Advantages Of Executive Compensation

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Bonus plan or executive compensation is defined by Scott (2009, pg. 356) as: An executive compensation plan is an agency contract between the firm and its managers that attempts to align the interests of owners and managers by basing the manager’s compensation on one or more measures of the manager’s performance in operating the firm Bonus contracts usually specify manager’s reward on the basis of earnings and share price. The rewards are usually under the form of cash, shares or options. However, on the other hand, this strategy somehow pressures managers to manipulate earnings to re-ceive bonus at the end of financial year. Healey (1985) suggests that managers’ adjust-ment of accruals is affected by income-reporting incentives of their bonus contract and that changes in accounting procedures are associated with modification of their bonus plan. Even if earning for one financial year is so low that nothing can be done to meet expectations,…show more content…
On the other hand, manager hopes that by doing so, in the years later, earnings will be less burdened by those expenses. How can managers afford to do so? Given their right to use judgment, they will deliberately choose income- decreasing accruals in calculating financial numbers such as deferring revenue or accelerating write- offs (Healy, 1985). “Big bath” strategy can easily be excused as the practice of conservatism principle which favors recording lower earnings if there is any doubt. “Big bath” usually happens at the last quarter reports, in which managers have the clear pic-ture of their operation in a year and can confirm that their companies are not going to reach the earnings expectation. Nikolai et al. (2010, pg. 513) suggest that expense charge that is most used in “big bath” technique is impairment loss on long term
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