Are Performance Measures Other than Price Important to CEO Incentives?

We examine whether publicly available performance measures other than stock price are economically significant in explaining changes in CEOs' firm-specific wealth. Similar to Antle and Smith [1986], we measure a CEO's firm-specific wealth changes as the sum of total annual pay and changes in the value of the CEO's portfolio of stock and option holdings. We examine the determinants of the variance of CEOs' wealth changes to infer the magnitude of their incentives. We decompose the variance of the wealth change into price-based and non-price-based components, and examine whether there is substantial variation in CEO wealth changes that is unexplained by price. Our results indicate that for most CEOs, stock return is the dominant component of their incentives. We find that for 65% of the CEOs in our sample, the variation in wealth changes that is explained by stock returns is at least 10 times greater than the variation that is unexplained by stock returns. This latter percentage is substantially larger when the CEOs are aggregated by industry to mitigate measurement error problems associated with computing by-CEO variances over a short time-series. Although there are some CEOs for which the non-price-based variation in annual total pay is significant, nearly all of this variation comes from non-cash pay, such as stock option and restricted stock grants. The variation in annual cash pay that is unexplained by price is greater than 1% of the total variation in CEO wealth changes for only 25% of the CEOs