Participative budgeting with kinked linear payment schemes

This paper studies the truth-inducing property of a class of budget-variance-based payment schemes calledkinked linear schemes. In these schemes, the manager is either paid a bonus proportional to a favorable budget variance, or charged a penalty proportional to an unfavorable budget variance. With the penalty rate higher than the bonus rate per unit variance, the payment to the manager is piecewise linear in the actual output and kinked at the budgeted output. This paper shows that participative budgeting with kinked linear compensation schemes can induce truthful reporting of expected output from an informed manager even when the manager can shift the underlying output distribution by his unobservable efforts. Furthermore, participative budgeting with kinked linear payment schemes can achieve optimal contracting between a risk-neutral manager and a risk-neutral owner even in a setting where a menu of linear payment schemes cannot. This paper is based on my dissertation at University of California-Berkeley. I am grateful to my dissertation committee members (P.K. Sen, Nils Hakansson, and Robert Anderson), and other faculty members at the University of California-Berkeley. I thank anonymous referees, my colleagues at New York University, and the participants at the 1991 annual meetings of the American Accounting Association and the European Accounting Association for their helpful comments.     

Antecedents of participative budgeting

This paper has four purposes. First, it analyzes 47 published studies on participative budgeting. Almost all of these studies focus on the effects of participative budgeting and not on its causal antecedents. Second, to provide insight into these antecedents, we report the results of a survey which identifies reasons why managers participate in setting their budgets. Third, we report how these reasons are associated with four theoretical antecedents—environmental and task uncertainty, task interdependence and superior-subordinate information asymmetry. The results indicate that participative budgeting is most important for planning and control, specifically vertical information sharing and co-ordinating interdependence, and that specific reasons for participative budgeting are correlated with three of the antecedents. Finally, directions for future research on participative budgeting are presented.     

Informational influences on group decision making in a participative budgeting context

Potential benefits derived from participative budgeting may be unattainable if employed in certain group configurations. A model is developed based on group polarization research which demonstrates that the participative process that is supposed to increase motivation may generate decisions that are opposed to the integrative aspect of budgeting in a subsystematic environment. A laboratory experiment manipulating information/leadership tests the model's validity. Results indicate a polarization in attitude, while information/leadership affect the direction and strength of polarization.     

Relating Context Variables to Participative Budgeting and Evaluative Use of Performance Measures: A Meta‐analysis

Extant findings regarding how context variables relate to participative budgeting and the evaluative use of accounting performance measures (APM) are contradictory. Unlike previous reviews of such findings, this empirical article uses a meta‐analysis to examine the relations of context variables with participative budgeting or evaluative use of APM to determine (i) how the variables relate and (ii) which factors might cause between‐correlation variance, such as statistical artefacts or moderating influences of variable measures, sample selection, or industry differences. All meta‐analyses are based on rather small samples. Three groups of context variables emerge. First, some relate significantly and homogeneously to participative budgeting or evaluative use of APM; these direct relations should be considered explicitly in further studies. Second, for some variables, the relations are homogeneous but not significant, such that they are neither simple nor direct. Third, substantial variance exists in the correlations for some context variables; these relations are contingent on other influences. Industry differences and sample selection explain some inconsistencies in exploratory moderator analyses and should receive additional research attention.     

Flexible Budgets for Cellular Manufacturing Systems

A flexible budgeting method based on relationships amongst the products manufactured in a cellular manufacturing system and the stochastic nature of expenditures is developed. Differential penalty costs for budget variances specified by the user determine an optimal ratio which is used in developing the flexible budget. The budget uses direct materials cost as the base, and is particularly well-suited for just-in-time operation in manufacturing.     

Motivating Innovation

Motivating innovation is important in many incentive problems. This paper shows that the optimal innovation‐motivating incentive scheme exhibits substantial tolerance (or even reward) for early failure and reward for long‐term success. Moreover, commitment to a long‐term compensation plan, job security, and timely feedback on performance are essential to motivate innovation. In the context of managerial compensation, the optimal innovation‐motivating incentive scheme can be implemented via a combination of stock options with long vesting periods, option repricing, golden parachutes, and managerial entrenchment.     

Variance analysis as an incentive device when payments are based on rank order

This paper investigates the use of variance analysis data for performance evaluation if payments are restricted to ordinal incentive schemes. Within a simple agency model assuming the use of a binary compensation scheme based on a rank order tournament, information systems are analysed with respect to their efficiency. It is shown that the well-known informativeness results derived in the standard agency model can be extended to this setting. The findings are applied to the ranking of different variance decomposition procedures proposed in the management accounting literature.     

Motivating Management to Reveal Inside Information

This paper develops incentive schemes which motivate a manager to release private information that he has concerning the probabilities of occurrence of the various output levels of his firm. It is shown that, in the context of a pure-exchange economy, a complete prohibition on the manager's trading in his firm's stock is sufficient to motivate him to truthfully release his private information. When the setting is extended to that of a production-exchange economy, the manager must also be allowed to choose the production plan that he most prefers in order for him to be motivated to release his information truthfully. In fact, no incentive scheme in a general production-exchange economy can be guaranteed to motivate the manager to release his information truthfully if he is not allowed to choose the production plan freely. However, when more structure is placed on the economy, such an incentive scheme can be developed as described in the latter part of this paper.     

基于EVA的股票期权激励机制探讨

在委托代理关系中，企业所有者和经营者的目标函数存在差异，由此产生代理成本，需要对经营者进行相应的激励。然而，基于传统业绩评价而实施的股票期权存在一些弊端。本文探索将股票期权嫁接到EVA（经济附加值）平台之上，提出了基于EVA的经理人股票期权激励方案，以期能更有效地解决激励问题。     

Subjective Performance Indicators and Discretionary Bonus Pools

Key indicators of managerial performance are frequently subjective, that is, they are difficult to specify and/or verify for contracting purposes. When a principal must rely on subjective information to create incentives for a group of agents, discretionary bonus pools are shown to be optimal mechanisms. Despite their optimality, however, discretionary bonus pools entail an additional agency cost relative to the benchmark of optimal contracts based on objective and verifiable information. Our analysis identifies circumstances under which this additional agency cost is small, for example, the subjective information signals are precise, or the number of agents participating in the bonus pool increases. When incentive schemes can be based on both objective and subjective performance indicators, the relative weights to be placed on alternative signals are shown to differ from the ones predicted by models with objective signals only. We also demonstrate that correlation in measurement errors has a different impact on the structure of optimal incentive schemes when the performance indicators are merely subjective.     

Participation in budgeting: A critical anthropological approach

Accounting researchers adopting structural and post-structural interpretive approaches have long criticized mainstream assumptions about the enduring economic aspects of accounting systems, highlighting their roles in reflecting and shaping social realities that are contradictory, diverse, and changing. The paper aims to develop this critique by inquiring empirically and philosophically into the roles that constructing participation in budgeting might play in enhancing ‘ontological plurality’, that is, supporting actors’ perspectives, abilities and concerns which are generally excluded by structuring action to maximize private profits. It defines and elaborates a critical anthropological approach using Marx’s notion of ‘social praxis’ and Latour’s idea of ‘modes of existence’ to highlight the theoretical contribution of anthropologists exploring beyond traditional divides over social agency through studies of grassroots participative responses to contemporary socio-economic crises. Drawing on ethnographic data collected through a multiple site case study of eight worker cooperatives in Argentina, the paper analyses how reciprocal relations between the actors’ levels of agency in wider associative actions, and their degrees of participation in budgeting, caused gradual expansions in ontological plurality, moving the actors beyond their particular tensions and broader structural conflicts. Exploring the notion of ‘ontological movements’, the paper develops a continuum of participation and ontological pluralism in budgeting, which it argues contributes to the structural and post-structural interpretive accounting literatures through historical, constructive, and participative components.     

Risk-taking in new project selection: Additive effects of bonus incentives and past performance history

The goal of this study is to investigate how past project performance history and bonus incentive pay schemes affect managers' propensity to select more or less risky projects. Performance history is manipulated via past positive outcomes (i.e. beating a target profit rate) and negative outcomes (i.e. missing a target profit rate). Two types of bonus incentive pay schemes (hurdle bonus and graduated bonus) were employed in the study. The findings are consistent with prospect theory that predicts that prior bad outcomes (negative performance history) motivate greater risk-taking than prior good outcomes (positive performance history). In addition, we find evidence that hurdle and graduated bonus incentive schemes also affect risk taking. Overall, we find an additive effect of these two factors, such that the greatest (least) risk taking occurred when participants had negative (positive) prior experience coupled with a graduated (hurdle) bonus scheme.     

Wealth effects and committed cost allocation: An agency theory perspective

In this article we examine the effects of committed costs (CC) on compensation and effort (production) decisions in a principal-agent (P-A) setting. In the case where moral hazard is present, the compensation and effort (production) decisions are independent of CC whenever P has constant absolute risk aversion. When P has decreasing absolute risk aversion, he demands as increased risk premium, therefore increases the spread of the compensation schedule, and induces A to increase effort (production) and vice versa. The optimal compensation scheme can be decomposed to conform to incentive schemes that are generally observed in practice. In particular, we decompose the optimal compensation scheme that depends on CC into two parts—a part that is based on cash flows and a part that is based on income (after allocating committed costs). In the case where effort is observable, CC does not effect the compensation scheme and effort decisions, when P has constant absolute risk aversion. In contrast to earlier studies that examine the owner-manager case, when P has decreasing absolute risk aversion, effort (production) could either increase or decrease. The presence of moral hazard affects the effort (production) decision differently than when risk-sharing considerations alone exist. The reduction in A's compensation induced by increased CC never exceeds the amount of CC.     

关于当前我国证券公司实行股权激励的监管思考

我国证券公司目前实行股权激励的部分背景条件正逐步形成,但是仍存在制约因素,而且可供复制的相关成功实践较少。因此,全面开展证券公司股权激励还为时过早,证券监管部门应引导先试点再推行,使得股权激励为证券业发展发挥积极作用。     

A Model of Equity Based Compensation with Tax

In this paper, we develop a two‐stage continuous time model of employee stock option (ESO) valuation under different tax regimes. We show that tax rules can have significant effects on ESO exercise behavior. In addition, we find that incentive stock options (ISO) are the optimal form of compensation for all levels of employees in the UK. In the US, restricted stock plans are preferred, and tax breaks offered by incentive schemes are only beneficial to employees with high liquid wealth (or small option holdings relative to wealth) or low risk aversion. We also analyze 83b elections for restricted stock plans in the US and find that making an election is a sub‐optimal decision for both the employee and the firm.     

The Capital Budgeting Process: Incentives and Information

We study the capital allocation process within firms. Observed budgeting processes are explained as a response to decentralized information and incentive problems. It is shown that these imperfections can result in underinvestment when capital productivity is high and overinvestment when it is low. We also investigate how the budgeting process may be expected to vary with firm or division characteristics such as investment opportunities and the technology for information transfer.     

Option Value to Waiting Created by a Control Problem

We study a principal-agent model in which there is an option to defer a capital project approval decision. A control (incentive) problem makes the option to wait valuable when it would not have been valuable otherwise. Deferring the project approval decision has both a cost and a benefit. The cost of waiting is that the agent's uncertainty regarding future project cost realizations cannot be exploited. However, by delaying the first project's approval decision, the principal can condition its approval on the agent's cost report of the second project. Such conditioning can be valuable in the provision of incentives because of a diversification effect.     

Macroeconomic stabilization through taxation and indexation: The use of firm-specific information

This paper considers two alternative approaches to stabilizing an economy with firm-specific productivity disturbances. The first uses wage contracts tying wages in each firm to these disturbances as well as the price level. The second uses a taxation scheme together with a wage indexation rule tying wages to prices alone. Both these schemes are viable as long as the firm-specific disturbance is known to all agents. If the firm alone observes the productivity disturbance, under either scheme it has an incentive to misrepresent current conditions. However, a combination of these two schemes is both welfare maximizing and incentive compatible.     

Controlling the incentive problems in real estate leasing

This paper develops a formal model that characterizes potential conflicts of interest between real-estate landlords and tenants. The model demonstrates a tenant's incentive to undermaintain or overuse (i.e., abuse) a leased property while highlighting the moral hazard problem as a cause of the failure of the lease irrelevance proposition. As a consequence, the lease irrelevance proposition's faiure implies that if tenant abuse incentives are left unrestricted, the market for leased real estate may cease to function.The efficacies of various lease arrangements suggested by Smith and Wakeman (1985) and other researchers in controlling the tenant abuse incentives are evaluated in this framework as a means of counteracting the inherent problems. Our analysis supports the greater use of variable lease schemes (e.g., security deposits and penalty clauses), which peg real-estate lease rates to the level of property abuse rather than more traditional fixed payment contracting arrangements.     

Accounting Earnings Processes,Inter-temporal Incentives and Their Implications for Valuation

Accounting measures such as levels and changes in residual earnings are widely used for performance evaluation and executive compensation (Healy, 1985). Quite often, these compensation contracts are of the linear form. In a multiperiod agency setting with hidden actions, where the agent's effort influences the random evolution of a general model of residual earnings, we show that linear compensation contracts based on weighted sum of the levels and changes of residual earnings are indeed optimal. We characterize the contract explicitly and show that the weights are determined by the earnings persistence parameter. Residual earnings are known to be important for valuation too (Ohlson, 1995; Easton and Harris, 1991). In our setting, we demonstrate that residual earnings are also sufficient for valuation. This implies that residual earnings can be used to align incentive goals with valuation objectives. In essence, our paper provides the theoretical underpinnings for linear contracts based on residual earnings and their implications for valuation.