MANAGEMENT ACCOUNTING (VOLUME II) - Solutions Manual

CHAPTER 26

EXECUTIVE PERFORMANCE MEASURESAND COMPENSATION

I. Questions

1. Incentive compensation is a monetary reward that is based on measured performance. Organizations where employees have been given the responsibility to make decisions are best suited for incentive compensation systems.

2. The four guidelines are: fairness, participation, basic wage level, and independent wage policy.

Fairness deals with the ratio of salaries of the highest paid to lowest paid employees.

Participation states that all employees should be included in a compensation plan. Although, they do not need to be included in the same one.

Basic wage level states that a market wage should be paid, and incentive compensation should not be used to adjust the market wage downward.

Independent wage policy states that the incentive compensation system for the most senior levels of the organization should be set by a group that is independent of senior management.

3. a. based on salary – easy to administer, likely to be considered fair, and, to the extent that salary reflects the relative ability to contribute to results, is based on contribution;

based on equal share – easy to administer, likely to be considered fair, and reflects how people often divide up rewards when left to their own devices;

based on position – same as based on salary;

based on individual performance – ties reward most closely to performance and likely to have the highest motivational impact.

b. based on salary – may convince lower level employees that they have little to contribute, does not necessarily reflect contributions;

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Chapter 26 Executive Performance Measures and Compensation

based on equal share – may have little motivational effect, may lead to feeling of inequity if some people contribute nothing;

based on position – same as based on salary;

based on individual performance – may be difficult and costly to administer, may lead to arguments about interpreting the performance measure.

4. A cash bonus is a cash reward tied to measured performance. A cash bonus is a bonus that is best related to activities oriented to short-run performance that should be rewarded immediately to provide a reinforcement effect. Cash bonuses are best tied to measures of achieved operating performance such as quality improvement, sales increases, and success at short-run cost control.

Profit-sharing is a cash bonus incentive compensation plan where the total of all cash bonuses paid to all employees is determined by a formula involving the organization’s, or an organization unit’s, reported profit. Profit-sharing is used to focus organization members on team activities to improve the organization’s short-term performance.

Gain-sharing is a cash bonus incentive compensation plan where the total of all cash bonuses paid to all employees is determined by a formula involving cost performance (on materials or labor that the group is deemed able to control) relative to some standard. Gain sharing is best used when there is a visible and agreed performance standard and the employees can work as a group to improve performance relative to that standard.

A stock option plan is a process where employees, deemed to be able to affect the value of an organization’s shares, are given the option to purchase those shares at a specified price which is usually higher than the share price at the time the option is issued. Stock options are best used to focus attention of senior people, who can affect the organization’s long-run performance by their decisions, on long-run performance.

II. Problems

Problem 1

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Executive Performance Measures and Compensation Chapter 26

Requirement (a)

P20,000,000 – (0.18 x P60,000,000) = P9,200,000P9,200,000 x 0.20 = P1,840,000

Therefore, P2,000,000 would be larger.

Requirement (b)

P50,000 / P12,000,000 x P2,000,000 = P8,333.33

Problem 2

Requirement (a)

P30,000,000 – (0.18 x P72,000,000) = P17,040,000P17,040,000 x 0.25 = P4,260,000

Therefore, P4,260,000 would be larger.

Requirement (b)

P40,000 / P10,000,000 x P4,260,000 = P17,040

III. Multiple Choice Questions

1. C 11. C 21. C2. A 12. B 22. D3. D 13. D 23. B4. C 14. B 24. D5. B 15. A6. D 16. D7. D 17. C8. A 18. B9. D 19. B10. B 20. B

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