An Empirical Investigation of Implicit Incentives for Nonfinancial Performance Improvement

Abstract

In this paper, I examine the sensitivity of promotion and demotion decisions for lower-level managers to financial and nonfinancial measures of their performance. Additionally, I investigate the extent to which the behavior of lower-level managers reflects promotion-based incentives for improving nonfinancial dimensions of performance. I find that promotion and demotion decisions for store managers of a major U.S. based fast-food retailer (QSR) are sensitive to nonfinancial performance measures of service quality and employee retention after controlling for financial performance. The likelihood of demotion in this organization is also sensitive to nonfinancial performance on the dimension of service quality, while the probability of termination (voluntary or involuntary) is primarily sensitive to financial performance measures rather than nonfinancial performance measures. I also find some evidence that the behavior of lower-level managers is consistent with the incentives created by the weighting of nonfinancial performance measures in promotion decisions at QSR. Operators in locations where there is a higher ex ante probability of promotion demonstrate significantly higher levels and rates of performance improvement in service quality. These findings provide some of the first empirical evidence on an alternative to the explicit weighting of nonfinancial metrics in compensation contracts as a mechanism for generating improvements in nonfinancial dimensions of performance.