Is the pay-performance relationship always positive?

This study examines the widespread belief that executive pay should reflect firm performance. We compile a hand-collected data set of compensation paid to executive directors of Dutch listed companies and analyze if executive compensation is indeed determined by firm performance. A variety of accounting-based and capital market-based performance measures are used. The analysis also encompasses both contemporaneous and lagged relationships, and controls for firm, time and industry characteristics. Our robust empirical analysis fails to detect a positive pay-performance relationship. The finding questions the conventional wisdom that executive pay helps to align shareholder interests with those of managers. It is consistent with the view that powerful managers can influence their own pay. The results of the study suggest that other means of resolving agency problems and novel explanations of executive compensation may provide useful insights.