The Role of Peer Firm Selection and Award Design in Explicit Relative Performance Awards

Explicit relative performance awards (RPE) have become an important component of executive compensation. We calculate the value and incentives of explicit RPE awards and find that RPE awards that use a custom peer group are structured both in terms of the peer group and payout design to filter out common shocks which is consistent with RPE theory. We find some evidence that firms select a broad market index over a custom peer group in order to increase award value. Our analysis also indicates that the overlap between RPE custom peers and compensation benchmarking peers constrains firms from biasing pay upwards