MANAGEMENT ACCOUNTING - Solutions Manual

CHAPTER 25

EXECUTIVE PERFORMANCE MEASURES

AND 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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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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Requirement (a)

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

P9,200,000 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) = P17,040,000

P17,040,000 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. C
2. A 12. B 22. D
3. D 13. D 23. B
4. C 14. B 24. D
5. B 15. A
6. D 16. D
7. D 17. C
8. A 18. B
9. D 19. B
10. B 20. B

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