Aggregate and Specific Performance Measures and Intra-Firm Interdependencies: Theory and Evidence

Abstract

We provide theory and empirical evidence on the role of three types of performance measures in the evaluation of business unit managers in response to intra-firm interdependencies. We consider aggregated “above-level” measures (e.g., firm-wide net income), “own-level” business unit measures (e.g., business unit profit), and specific “below-level” measures (e.g., revenues on a product) and analyze variation in their relative incentive weight in response to interdependencies that arise from the focal manager’s impact on other units in the firm or from the impact of other units on the focal manager’s performance. Our theory yields two predictions: (1) the relative weight placed on specific “below” level measures is increasing in the impact of the focal manager on other business unit and (2) both types of interdependencies interact. Empirical evidence based on a survey among 122 business unit managers is consistent with these predictions.