Accounting-based Performance Measures Research Articles

Managerial Performance Measures And Shareholder Value Creation: The Case Of Latin American Companies

In this paper we examine whether Economic Value Added (EVATM) is a good predictor of shareholder value creation (SVC) for a group of Latin American companies. We also examine whether EVATM is a better predictor of SVC than competing accounting-based measures of managerial performance. The relationship of these predictors to SVC is paramount in a study of factors influencing shareholder value creation such as the compensation of a firm’s executives. Our results show strong correlations between EVATM and SVC. They also indicate that EVATM outperforms competing measures even after controlling for the potential effects that these last metrics have on SVC. Moreover, they reveal different levels of SVC sensitivity to changes in EVATM across countries and significant differences in EVA’s association with SVC across industries.

Executives’ remuneration and company performance: An evaluation

Executive pay became a much discussed issue during the recent global financial crisis. Substantial research has been done in the United States and United Kingdom, while research in Australia is still limited, especially in terms of using the data for the financial crisis. This paper will investigate the relationship between Australian executives’ remuneration and their companies’ performance during the global financial crisis. Two approaches were used to examine the relationship: firstly, an investigation of the pay-for performance relationship that existed during the global financial crisis; and secondly, checking the robustness test by using one year before-and-after data. The sample is taken from the Top 200 companies from the Australian Stock Exchange (ASX) list for 2007 and 2008. In order to achieve a better understanding of this relationship, a conceptual model has been developed. Results show that Australia’s business reward system is quite effective because executives’ remuneration were reduced by their respective companies when they underperformed during this particular crisis. Overall, this study concludes that there is a positive and significant relationship between executives’ remuneration and company performance during the global financial crisis, with higher sensitivity to market-based performance measures than accounting-based performance measures.

How does business performance measurement perform? An empirical study with reference to leading companies in India

With increased adoption and resource spent for business performance management, it is interesting to inquire about its practice and performance. Based on the response from CFO's of the 38 leading Indian companies, we found that BPM is satisfying tactical purposes well, but lagged in strategic, top management and learning and development needs. The results compare well with Tonge et al. (2000), Malcolm (2006), Wiersma (2009), etc. When compared with Simmons (1995b) levers of control, we observe better performance on diagnosis and belief control system, while lagged as interactive control tool. Despite increasing use and importance of various non-financial measures, we observed lower satisfaction with its measurement quality and fewer linked those measures to compensation, comparable with Lingle and Schiemann (1996). Our findings are symptomatic of evolution of BPM to overcome the inadequacies of reliance on accounting-based performance measurement (RAPM) to strategic management system and more recently management learning and development tool.

The 2007 Subprime Market Crisis Through the Lens of European Central Bank Auctions for Short-Term Funds

We study European banks’ demand for short-term funds (liquidity) during the summer 2007 subprime market crisis. We use bidding data from the European Central Bank’s auctions for one-week loans, their main channel of monetary policy implementation. Our analysis provides a high-frequency, disaggregated perspective on the 2007 crisis, which was previously studied through comparisons of collateralized and uncollateralized interbank money market rates which do not capture the heterogeneous impact of the crisis on individual banks. Through a model of bidding, we show that banks’ bids reflect their cost of obtaining short-term funds elsewhere (e.g., in the interbank market) as well as a strategic response to other bidders. The strategic response is empirically important: while a naive interpretation of the raw bidding data may suggest that virtually all banks suffered an increase in the cost of short-term funding, we find that for about one third of the banks, the change in bidding behavior was simply a strategic response. We also find considerable heterogeneity in the short-term funding costs among banks: for over one third of the bidders, funding costs increased by more than 20 basis points, and funding costs vary widely with respect to the country-of-origin. Estimated funding costs of banks are also predictive of market - and accounting-based measures of bank performance, suggesting the external validity of our findings.

IT capabilities and firm performance: A contingency analysis of the role of industry and IT capability type

Previous empirical studies examining the relationship between IT capability and accounting-based measures of firm performance reported mixed results. We argued that prior work has relied on aggregate overall measures of the firm's IT capability, ignoring the specific type and nature of IT capability; and also has not fully considered important environmental conditions that influence the relationship. Drawing on a resource-based view, we advanced a contingency perspective and proposed that IT capabilities’ impact on firm resources was contingent on the “fit” between the type of IT capability/resource a firm possesses and the demands of the industry in which it competes. Specifically, using publicly available rankings as proxies for two types of IT capabilities (internally and externally focused), we empirically examined the degree to which three industry characteristics (dynamism, munificence, and complexity) influenced the impact of each type of IT capability on measures of financial performance. After controlling for prior performance, we found there was general support for the posited contingency model. The implications of these findings are also discussed.

AN EXPLORATORY VIEW OF EMERGING RELATIONSHIP BETWEEN CORPORATE SOCIAL AND FINANCIAL PERFORMANCE IN CANADA

This study uses primary research methods to determine whether a corporate social performance (CSP)–corporate financial performance (CFP) relationship exists within the Canadian context through examination of publicly-traded Canadian-based companies.The empirical findings demonstrate a positive CSR–CFP relationship, typically with CFP preceding CSP (although this does not preclude a relationship in the other direction) when using accounting-based measures of financial performance and as applied to the Top 1000 firms in Canada as ranked by profitability. This positive relationship was not confirmed when compared to the Top 500 companies ranked by profitability (i.e., with the "bottom 500" removed). In addition, the positive relationship did not occur with respect to market-based measures of financial performance (i.e., share performance).In addition, the study noted two possible issues that may have influenced the findings although the extent of such influences (if they exist) is not known. The first of these relates to a predilection amongst the CSR-rankings towards firms with high profitability. Almost all of the top-ranked CSR leaders are from the Top 500 firms in Canada as ranked by profitability and nearly three-quarters are from the Top 100. The second issue is the potential bias of the CSR-ranking methods themselves. This may have resulted in the inclusion of some firms with more questionable reputations in the rankings as well as the lack of continuity from year to year of CSR-leaders amongst the three rankings examined.This exploratory study sets the stage for more detailed analyses within a Canadian context in the future.

Corporate Governance and Firm Performance in Africa: A Dynamic Panel Data Analysis

The study examined the effect of corporate governance on the performance of firms in Africa by using both market and accounting based performance measures. Unique data from 103 firms drawn from Ghana, South Africa, Nigeria and Kenya covering the five year period 1997-2001 was used and analysis done within the dynamic panel data framework. Results indicate that the direction and the extent of impact of governance is dependent on the performance measure being examined. Specifically, our findings show that large and independent boards enhance firm value and that combining the positions of CEO and board chair has a negative impact on corporate performance. We also find that CEO’s tenure in office enhances a firm’s profitability whiles board activity intensity affects profitability negatively. The size of audit committees and the frequency of their meetings have positive influence on market based performance measures and that institutional shareholding enhances market valuation of firms. For enhanced performance of corporate entities, we recommend a clear separation of the positions of CEO and board chair and also to maintain relatively independent audit committees.

Make or buy new technology: The role of CEO compensation contract in a firm’s route to innovation

A firm’s board of directors, based on its risk tolerance or “appetite,” sets the corporate objectives. It is then the management’s job to meet the objectives by adopting appropriate strategies. However, the board can design compensation policies to encourage desired management strategy choices. This paper explores the extent to which management compensation policies are aligned with strategy choices for obtaining new technology. Firms obtain new technology either through internal R&D or through acquisitions, often labeled “make” and “buy” strategies, respectively. The “make” strategy is inherently more risky, with much of the high risk idiosyncratic. Furthermore, U.S. GAAP requires that R&D expenditures be expensed but allows capitalization of acquisition costs, thus a firm using the “make” as opposed to the “buy” strategy will experience a greater negative effect on accounting earnings. I hypothesize that these differences will lead risk-averse and utility-maximizing managers to implement the “buy” strategy if their compensation is heavily weighted on accounting-based performance measures. Conversely, managers with more stock-based compensation, especially stock options, are more likely to choose to develop new technology internally. Using data from U.S. high-tech industries and a simultaneous equations regression framework, I find evidence consistent with the above hypotheses.

EVA versus zisk a korelace s akciovým výnosem akcií

Nespokojenost s tradičními způsoby měření výkonnosti firem pomocí ukazatelů odvozených pouze z účetních výkazů vyústila ve snahu vyvinout alternativy měření výkonnosti podniků, na nichž by bylo možné stavět ukazatele zainteresovanosti manažerů. V souvislosti s teorií zastoupení (agency theory) vzniká problém vztahu "principal - agent" vymezený kontraktem (contract), kdy principál najímá agenta, aby pro něho uskutečňoval určitou službu. Manažeři však nemusí vždy usilovat o co největší přínos pro akcionáře, o maximalizaci akcionářské hodnoty (shareholder value) a o maximalizaci tržní hodnoty (market value) podniku. S tím souvisí otázka, jak sjednotit zájmy obou stran, aby byly minimalizovány náklady zastoupení, a jak stanovit, které měřítko výkonnosti nejlépe vyjadřuje přínos manažerů k hodnotě firmy. Na základě empirického výzkumu autoři zjišťovali a odvozovali "přidanou hodnotu" od ukazatele EVA v konkrétních odvětvích a podnicích v USA. Výsledky jejich zkoumání byly pozitivní a významné v předvídání u firem, které zavedly EVA jako vnitřní výkonnostní měřítko. To vede k závěru, že ukazatel EVA je vhodný jako "bonus base" pro odměňování manažerů. Odměňování manažerů na základě ukazatelů kapitálového trhu, zejména cen akcií, jak požaduje druhá skupina - zastánci tohoto kritéria se nejeví vhodné, protože v ceně akcií se odráží i faktory, které manažeři podniku nemohou ovlivnit (např. inflace, aj.).

The Cost Efficiency of German Banks: A Comparison of SFA and DEA

We investigate the consistency of efficiency scores derived with two competing frontier methods in the financial economics literature: stochastic Frontier and Data Envelopment Analysis. We sample 34,192 observations for all German universal banks and analyze whether efficiency measures yield consistent results according to five criteria between 1993 and 2004: levels, rankings, identification of extreme performers, stability over time and correlation to standard accounting-based measures of performance. We find that non-parametric methods are particularly sensitive to measurement error and outliers. Furthermore, our results show that accounting for systematic differences among commercial, cooperative and savings banks is important to avoid misinterpretation about the status of efficiency of the total banking sector. Finally, despite ongoing fundamental changes in Europe's largest banking system, efficiency rank stability is very high in the short run. However, we also find that annually estimated efficiency scores are markedly less stable over a period of twelve years, in particular for parametric methods. Thus, the implicit assumption of serial independence of bank production in most methods has an important influence on obtained efficiency rankings.

Governance structure and the weighting of performance measures in CEO compensation

We empirically examine how governance structure affects the design of executive compensation contracts and in particular, the implicit weights of firm performance measures in CEO’s compensation. We find that compensation contracts in firms with higher takeover protection and where the CEO has more influence on governance decisions put more weight on accounting-based measures of performance (return on assets) compared to stock-based performance measures (market returns). In additional tests, we further find that CEO compensation in these firms has lower variance and a higher proportion of cash (versus stock-based) compensation. We further find that CEOs’ incentives (measured as changes in CEO annual wealth which includes expected changes in the value of the CEO’s equity holdings in addition to yearly compensation) do not vary across governance structures. These findings are consistent with CEOs in firms with high takeover protection and where they have more influence on governance negotiating different contracts.

Determinants of Financial Performance of Indian Corporate Sector in the Post-Liberalization Era: An Exploratory Study

This paper attempts to provide an empirical validation of the widely held existing theories on the determinants of firm performance in the Indian context. The study uses financial statement and capital market data of 566 large Indian firms over a time frame of eight years divided into two sub-periods (viz., 1992-96, and 1996-2000) to study Indian firms' financial performance across various dimensions viz., shareholder value, accounting profitability and its components, growth and risk of the sample firms. It reveals that even on the same data, the determinants of market-based performance measures and accounting-based performance measures differ due to influence of 'Capital Market Conditions'. We found that size, marketing expenditure, and international diversification had a positive relation with a firm's market valuation. Apart from these firm attributes that reflect either operating parameters of firms or 'strategic choice' of firm managers, we also found that a firm's ownership composition, particularly the level of equity ownership by Domestic Financial Institutions and Dispersed Public Shareholders, and the leverage of the firm were important factors affecting its financial performance. The different implications of the findings for various stakeholders of a firm are also discussed.

Governance Structure and the Weighting of Performance Measures in CEO Compensation

We empirically examine how governance structure affects the design of executive compensation contracts and, in particular, the implicit weights of firm performance measures in CEO compensation. We find that compensation contracts in firms with higher takeover protection and where the CEO has more influence on governance decisions put more weight on accounting-based measures of performance (return on assets) than on stock-based performance measures (market returns). In additional tests, we further find that CEO compensation in these firms has lower variance and a higher proportion of cash (versus stock-based) compensation. We further find that CEOs' incentives (measured as changes in CEO annual wealth, which includes changes in the value of CEOs' equity holdings, in addition to yearly compensation) do not vary across governance structures. These findings are consistent with CEOs in firms with high takeover protection and high CEO influence on governance being able to influence the contracting.

The Cost Efficiency of German Banks: A Comparison of Sfa and DEA

We investigate the consistency of efficiency scores derived with two competing frontier methods in the financial economics literature: Stochastic Frontier and Data Envelopment Analysis. We sample 34,192 observations for all German universal banks and analyze whether efficiency measures yield consistent results according to five criteria between 1993 and 2004: levels, rankings, identification of extreme performers, stability over time and correlation to standard accounting-based measures of performance. We find that non-parametric methods are particularly sensitive to measurement error and outliers. Furthermore, our results show that accounting for systematic differences among commercial, cooperative and savings banks is important to avoid misinterpretation about the status of efficiency of the total banking sector. Finally, despite ongoing fundamental changes in Europe?s largest banking system, efficiency rank stability is very high in the short run. However, we also find that annually estimated efficiency scores are markedly less stable over a period of twelve years, in particular for parametric methods. Thus, the implicit assumption of serial independence of bank production in most methods has an important influence on obtained efficiency rankings.

Inside Directors, Managerial Competition, and the Asymmetric Information Problem

We posit that placing insiders on the board facilitates information flows to outside directors, mitigates the CEO's role as information gatekeeper, and allows managers to be more independent of the CEO. We find that inside directors are more prevalent in environments of greater information asymmetry. Further tests indicate that the percentage of insiders is associated with lower CEO pay, lower CEO influence, and higher use of accounting-based performance measures. However, these counterbalancing effects are diminishing in the number of insiders on the board. We conclude that insiders improve information flow to the board, foster managerial competition, and enhance board power.

The Evolution from Taylorism to Employee Gainsharing: A Case Study Examining John Deere's Continuous Improvement Pay Plan

With over $15 billion in annual sales, John Deere is one of the largest equipment manufacturing and distribution organizations in the world and is widely known as the world's premier producer of agricultural equipment. In the wake of significant downturns in the U.S. agriculture industry during the 1980s, John Deere believed it needed to change the manner in which employee performance was measured and rewarded. Specifically, after decades of using an individual-based, standard-hour compensation plan in its manufacturing facilities, John Deere decided to install a teambased gain-sharing plan that it believed would encourage more cooperation, innovation, and higher levels of motivation from its employees. This case provides students the opportunity to experience real-world conflicts of interest between employees and employers and the integral role that accounting-based performance measurement and reward systems play in resolving these conflicts. This case also provides students the opportunity to critically evaluate the theoretical strengths and weaknesses of two common compensation plans from the perspectives of both John Deere and its employees. Such juxtaposition allows students to see the inherent trade-offs in designing compensation systems, thereby improving students' understanding of optimal control system design.

The Impact of Incentives on the CEO Compensation and Firm Performance

A significant component of a management control system is the incentive mechanism and motivational underpinning of compensation contracts. Most executives are rewarded in the form of cash and company stock. The majority of public companies offers stock options or restricted stock in order to assure congruity of manager's welfare and owners' wealth maximization objectives. Our data indicate that over 75 percent of our observations include bonus pay to the CEOs and even a larger percentage, about 97 percent, have stock option grants. This study analyzes the impact of various incentives used in CEO compensation contracts in conjunction with firm's performance measures. We examined the significance of explanatory power of variables such as size, performance, and change in the number of employees in the compensation models. Our results indicate market-based performance measure is significant as an explanatory variable for both cash compensation (CC) and total compensation (TC) of CEOs. On the other hand, accounting-based performance measure is significant as an explanatory variable only for cash compensation. The regressions results indicate that increases in the number of employees influence both cash and total compensation positively. However, only cash compensation response appears to be statistically significant. Our results indicate significant differences in the means of compensation and performance measures, both market-based and accounting-based, associated with existence of bonus incentives. We also find that means of compensation and stock prices are significantly larger for CEOs who enjoy stock option incentives. However, the accounting-based measure of performance did not appear to be significantly influenced as a result of stock-based rewards.

META-ANALYSES OF THE PERFORMANCE IMPLICATIONS OF CULTURAL DIFFERENCES IN MERGERS AND ACQUISITIONS.

In an attempt to explain the lack of consensus that emerged from a review of the extant literature on the performance implications of cultural differences in mergers and acquisitions [M&A], meta-analyses were conducted for three categories of performance measures: stock market-based measures, accounting based measures, and socio-cultural integration outcomes. As hypothesized, meta-analytic findings indicate that cultural differences are associated with negative outcomes at the socio-cultural level, after correcting effect sizes for unreliability and bias, removing outliers, and controlling for firm relatedness and relative firm size. However, cultural differences were found to be unrelated to accounting-based measures of post-acquisition performance and positively related to abnormal returns for the shareholders of acquiring firms. We conclude that whether cultural differences have a positive or negative impact on M&A performance depends on the outcome variable under investigation, the nature and extent of cultural differences, the integration approach taken, and the interventions chosen to manage cultural differences.

Make or Buy New Technology - A CEO Compensation Contract's Role in a Firm's Route to Innovation

Firms obtain new technology either through internal R&D or through acquisitions. These two approaches are usually labeled as “make” and “buy” strategies. In this paper, I examine the relation between a firm’s choice of “make” or “buy” and the performance measures used in the firm’s CEO compensation contract. I focus on the two major differences between “make” and “buy” strategies: the risk levels and accounting treatments. I then examine the differential implications of accounting-based and stock-based performance measures on managers’ incentive in choosing between the two strategies. Using data from US high tech industries, I find that, firms relying on “buy” approach to obtain technology tend to depend more on the accounting-based performance measures, while those firms who innovate through R&D activities skew toward stock-based pay especially stock options.

In Defense of EVA(R)

Though an increasing number of companies worldwide are using EVA as a measure of corporate performance, it is often criticized as being a wrong measure of corporate performance. It is often argued that the market forms expectations on the market value of the company and not on the book value of the company, as EVA seems to indicate. Secondly, the expectations formed by the market consist of both periodic cash flows and capital gains. EVA does not seem to capture the effect of either of these components of expected return. Thirdly, it is argued that EVA is an accounting based performance measure and hence does not accurately capture the performance of the companies. In this paper, we however prove that, contrary to popular belief, EVA is actually a cash flow-based performance measure of the company. To be precise, EVA is the excess free cash flow that the management generates to meet the expectations of the investors. EVA-based management compensation systems are also often criticized on the ground that they lead to dysfunctional behavior on the part of the top management of the company. In particular, it is argued that EVA-based management compensation systems may discourage forward-looking expenditures like capital expenditure and Research and Development expenditure. In this paper we recommend a modified measure based on EVA and TVA (True Value Added) that addresses these issues. We argue that our modified measure not only address the above shortcomings of an EVA-based management compensation system, it can also address some of the shortcomings of Employee Stock Option Program (ESOP)-based management compensation system.