Incentive Recalibration through Intra-year Target Revisions: Evidence from Sales Managers’ Targets
We investigate whether top management uses intra-year target revisions to recalibrate the incentives implied by decentralized managers’ bonus functions. When in the course of a year actual performance unexpectedly deviates from targeted performance, piecewise-defined bonus functions offer strong incentives for dysfunctional behavior. We introduce the idea that firms use intra-year target revisions to address this problem. For a sample of decentralized sales managers, we predict and find that the likelihood that a decentralized manager will drop out of the incentive zone is positively associated with the likelihood of an intra-year target revision. Moreover, higher degrees of delegated decision authority and intra-firm interdependencies reduce this positive association. These findings from cross-sectional and first-differenced regressions are consistent with the idea that firms with different organizational design characteristics have different benefits and costs of intra-year target revisions. Our theory and findings reveal aspects of firms’ target-setting policies that research has not so far addressed.