Balancing Financial and Non-Financial Performance Measures

Non-financial performance measures are often used for performance evaluation. They are especially relevant if the available financial performance measures not completely reflect the manager’s contribution to the firm’s total value. Then, non-financial performance measures serve as an indicator for the firm’s long-term performance and may therefore be included in incentive contracts. In the paper we analyze the incentive weights placed on non-financial performance measures and the firm’s short-term financial return. We determine the consequences of a non-contractable long-term financial return and of private pre-decision information for the incentive weights of non-financial performance measures. We explore the extent to which the strength of the statistical relation between the non-financial performance and the firm-value, and the limitations of financial data as a measure of total firm performance influence the incentive weights. Specifically, we determine conditions where the incentive weight of the short-term financial return increases, although the firm’s interest in the long-term financial return increases.