667020
Description
Mind Map by Shahid Musthafa, updated more than 1 year ago
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Created by Shahid Musthafa
over 10 years ago
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A: Managerial
Reward Schemes
- Remuneration
linked to minimum
profit levels
- Merits
- This scheme would be easy to
set up and monitor.
- This scheme would be easy to
set up and monitor.
- Demerits
- scheme may lead to managers taking decisions
that would result in profits being earned in the
shortterm at the expense of longterm profitability
- The scheme might also tempt
managers to use creative accounting
to boost the profit figure.
- It could also lead to
managers underachieving,
i.e. relaxing as soon as the
minimum is achieved.
- scheme may lead to managers taking decisions
that would result in profits being earned in the
shortterm at the expense of longterm profitability
- Merits
- Remuneration linked to
economic value added
(EVA)
- Demerits
- A potential disadvantage
is that calculating the
bonus may be complex.
- A potential disadvantage
is that calculating the
bonus may be complex.
- Merits
- EVA is a measure of
the increase in the
value of shareholder
wealth in the period.
- designed to more
closely align the
interests of the
employee and the
shareholder
- EVA is a measure of
the increase in the
value of shareholder
wealth in the period.
- Demerits
- Remuneration
linked to turnover
growth
- Merits
- Growth of the business and higher production
levels can lead to economies of scale which in turn
can help the business compete more successfully
on price.
- Growth of the business and higher production
levels can lead to economies of scale which in turn
can help the business compete more successfully
on price.
- Demerits
- IMPACT on
Profitability
- However, turnover growth
could be achieved at the
expense of profitability,
- E.g. by reducing selling prices or by
selecting high revenue product lines which
may not necessarily be the most profitable.
- Maximising turnover is
therefore unlikely to
maximise shareholder
wealth.
- Maximising turnover is
therefore unlikely to
maximise shareholder
wealth.
- E.g. by reducing selling prices or by
selecting high revenue product lines which
may not necessarily be the most profitable.
- However, turnover growth
could be achieved at the
expense of profitability,
- IMPACT on
Profitability
- Merits
- An executive share
option scheme
(ESOP)
- This scheme has the advantage that it will
encourage managers to maximise the value of the
shares of the company, i.e. the wealth of the
shareholders. When an executive is awarded share
options, the theory is that it is in their interests for
the share price to rise, so they will do whatever
possible to improve the share price. Their interests
will be best served by working towards a goal that is
also in the interests of the shareholders.
- Such schemes are normally set up over a relatively
long period thereby encouraging managers to
make decisions to invest in positive return projects
which should result in an increase in the price of
the company shares. However, efficient managers
may be penalised at times when share prices in
general are falling.
- Such schemes are normally set up over a relatively
long period thereby encouraging managers to
make decisions to invest in positive return projects
which should result in an increase in the price of
the company shares. However, efficient managers
may be penalised at times when share prices in
general are falling.
- Demerits
- When directors exercise their share options, they
tend to sell the shares almost immediately to
cash in on their profit. Unless they are awarded
more share options, their interest in the share
price therefore ends when the option exercise
date has passed.
- If the share price falls when options have been
awarded, and the options go ‘underwater’ and
have no value, they cannot act as an incentive.
- If a company issues large quantities of share options, there
could be some risk of excessive dilution of the equity interests
of the existing shareholders. As a result, it has been
suggested that companies should recognise the cost of share
options to their shareholders, by making some form of charge
for options in the statement of profit or loss.
- Directors may distort reported profits (creative
accounting) to protect the share price and the
value of their share options.
- When directors exercise their share options, they
tend to sell the shares almost immediately to
cash in on their profit. Unless they are awarded
more share options, their interest in the share
price therefore ends when the option exercise
date has passed.
- This scheme has the advantage that it will
encourage managers to maximise the value of the
shares of the company, i.e. the wealth of the
shareholders. When an executive is awarded share
options, the theory is that it is in their interests for
the share price to rise, so they will do whatever
possible to improve the share price. Their interests
will be best served by working towards a goal that is
also in the interests of the shareholders.
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