An Empirical Examination of CEO Relative Performance Evaluation Incentives and R&D

Abstract

I use hand-collected data from 1995-2009 to examine whether long-term RPE incentives for CEOs are associated with investment in R&D and whether compensation committees grant long-term RPE incentives when there is risk of under-investment in R&D. Companies with CEOs who are granted long-term RPE incentives with a stock return performance measure have higher levels of R&D, particularly those at greater risk of under-investment. Long-term RPE incentives are also negatively associated with under-investment in R&D as measured by differences from predicted levels. The results related to compensation committees indicate that grants of long-term RPE incentives are more likely when there are financial constraints and when there are consecutive years for which R&D expenditures are less than the prior year or less than that of industry peers. These results suggest that compensation committees monitor risks of under-investment and their grants of long-term RPE incentives have the desired effect of inducing greater R&D.