Incentive Contracts

The theory of incentive contracts was established during the 1970s by now Nobel Prize-winning work by Akerlof, Mirrlees, Spence, Stiglitz, and Vickrey. Since then, numerous insights gained in theory have become established in corporate practice. Today, "performance measurement" is the core topic of modern controlling, because it can be used, for example, to push back departmental selfishness in favor of decisions that increase corporate value. This is of particular importance for companies, but also offers a broad and extremely interesting field of work in basic research. Therefore, in addition to current applications in the field of controlling, the Institute of Management Accounting and Control is engaged in research on the interdependencies of effects in the field of "incentive contracts".

Incentive Systems, Organizational Structure and Accounting

A central task of accounting is the provision of information for behavioral control. Depending on the decision-making authority of the manager responsible, a distinction is made between responsibility centers such as cost, revenue, profit and investment centers. The interactions that exist between the task competences, the available success variables and their aggregation within the framework of accounting were examined in various works. For example, conditions could be identified under which it makes sense to control a cost center manager via the profit in his area of ​​responsibility.

• Hofmann, C., & Indjejikian, R. J. (2024). Transparency in hierarchies. Journal of Accounting Research, 62(1), 411–445.
• Bouwens, J., Hofmann, C., & Schwaiger, N. (2024). Target setting in hierarchies: The role of middle managers. Journal of Accounting Research, 62(1), 375–410.
• Hofmann, C., Huddart, S., & Pfeiffer, T. (2023). An analysis of net-outcome contracting with applications to equity-based compensation. Review of Accounting Studies, 28(3), 1657–1689.
• Hofmann, C., & Indjejikian, R. J. (2021). Authority, monitoring, and incentives in hierarchies. Contemporary Accounting Research, 38(3), 1643–1678.
• Hofmann, C., & Indjejikian, R. J. (2018). Authority and accountability in hierarchies. Foundations and Trends in Accounting, 12(4), 298–403.
• Bouwens, J., Hofmann, C., & van Lent, L. (2017). Performance measures and intra-firm spillovers: Theory and evidence. Journal of Management Accounting Research, 30(3), 117–144.
• Feltham, G. A., Hofmann, C., & Indjejikian, R. J. (2016). Performance aggregation and decentralized contracting. The Accounting Review, 91(1), 99–117.
• Hofmann, C., & van Lent, L. (2015). Organizational design and control choices. In M. A. Hitt, S. E. Jackson, S. Carmona, L. Bierman, C. E. Shalley, & M. A. Wright (Eds.), The Oxford handbook of strategy implementation (pp. 451–468). Oxford University Press.
• Hofmann, C., & Rothenberg, A. (2013). Interim performance measures and private information. The Accounting Review, 88(5), 1683–1714.
• Hofmann, C., & Hofmann, Y. (2013). Unternehmenszusammenschluss und Unternehmenskultur – Auswirkungen auf die Gestaltung von Anreizsystemen und Performancemessung. Zeitschrift für betriebswirtschaftliche Forschung, 65(2), 136–166.
• Heinle, M. S., Hofmann, C., & Kunz, A. H. (2012). Identity, incentives, and the value of information. The Accounting Review, 87(4), 1309–1334.
• Feltham, G. A., & Hofmann, C. (2012). Information suppression in multi-agent contracting. Review of Accounting Studies, 17(2), 254–278.
• Hofmann, C., & Reichmann, T. (2011). Organizational structure, aggregation of performance measures, and incentives (Manuscript).
• Hofmann, C., & Rohlfing, B. (2011). Task assignment and variable pay ratio (Manuscript).
• Hofmann, C., & Pfeiffer, T. (2003). Konvergenz und Divergenz von Erfolgsrechnungen für Planungs- und Steuerungszwecke. Wirtschaftswissenschaftliches Studium, 32(7), 389–393.
• Hofmann, C. (2002). Gestaltung von Erfolgsrechnungen zur Steuerung von Verantwortungsbereichen. Zeitschrift für Betriebswirtschaft, 72(11), 1177–1205.

Relative Performance Measurement

Relative performance measurement has been discussed for a long time as an instrument that can be used to filter out non-controllable issues from managers' control parameters. For example, by comparing managers from different business areas internally, one can eliminate the influence of general economic fluctuations. This enables a more precise conclusion to be drawn about the actions of the managers and thus more efficient incentives. An external comparison with managers from other companies can also provide incentives for a certain competitive behavior, i.e. the price or quantity decisions of managers can be influenced. The investigation of the functional and dysfunctional effects of a relative performance evaluation offers a broad and challenging area for empirical and formal/analytical research work. In particular, there is a gap in the empirical evidence between i) statements from explicit studies based on surveys and company publications and ii) the results of implicit studies on the relationship between remuneration and capital market or financial statement data. The latter provide predominantly weak and contradictory indications of the use of a relative performance assessment, while, for example, explicit studies on the implementation of the recommendations of corporate governance codes provide clear indications of their widespread use. Furthermore, the question arises as to the composition of suitable comparison groups and the associated incentive effects. A central research area of ​​the institute is therefore the further development of existing modeling approaches for the analysis of the incentive effects of a relative performance evaluation. Important goals continue to be the derivation of differentiated hypotheses and their subsequent verification.

• Dikolli/Diser/Hofmann/Pfeiffer (2017), CEO Power and Relative Performance Evaluation, in: Contemporary Accounting Research.
• Black/Dikolli/Hofmann (2014), Peer-Group Composition, Peer-Performance Aggregation, and Detecting Relative Performance Evaluation, Dartmouth College, Duke University, and LMU (working paper).
• Dikolli/Hofmann/Pfeiffer (2013), Relative Performance Evaluation and Peer-Performance Summarization Errors, in: Review of Accounting Studies, Ausgabe 18 (1), S. 34-65.
• Hofmann/Pfeiffer/Reichel (2009), Zur relativen Performancemessung von Führungskräften deutscher DAX-Unternehmen, in: Die Betriebswirtschaft, S. 551-570.
• Asseburg/Hofmann (2009), Relative Performancebewertung und Produktmarktwettbewerb, in: Zeitschrift für Betriebswirtschaft, Ausgabe 79 (7), S. 817-846.
• Asseburg/Hofmann (2009), Relative Performance Evaluation and Contract Externalities, in: OR Spectrum, Ausgabe 32 (1), S. 1-20.
• Hofmann (2002), Relative Performancebewertung in regulierten und nicht-regulierten Märkten, in: Zeitschrift für betriebswirtschaftliche Forschung, Sonderheft 48, S. 57-91.

Subjective Performance Measurement

When it comes to incentivising employees, companies rarely rely on purely quantitative performance indicators. Rather, assessments by supervisors about their employees and about the corporate environment are often taken into account when providing information for behavior control by means of subjective performance measures and subjective elements in incentive contracts. In this way, for example, new information can be constantly integrated in fast-moving markets and facts such as leadership behavior or loyalty, which cannot be clearly measured, can be taken into account. Especially against the background of increasing international competition and the high relevance of human capital and intellectual property, such flexibility within the remuneration system is advantageous and thus supports the company's success in the long term.

• Budde, C., & Hofmann, C. (2024). Dynamic bonus pools. The Accounting Review, 99(3), 37–57.

Dynamic Incentives

While the first work on solving incentive problems mainly dealt with one-period models, current studies deal with the problems that arise in dynamic contexts. The formulation of an incentive contract, which is intended to have an incentive effect for several periods, is made more difficult by the fact that at the time the contract is concluded it cannot be ruled out that the contract will be changed in the future by mutual agreement. However, if the contractual partners now anticipate such a contract change, the original contract loses its incentive effect. It is therefore an important task of basic research to work out the effects of such renegotiations on the setting of incentives.

• Christensen, P. O., Feltham, G. A., Hofmann, C., & Sabac, F. (2022). Timeliness, accuracy, and relevance in dynamic incentive contracts. Foundations and Trends in Accounting, 17(1), 1–76.
• Arnegger, M., & Hofmann, C. (2007). Periodisierung von Erfolgskomponenten zur Steuerung langfristiger Aufträge – Completed-Contract-Methode versus Percentage-of-Completion-Methode. Zeitschrift für Betriebswirtschaft, 77(2), 115–139.
• Hofmann, C. (2005). Gestaltung von Erfolgsrechnungen zur Steuerung langfristiger Projekte. Zeitschrift für betriebswirtschaftliche Forschung, 57(7/8), 689–716.
• Hofmann, C. (2004). Bilanzielle Darstellungsspielräume und langfristige Anreize. Zeitschrift für betriebswirtschaftliche Forschung, Sonderheft, 54, 123–147.