CEO INCENTIVE ALIGNMENT: INTENSITY AND TIME HORIZON

Abstract

Incentive design is a key feature of corporate governance and strategic leadership to ensure that CEOs' and shareholders' interests are aligned. A primary focus to date has been on incentive intensity, the strength of the alignment between CEO compensation and firm performance. We examine a new facet, the CEO-incentive time horizon, the degree to which CEO compensation is aligned with performance horizons. After controlling for incentive intensity, we assess positive and negative performance outcomes and find that firms with longer CEO-incentive time horizons exhibit significantly greater total shareholder returns, ROA growth, and reduced financial misconduct. We also find when investor time horizons are longer, and also when information asymmetry between managers and shareholders is higher, relationships between CEO-incentive time horizon and financial misconduct, as well as long-term performance, are stronger. Considering the time horizon in compensation provides a deeper explanation of the relationship between executive incentives and firm performance. "…the efficacy of granting equity to the CEO in order to achieve incentive alignment…is far from settled, leaving unanswered questions regarding the conditions under which incentive alignment mechanisms achieve their intended goal". - Martin, Wiseman, & Gomez-Mejia (2019)