Accounting-based Incentive Plans for Executives

Christian Rye Holm

Student thesis: Master thesis

Abstract

The purpose of the master’s thesis is to clarify the theoretical thoughts behind the use and design of incentive contracts and bonus schemes for the management of the Danish firms listed on Copenhagen Stock Exchange. Furthermore, this master’s thesis analyses the empirical use of incentive contracts and bonus schemes for the management and revels whether it is different from to theoretical recommendations. There exists a principal-agent relationship in listed firms. The relationship appears when the board of directors appoint the management to take care of the daily operation of the firm. According to theory, this will create a problem, due to the fact, that the management and shareholder’s interests are different. The use of incentive contracts can reduce or prevent this problem by alignment of interests of the management and the shareholders. A list of bonus criteria has been identified in this paper, and they can be seen as a framework of conditions, which has to be met in order to design a proper incentive contract. The criteria are used to assess the quality of the performance measure, standard and structure in the contract. The theory recommends the use of relative performance measures and external standards in the design of the incentive contracts for creating a strong congruence between the interests of the management and shareholders. Furthermore, the theory advocates use of a bonus bank in order to deal with shortsighted management, and to secure that poor performance can be punished without the management having to pay the company with money from their own pocket. The theoretically recommendations are different to the findings of the empirical analysis. The empirical findings are conducted on an analysis of 103 companies. The analysis shows that the companies in a broad range make use of absolute performance measures in form of net earnings or EBIT, and use internal standards in form of either budgets or discretionary standards. Moreover, only a few of them make use of a bonus bank in their incentive contracts, which potentially leads to short-term thinking. Overall, the empirical findings show a lack of theoretically alignment of the interests of shareholders and the management.

EducationsMSc in Finance and Accounting, (Graduate Programme) Final Thesis
LanguageDanish
Publication date2018
Number of pages101
SupervisorsCaspar Rose