The Dark Side of Promotion Tournaments: the Effect on Losing Competitors and Their Firms
Firms commonly use promotion tournaments to motivate employee performance. While prior research has examined the incentive effects of such tournaments on the tournament winners and their firms, we focus on certain additional consequences that arise following the end of promotion tournaments. More specifically, we investigate tournaments for promotion to Chief Operating Officer (COO) to examine whether and how the subsequent actions of non promoted VPs, whom we refer to as non promoted executives (NPEs) affect subsequent firm performance. When NPEs are passed over for promotion, their implicit, promotion based incentives decline because their future prospects for advancement within the firm fall significantly. In turn, we predict and find that firms generally do not adjust the NPEs' explicit compensation to replace the diminished promotion based incentives, and we attribute the absence of such adjustments to associated adjustment costs. As a result, NPEs face reduced incentives after the COO tournament ends, and we predict and find an increase in turnover among NPEs. Further, we document that the change in firm performance following the end of the COO tournament is more negative for more competitive (strong) tournaments than for less competitive (weak) tournaments, which we attribute to a combination of the decreased incentives for NPEs who choose to stay and the loss in human capital for NPEs who choose to leave the firm. Further, we show that these negative effects on firm performance are only temporary and are remediated by the firm over time. Overall, our results identify potentially negative consequences for firms immediately after a promotion tournament ends resulting from the effects on non promoted employees. JEL classifications: J01, M12, M41, M51