Does performance timing affect executive compensation? A test of anchoring and recency biases

Board members are responsible for evaluating the performance of the CEO and making changes to CEO compensation based on actual performance. In this study, we examine how the timing of CEO performance (i.e., performance early in the year relative to performance later in the year) affects changes in compensation. We find strong (some) evidence that the timing of CEO performance is linked to changes in cash (equity) compensation, with performance earlier in the year having a stronger effect on compensation. This is consistent with an anchoring bias. We further explore this finding through supplemental analyses and cross-sectional tests. We find consistent evidence of anchoring in cash compensation for risky firms and find some evidence consistent with anchoring as a form of conservatism based on particular board characteristics. Taken together, the pattern of our results suggests that anchoring may be a form of efficient contracting that mitigates the risk of paying CEOs cash for performance that ultimately fails to materialize.