The choice of performance measures in annual bonus contracts

This paper examines the factors influencing the relative weights placed on financial and non-financial performance measures in CEO bonus contracts. We find that the use of non-financial measures increases with the level of regulation, the extent to which the firm follows an innovation-oriented strategy, the adoption of strategic quality initiatives, and the noise in financial measures. We find no evidence that the choice of performance measures in bonus contracts is associated with the level of financial distress or the value of CEO equity holdings relative to salary and bonus. Our results also provide no support for the hypothesis that CEOs with greater influence over the board of directors are more likely to be compensated based on non-financial measures.