Testing for Distortions in Performance Measures: An Application to Residual Income Based Measures like Economic Value Added

Randolph Sloof, Mirjam Van Praag

    Research output: Working paperResearch

    6 Downloads (Pure)

    Abstract

    Distorted performance measures in compensation contracts elicit suboptimal behavioral responses that may even prove to be dysfunctional (gaming). This paper applies the empirical test developed by Courty and Marschke (2008) to detect whether the widely used class of Residual Income based performance measures —such as Economic Value Added (EVA)— is distorted, leading to unintended agent behavior. The paper uses a difference-in-differences approach to account for changes in economic circumstances and the self-selection of firms using EVA. Our findings indicate that EVA is a distorted performance measure that elicits the gaming response.
    Original languageEnglish
    Place of PublicationAmsterdam
    PublisherTinbergen Institute
    Number of pages27
    Publication statusPublished - 2014
    SeriesTinbergen Institute Discussion Papers
    Number14-056/V

    Cite this

    Sloof, R., & Van Praag, M. (2014). Testing for Distortions in Performance Measures: An Application to Residual Income Based Measures like Economic Value Added. Amsterdam: Tinbergen Institute. Tinbergen Institute Discussion Papers, No. 14-056/V
    Sloof, Randolph ; Van Praag, Mirjam. / Testing for Distortions in Performance Measures : An Application to Residual Income Based Measures like Economic Value Added. Amsterdam : Tinbergen Institute, 2014. (Tinbergen Institute Discussion Papers; No. 14-056/V).
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    Testing for Distortions in Performance Measures : An Application to Residual Income Based Measures like Economic Value Added. / Sloof, Randolph; Van Praag, Mirjam.

    Amsterdam : Tinbergen Institute, 2014.

    Research output: Working paperResearch

    TY - UNPB

    T1 - Testing for Distortions in Performance Measures

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    AU - Van Praag, Mirjam

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    AB - Distorted performance measures in compensation contracts elicit suboptimal behavioral responses that may even prove to be dysfunctional (gaming). This paper applies the empirical test developed by Courty and Marschke (2008) to detect whether the widely used class of Residual Income based performance measures —such as Economic Value Added (EVA)— is distorted, leading to unintended agent behavior. The paper uses a difference-in-differences approach to account for changes in economic circumstances and the self-selection of firms using EVA. Our findings indicate that EVA is a distorted performance measure that elicits the gaming response.

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    KW - Economic value added

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    KW - Incentive compensation

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