuation of Executive valuation Owing to endowment,
Wiseman, & stock options of stock options executives valuations of
Holmes awarded stock options
surpass subjective valuations
of options not yet awarded.
Also, loss aversion leads
executives to value options
based on performance trend.
2005 Dow & Raposo Economic N/A N/A N/A Performance-related pay can
modelno create an incentive to look for
data ambitious strategies that are
hard to implement.
2005 Dunford, 610 executives 2000 Percentage of options Job search actions There is a positive relationship
Boudreau, & under water using Blaus job between the percentage of
Boswell search scale underwater options and job
search activity. This relation-
ship is moderated by beliefs
about the adequacy of their
pay and employment
alternatives.
2001 Fenn & Liang ExecuComp 1993-1997 Management Share There is a strong negative
data shares/shares repurchases/total relationship between options
outstanding payout and dividends but a positive
relationship between
repurchases and options.
(continued)
1053
Performance or
1054
Executive Actions
Years Constructs &

1999 Guidry, Leone, Managers in 1993-1995 Presence of Earnings Managers manipulate earnings
& Rock one large earnings-based management to maximize short-term earn-
conglomerate bonus plan discretionary ings. They extend literature by
accruals looking at managers within a
single firm, which minimizes
aggregation effects and
removes confounding effects
of stock-based pay plans.
2002 Hall & Murphy 3,765 S&P 500 1992-1999 CEO total pay Value to executive of The cost of options to firms is
CEO-years including cash, options holdings higher than their value to
long-term incentive executives because of the
plan (LTIP), and restriction placed on trading
options them. This divergence
explains many things
about how options are used
and valued.
1999 Heath, Huddart, Employees in 1985-1994 Value of options Employees' option Early option exercise is related
& Lang seven firms, Market pricestrike exercising behavior to stock price appreciation.
160 option price/Barone-Adesi
grants and Whaley option
value
2007 Heron & Lie 6,104 grants 2002-2004 Options grants Abnormal returns The abnormal returns
near options awards pattern found in Lie (2005)
measured as an disappeared after the 2-day
indicator of reporting rule became
backdating effective, which provides
support for backdating.
2002 Knopf, Nam, & Part of S&P 1996 Sensitivity of stocks Firm hedging activity Sensitivity of stock and options
Thornton 500 and options to stock prices is positively
related to firm hedging. As
managers bear more risk, they
hedge more.
In press Larraza- 108 CEOs of 1993-1995 Stock options and Risk takinga 9-item Employment risk and
Kintana, IPO firms variability of survey measure cash-based pay variability
Wiseman, essential pay that incorporates create potential loss
Gomez-Mejia, which is pay that is six strategic situations, which positively
& Welbourne reliably received dimensions of risk influence strategic risk taking.
Perceived downside risk to
cash-based pay and the value
of in-the-money stock options
create potential gain contexts,
which negatively influence
strategic risk taking.
2005 Lie 5,977 grants 1992-2002 Options grants Abnormal returns Evidence was found consistent
near options awards with backdating of stock
option awards.
1998 Mehran, Nogler, 30 liquidations 1975-1986 Sensitivity of option Probability that the Liquidation increases share-
& Schwartz and 30 compensation to firm will voluntarily holder value and is positively
matching stock price, percent- liquidate related to percentage of shares
firms age of shares owned owned by CEO, sensitivity of
by CEO option pay to stock price,
number of outside directors,
smaller book-to-market ratios,
and outside attempts to
control the firm.
2003 Nagar, Nanda, 1,109 firms 1995-1997 Ratio of stock-based Frequency of Stock price-based pay
& Wysocki to total pay and earnings forecasts encourages disclosure of
average value of & survey items information.
shareholdings about quality of
disclosures
(continued)
1055
Performance or
1056
Executive Actions
Years Constructs &

2006 O'Connor, 65 matched 1996-2004 Average annual value Whether a firm Large option grants to CEOs
Priem, pairs of options granted to restated their were associated with less or
Coombs, & the CEO and to the financial results more fraudulent reporting
Gilley board downward under depending on governance
regulatory pressure characteristics (duality and
directors holding stock
options).
2005 Parrino, 15 firms N/A Options and restricted Volatility of project Restricted shares differ from
Poteshman, & in three stock asset value relative stock options in that they
Weisbach industries to volatility of firm force managers to bear both
asset value upside and downside risk.
2002 Rajgopal & Oil and gas 1992-1998 Presence of an Risk taking by Executive stock options encour-
Shevlin firms employee stock executives age risk-taking by CEOs.
option plan
magnitude of risk
incentives of CEO
2005 Rynes, Gerhart, Review N/A N/A N/A Pay influences motivation and
& Parks performance through both
incentive and sorting effects.
2001 Sanders 250 S&P 500 1991-1995 CEO shares owned Risk taking behavior Stock options and stock owner-
firms and options granted ship do not have congruent
effects on risk behaviors
(acquisitions). Because of
downside risk in stock, it is
negatively related to acquisi-
tion activity, whereas stock
options are positively related
to acquisition activity.
2003 Sanders & 250 S&P 500 1992-1995 Proportion of pay in Dollar value of The idea that high levels of
Carpenter firms form of options repurchase stock option pay are associ-
programs ated with stock repurchase
announced programs is supported.
1998 Schrand & Unal 134 savings and 1984-1988 Pay sensitivity Changes in credit risk Pay structure predicts nature of
loans that and interest-rate the risk adopted by firms.
converted risk post conversion Managers who purchase more
from mutual than the median number of
to stock shares at conversion reduce
charters total return volatility post
conversion. Managers granted
options at conversion achieve
greater total return volatility.
1997 Yermack 620 stock 1992-1994 Options Abnormal returns Concluded that CEOs
option awards measured as an opportunistically schedule
to Fortune indicator of execu- awards prior to anticipated
500 CEOs tive actions stock price increases.
The influence of executive actions and other factors on pay

2000 Balkin, CEOs of 90 1992-1994 Cash pay and value of Sum of the z-scores The level of innovation predicts
Markman, & high-tech and stock options of research and both cash and stock option
Gomez-Meija 74 low-tech granted development pay in high-tech firms but not
firms (R&D) spending in low-tech firms.
and number of
patents
(continued)
1057
1058
Performance or
Executive Actions
Years Constructs &
1998 Barkema & Dutch 1985 Salary is base pay; Overt power Results show overt power to
Pennings executives bonus is cash bonus measured by frac- have a curvilinear relationship
from Hay only tion of sharehold- with executive pay. Proxies of
group ings and fraction of covert power include tenure,
family sharehold- being (one of) the founder(s),
ings to total; covert and firm diversification. These
power measured by variables magnify or moderate
tenure and status as the effect of equity holdings
a founder on pay.
2003 Barron & 15,000 1992-2000 Top five executives Importance of the deci- They identify several predictors
Waddell firm-year pay ranking and sions made by indi- of the proportion of incentive
observations total pay to the vidual executives pay including executive level,
of large-, total pay of the executives level, firm value, firm size, and
mid-, and highest-paid how big the firm is, ownership level. They see
small-cap executive how hard it is to these as proxies for level of
firms measure effort, executive effort.
R&D intensity
2006 Becker 80 companies 1993-1999 Value of stocks and Risk taking Risk tolerance in executives is
on the options and shares measured by positively related to incentive
Stockholm plus options/total incentive strength pay levels (wealth is seen as a
Stock shares of the contract; proxy for risk tolerance).
Exchange power measured by
CEO wealth; they
also checked
whether lagged
wealth
proxied for skill
2001 Bernardo, Cai, Economic N/A N/A N/A Managers may receive greater
& Luo modelfocus performance-based
on division pay because they manage
managers higher-quality projects rather
than performance-based pay
causing higher quality project
and therefore firm
performance.
2001 Bliss & Rosen 32 banks, 298 1986-1995 Level of stock Merger decisions For high-merger CEOs, boards
bank-years ownershipchange reward them for profitability,
in ownership and whereas low-merger CEOs are
change in paycash rewarded for size increases.
plus value of newly Lower level of stock owner-
granted shares ship results in fewer acquisi-
tions as CEOs pay more
attention to profitability.
2001 Carpenter, 245 multina- 1993-1996 CEO payall forms CEO international CEO international experience
Sanders, & tional firms of pay experienceyears earns higher pay, but only
Gregerson when the multinational firm
has a broad global strategic
posture.
2002 Carpenter & 17,135 1981-1985 Cash pay Executives' functional Found a positive association
Wade executive-year positions between pay and a position
observations made visible by resource allo-
from 90 large cation decisions, a functional
firms background similar to that of
the CEO, and a position that
helps the firm manage
strategic resource allocations.
(continued)
1059
Performance or
1060
Executive Actions
Years Constructs &

2003 Combs & Skill 77 firms with 1978-1994 Cash pay Board tenure, founder Finds a novel way to show
sudden death status, board that CEO power yields
of executive independence, and overpayment and board
nominating power yields underpayment
committee presence of CEOs.
2005 Coombs & CEOs of 406 1995-2001 Salary, bonus, value ROA, shareholder Stakeholder management
Gilley Fortune 1000 of options granted, returns, and weakens the positive
firms and total pay stakeholder relationship between firm
management performance and pay and is,
itself, negatively related to
CEO salary.
1999 Core, 495 observa- 1982-1984 Total pay, cash pay, Numerous measures Board and ownership structure
Holthausen, & tions for 205 and salary of board explain CEO pay.
Larcker public U.S. composition and
firms ownership structure
1998 Daily, Johnson, Random sample 1992 Total, contingent, and Proportion of CEOs, No support for the proposition
Elstrand, & of 194 firms noncontingent pay affiliated directors, that board compensation com-
Dalton from Fortune and interdependent mittee composition influences
500 directors on CEO pay levels or the use of
compensation performance-contingent pay.
committee
1998 David, Kochhar, 125 large U.S. 1992-1994 CEO pay level and Degree to which the Firms with pressure-resistant
& Levitas firms pay mix firm's institutional institutional owners pay less
investors are but pressure-resistance does
resistant to pressure not affect pay mix.
from managers
2005 Deutsch 38 articles N/A CEO incentive pay Percentage of outside Proportion of outside directors
directors was negatively associated
with the use of CEO perfor-
mance contingent pay.
1998 Ezzamael & 199 large U.K. 1992-1995 Salary and salary Reactions to Both over- and underpayment
Watson firms plus bonus under- or overpay- anomalies have important
ment (relative to the influences on CEO pay.
market) of CEOs
by compensation
committee
members
1998 Finkelstein & CEOs of 600 1987 Cash and long-term Market growth, Alignment of discretion and pay
Boyd Fortune 1000 pay R&D, advertising, is higher in better-performing
firms capital intensity, firms.
concentration, and
regulation
2006 Fiss 108 large 1990-2000 Executive pay-CEO Relative tenure There are differences rather
German firms and TMT pay difference between than similarities in human
measure the same board and executive capital influence the
construct (high relationship between CEOs
correlation) and boards of directors and,
in turn, CEO pay.
2001 Geletkanycz, 460 domestic 1987 Latent constructcash Board membership There is weak support for the
Boyd, & firms in both and long-term pay and networks (ties, prediction that CEO external
Finkelstein manufacturing network size, profit directorate networks will be
and service of network firms, positively associated with
sectors betweenness, CEO pay and strong support
closeness, and for the prediction that diversi-
degree) fication will strengthen the
association.
2004 Grinstein & 327 mergers 1993-1999 M&A bonus Effort, skill, and CEOs bonuses from
Hribar and acquisi- power acquisitions are an increasing
tions (M&As) function of CEO power, deal
size, and effort.
(continued)
1061
1062
Performance or
Executive Actions
Years Constructs &

2002 Miller, 423 S&P 500 1994-1998 Total paysalary, Systematic and Firm risk predicts level of per-
Wiseman, & firms bonus, LTIP, and unsystematic formance contingent pay. The
Gomez-Mejia options market and income relationship is stronger for
risk firm specific risk than for
market risk.
2006 Wade, Porac, 264 firms that 1992-1996 ExecuComp's total Financial World Non-CEO top management
Pollock, & were S&P direct pay 1 (TDC1) Magazines CEO of team members received higher
Graffin 500 members the Year awards pay when they worked for a
in 1992 high-status CEO; however,
star CEOs retain most pay
benefits.
2002 Wright, Kroll, CEOs of 77 1993-1998 Percentage change Degree of activist In firms with vigilant external
& Elenkov vigilant and (before and after institutional owner- monitoring, increases in CEO
94 lax firms acquisition) in ship, number of pay post-acquisition are
that made salary, bonus, and analysts following related to shareholder returns.
acquisitions value of option the firm, and board In weakly monitored firms,
holdings independence pay increases are related to
increases in firm size.
Cross-area studies
2000 Anderson, Executives 1992-1996 Salary, bonus, options Firm performance Returns are positively related to
Banker, & from 3,258 and restricted stock stock returns bonus and options, both as a
Ravindran firms (605 granted, LTIP percentage of total pay. Pay
information payouts, percentage and percentage value of stock
technology) options and stock and options held are positively
found in held; pay averaged related to returns. Options
ExecuComp over the TMT held have a greater effect on
performance than options
granted.
2005 Bitler, Sample of 1989, 1992, Equity ownership Manager effort Managerial equity ownership is
Moskowitz, & entrepreneurs 1995, 1998, percentage hours worked; firm positively related to manager-
Vissing- who started 2001 ownership of firm; performancesales ial effort (hours worked),
Jorgensen the business entrepreneur and profits; firm which is positively related to
and are wealthnet worth riskresiduals of firm performance.
owners profit-to-equity Entrepreneur wealth is
ratios regression positively related and firm
risk is negatively related to
1998 equity ownership.
Bloom & An average of 1981-1988 Incentive paybonus Business risk Firm risk is positively related to
Milkovich 46 randomly pay over base pay, systematic and base pay and negatively
selected both individual and unsystematic related to incentive pay.
managers averaged for the variation in ROA Incentives are negatively
from each of firm and stock price; related to performance when
over 500 firm performance there is more business risk.
firms total shareholder
return
(continued)
1063
Performance or
Executive Actions
1064
Years Constructs &
Cross-area studies
2006 Coles, Daniel, ExecuComp 1992-2002 Incentive payvega Riskiness of policy Vega and delta are predicted by
& Naveen data (CEO wealth choicesR&D stock return volatility. Higher
sensitivity to stock spending; property, vega results in riskier policy
volatility) and delta plant, and equip- choices, which would result in
(CEO PPS) ment investment; higher vega and lower delta.
leverage; and focus
of firm activities
2001 Datta, Iskandar- Top five 1993-1998 Equity-based pay Post-acquisition Higher EBC firms have better
Datta, & executives in (EBC)value of performance post-acquisition stock price
Raman 771 firms that options granted 2-day CARs and performance, pay lower
made 1,719 over total pay 3-year buy-and- premiums, acquire firms with
acquisitions hold returns; firm more growth opportunities, and
riskstock have greater post-acquisition
return standard firm risk.
deviation; growth
opportunities
market-to-book ratio
2006 Devers, S&P 500; 1,589 1997-2001 TMT long-term Risk behavior The aggregate level of the
Holcomb, firm-year incentive pay acquisitions long-term incentives held by
Holmes, & observations the TMT is positively related
Cannella to acquisition behavior.
1999 Guay 278 CEOs from 1993 Convexitysensitivity Investment Most convexity of the wealth
large firms of the value of opportunitiesbook- stock price relationship is
found in CEOs' option and to-market ratio, attributable to stock options.
Compustat stock holdings to R&D expenditures, There are positive
changes in stock and investment relationships between
return volatility expenditures; stock investment opportunities and
return volatility convexity as well as convexity
annualized and stock return volatility.
standard deviation
of returns
Cross-area studies
1999 Hayes & CEOs from 1974-1995 Salary and bonus Firm performance There is a positive relationship
Schaefer Forbes ROE, sales, and between unexplained variation
executive pay market returns. in pay and future performance
surveys (ROE), which is stronger
when observable measures are
not as useful.
2006 Makri, Lane, & CEOs of 206 1992-1995 CEO incentives Technology As technology intensity
Gomez-Meija firms bonus, stock options intensityR&D increases, CEO bonuses are
granted, and total expenditures over more strongly linked to
incentives (bonus sales; innovation financial results and total
plus options) resonance incentives are more strongly
citations of firms linked to innovation resonance
patents; science and science harvesting. As
harvestingfirms technology intensity
citations of scien- increases, pay alignment is
tific articles; more important for firm
firm performance performance.
market-to-book
ratio; financial
resultsROE
(continued)
1065
1066
Performance or
Executive Actions
Years Constructs &
Cross-area studies
2003 Tuschke & 76 German 1996-1999 Governance Governance There is an inverse u-shaped
Sanders firms in the reformsindicator reformsindicator relationship between owner-
Deutscher for adoption of for accounting ship concentration and adop-
Aktien Index stock-based pay plan conventions; divesti- tion of governance reforms.
100 turesnumber of Adoption of stock-based plans
divestitures in a predicts greater divestiture
year; firm activity. Adoption of stock-
performance based plans and accounting
ROS, market conventions are generally
capitalization, and associated with better firm
market-to-book performance.
ratio; ownership
concentration
percentage of
shares held in
blocks of at
least 5%
2006 Wade, OReilly, Executives in 1981-1985 Salary and bonus CEO power CEO over- and underpayment
& Pollock the top five over- or under- indicator for trickle down through the
hierarchical paymentresiduals CEO/chair managerial ranks with
levels of 122 from an equation duality diminishing strength. CEO
publicly predicting wages power is associated with
owned firms higher CEO pay and higher
subordinate pay that also
diminishes in the lower ranks.
Notes
1. Virtually all normative option valuation models assume that the option holder is risk-neutral, which
Holmstrom (1979) concluded was not the case.
2. Endowment occurs when individuals perceive an increase in the value of an asset, once gaining ownership over
that asset (Kahneman, Knetsch, & Thaler, 1991; Thaler & Johnson, 1990). Thus, the reduction in wealth associated
with relinquishing that asset exceeds the perceived increase in wealth associated with acquiring an identical asset.
3. Although both stock options and restricted stock must vest before sale, restricted stock generally carries no
exercise price (Milkovich & Newman, 2002).
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Biographical Notes
Cynthia E. Devers is an assistant professor in the school of business at the University of Wisconsin-Madison. She
received her PhD from Michigan State University in 2003. Her research interests include the effects of executive and
top management team compensation, corporate governance, decision-making biases, and risk on strategic choice.
Albert A. Cannella, Jr. is the Koerner Chair in strategy and entrepreneurship at Tulane University and has held
positions at Arizona State University and Texas A&M University. He received his PhD from Columbia University
in 1991. His research interests focus on executives, entrepreneurship, knowledge, and competitive dynamics.
Gregory P. Reilly earned his PhD at the University of Wisconsin. He is an assistant professor of management at the
University of Connecticut. His current research interests include executive compensation and top management teams.
Michele E. Yoder is a PhD candidate at the University of WisconsinMadison. Her research interests include exec-
utive compensation and boards of directors.

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Executive Compensation: A Multidisciplinary

Review of Recent Developments

Keywords: executive compensation; compensation design; incentive pay; corporate governance;

*Corresponding author: Tel.: (608) 263-2138

E-mail address: cdevers@bus.wisc.edu

I. Relationships between pay and performance

5. Risk preference alignment

Relationships Between Pay and Performance

The Influence of Performance on Pay

Researchers examining the influence of performance on executive pay generally depict

Performance surprises. Although the majority of payperformance sensitivity studies

the mix of compensation provided to executives through providing favorable or unfavorable

The Influence of Pay on Performance

Scholars examining the influence of pay on performance conceptualize compensation as

Relationships Among Pay and Behaviors

The Influence of Pay on Executive Actions

Strategic choices. When executives reveal private information to investors, increased

Contextual influences. Carpenter (2000) developed a mathematical model of the relation-

The Influence of Executive Actions and Other Factors on Pay

Contextual influences. Some scholars have responded to Gomez-Mejia and Wisemans

Governance influences. Scholars have also examined the effects of governance-related

associations between executives cash compensation and whether executives functional

Methodological Issues and Future Directions

Risk and Risk Perceptions

Other Methodological Issues

Although space limitations prevent a more complete evaluation of methodological issues,

The influence of performance on pay

The influence of performance on pay

The influence of pay on performance

The influence of pay on executive actions

The influence of pay on executive actions

The influence of pay on executive actions

The influence of pay on executive actions

The influence of pay on executive actions

The influence of pay on executive actions

The influence of executive actions and other factors on pay

The influence of executive actions and other factors on pay

The influence of executive actions and other factors on pay

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