Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-45 Incentive Pay Formula Development (30 min)
1.
There are two goals, a goal for number of customers and a price
goal:
Customer goal:
300/day target customers x 365 days = 109,500 customers
½ weight x $12,800 = $6,400
$6,400/109,500 = $ .058 per customer served
Price goal:
Thus the compensation plan is:
Note that there are alternative ways to develop the
compensation plan. For example, the restaurant manager can
develop a reward system which pays no bonus unless the average
2. If 280 customers are served per day at $6.75 average price per
person, the total compensation to the manager would be:
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-46 Compensation Pools; Residual Income; Review of Chapter 19
(40 min)
1.
Revenue Income Assets Asset Return on
Return
on
Consumer Electronics Turnover Sales Assets
2014 $ 155,780 $ 16,750 $ 84,550 1.842 10.75%
19.81
%
2015
125,480
9
,500 90,450 1.387 7.57%
10.50
%
2016
90,950
5
,700 92,450 0.984 6.27% 6.17%
Office Supplies
2014
48,750
2
,100 22,500 2.167 4.31% 9.33%
2
10.68
Computers
2014
100,500
2
,350 21,450 4.685 2.34%
10.96
%
1
WBI Total
2014
305,030
21
,200 128,500 2.374 0.070
16.50
%
2015
266,540
13
,490 134,900 1.976 0.051
10.00
%
2016
258,100
11
,525 134,550 1.918 0.045 8.57%
The calculations above show that 2016 had mixed results for MBI, as
income fell for one of the divisions and sales and profits increased for
20-32
Education.
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-46 (continued -1)
2016 its return on assets increased in both these years, and quite
significantly in 2016; the Consumer Electronics division, with falling
sales and income, while assets increased, saw its asset turnover,
The Computer division, another large division, had a bad year
in 2015 but recovered nicely in 2016. Overall, WBI saw a steady
decline in return on assets over the three years, due primarily to the
problems in the Consumer Electronics division.
2. [Operating Income – (.06 x Invested Assets)] x .10 = Bonus
Amount
The total bonuses for each division and in total are determined as
follows: (actual amounts; not in 000s)
And given the number of executives:
The Firm-wide bonuses for executives are as follows
Firm-wide Bonus Bonus
Bonus per
Executive
As for the sales and income in 2016, the bonus amounts for
executives fell sharply in 2016, and declined over the three-year
period.
20-33
Education.
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-46 (continued -2)
3.
When bonuses are determined on a division-based method, the
results are as follows:
Bonuses per executive were largest for consumer electronics in 2014
because this division, the largest, generated the largest amount of
residual income in 2014; per-executive pay is highest in Consumer
Electronics despite the fact that it has the largest number of
executives. Bonuses increased in Office Supplies because of the
4.
Comparing the results for the three divisions in parts 2 and 3, it is
clear that the Consumer Electronics division managers would benefit
from the division-based plan based in 2014 and 2015, while the
Office Supplies division would benefit in 2015 and 2016 and those is
the Computers division benefit in 2016.
motivation for MBI. To make the firm-wide plan work for all divisions,
particularly the Office Supplies division, MBI top management should
work to make the opportunities for cross-division profit clear.
20-34
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-46 (continued -3)
Pros: The company-wide bonus plan promotes the sharing of
expectations.
Cons: The company-wide bonus plan includes many factors not
20-35
Education.
20-47 Compensation; Strategy (25 min)
For companies with substantial growth opportunities or long
product life cycles, bonus plans based on short-term decisions may
not adequately reflect long-term consequences of managerial
decisions.
DBI could consider a stock option plan that initially sets the
exercise price of the option at the current share price, but then
options to be paid off.
DBI may want to consider granting stock options where the
exercise price is adjusted with the appreciation of an industry index.
This will allow DBI to reward executives for an increase in the value
of their stock relative to that of companies facing similar risks.
DBI could also establish a bonus account system (deferred
bonus system). Under this system the executives do not receive the
increase current performance measures at the expense of damaging
future performance.
Developing effective compensation plans is more difficult for
multinational companies such as DBI because foreign currency
frequently managers of foreign SBUs are able to protect their unit
from unfavorable currency fluctuations by carefully chosen
purchasing, sales, and financing practices.
20-36
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-48 Executive Compensation; Teams; Strategy; Ethics (30
min)
1. Universal should use the new measures to improve product
quality and customer satisfaction.
a. At least three customer value-added measures for Universal Air
Inc. include the following:
Availability of products to meet customer needs on a timely
b. At least three process-efficiency measures for Universal include
the following:
New product development time and introduction time to market.
2. At least three types of employee behavior that Universal Air Inc.
can expect by having middle management participate in the
development of the second set of new performance measures include
the following:
Increased job satisfaction and morale, as well as a feeling of
3. To ensure that the cross-functional teams are effective, the
executive management at Universal Air Inc. needs to provide:
20-37
Education.
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
20-48 (continued -1)
functional managers and team members, and support for the
implementation of team-suggested changes.
4. Referring to the specific standards (competence, confidentiality,
integrity, and credibility) in the Institute of Management Accountants
Statement on Ethical Professional Practice, John Brogan’s behavior
is unethical for the following reasons:
Competence
Brogan is undermining the preparation of complete and clear
Integrity
By curtailing the reporting of customer complaints, Brogan has failed
to:
avoid a conflict of interest,
Credibility
Brogan did not:
communicate information fairly and objectively disclose fully
all relevant information.
20-49 Compensation; Regression Analysis (40 min)
20-38
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
The results are shown below:
Correlation Analysis:
Correlation between executive pay and company performance is .223518
which is not statistically significant at the .10 level. While the direction of
Regression Analysis:
A regression analysis with company performance (measured by stock
The above regression results confirm the correlation results shown
above. The p-value for the compensation variable is .2438, well short
of a level for statistical significance.
The findings show little evidence of a correlation between the change
Times, April 10, 2011, p. B7.
20-50 Compensation; Regression Analysis (20 min)
20-39
Education.
Chapter 20 – Management Compensation, Business Analysis, and Business Valuation
1. Given the available information, the most reliable regression appears to
2. The regressions have some common patterns:
return on assets (ROA) is not a significant predictor of CEO pay for
any of the dependent variables.
stock price volatility is significant at the lower level of reliability (.05) in
is, less ownership means higher pay. The authors argue that this is
consistent with the expectation that lower levels of ownership require
stronger incentives, and thus higher CEO pay.
There are mixed results for the remaining variables, passenger load,
CEO tenure, and book to market value. These variables are not
significant in at least one of the regressions, indicating there is
potentially some relationship there but the nature of the relationship
depends on the dependent variable chosen, and that further analysis
would be necessary to understand the nature of the relationships
between these variables and CEO pay.
3. The principal goal of the study was to identify a potential relationship
between non-financial performance, as measured by passenger load, and
CEO compensation. Seven additional variables were added to control for