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Discuss the Risks Associated with Linking Executive Remuneration Solely to Financial Data

Introduction

The most important relationship in a firm is between owner and employees. According to the literature of corporate governance it has focused on the best way to constrict the opportunistic behavior of administrators that isn’t to proprietors’ greatest advantage. Executive remuneration is a conceivably strong gadget by which to lessen administrative astute conduct. Analysis on executive remuneration, in any case, has to a great extent focused on the senior executives of expansive open restricted companies. In spite of the fact that many researchers examine the compensation execution relationship in common companies, there is still a huge research that can be done in the public listed companies or governmental companies that yet have not gone through such situtions (Adams et al., 2012).

Unlike public limited companies, mutual companies do not have tradable property rights and so they face weaker market controls and therefore many times they are not controlled by the outer forces. Other corporate governance devices therefore take on a additional vital role in attenuating managerial opportunistic behavior. The Board of directors, for instance, play a vital role in monitoring the behavior of senior executives and many times the remunerations for the executives are based on the evalution of executives by the board of directors.

It’s also important that members should be remunerated in the simplest way as to serve owners’ interests by observance senior executives for their extra ordinary performances. Clearly, non-executive directors have a crucial role to play during this respect, and a vital issue relates to the remuneration and incentive structures offered to non-executive administrators (such as the Chair of the Board of a mutual savings and loan for example) as opposed to executive directors. This issue is probably going to be even more important in mutual building societies, however, because it is not clear that members (owners) interests are best served by an attribute of profit maximization (Aureli et al., 2012).

Conyon et al., (1998) explains that there are three measures of executive remuneration and it also aids the removal of serial correlation. Relative productivity is incorporated as an important variable since it catches the idea that chiefs might be paid for past great execution and it is less inclined to indigeneity issues (Conyon et al., 2000). Relative execution is just acknowledged to pay-setters after all firms’ gainfulness is freely accessible. In this manner, there might be a slack in regard of the effect of relative execution on executive remuneration. Both of these remuneration packages or techniques may differ form each other and have different impact on each other but the way both are used depends on the organization or organizational policy.

Critical Analysis

In this given article Elon Musk explains the new pay deals very clearly throughout this article. From last many years, people are assuming about Elon Musk’s future at Tesla, that whether he will be successful for next year or will he be stepped down in next two years. He is known for his ambitious bets, but the Tesla CEO was now gambling with his own net worth that means it can be assumed that, for next 10 years he will get nothing in form of pay or salary. Along with this no bonus will be given and also electric car because company may able to double its value.

According to one analysis, executive compensation, is given in different forms for example salary and bonus or even the little packages by the company. Other stock options and pension including share plan are considered debatable because many may consider them as a part of the parcal but some may not think of them as important. These are considered debatable because these factors are helpful for company to attract the employees and especially talented and skilled employees demand for these advantages. These factors such as retirement benefits, pension and others also grasp the attention of media or academics. The experts’ criticism is in different forms for example they criticize the pay level, and organization systems regarding the pay levels.

It twisted the prominent research paradigm in corporate governance zone because of the varieties of different criteria. In the corporate companies or the governmental agencies, these are different pay level and different remuneration packages for the executives which are suggested according to different circumstances. Different compensation bundles from the top administrators are attracting the attention of many executives and creating powerful impact on global level. It is motivating for those who are disappointed because of disapproval about expensive and attractive rewards as they can be sure of getting good rewards in future (Conyon et al., 2000).

As the article of Musk clarified the signfcance of remuneration offered by Tesla because Musk became an extremely rich person, who has filled in as Tesla’s executive since 2004 and as its CEO since 2008. Musk has been getting along fine and dandy in spite of never accepting a pay as long as he has been with the organization. In fact Musk, worth an expected $21.5 billion, will indeed deny his yearly paycheck of $56,000, the lowest pay permitted by law for an 80-hour weeks’ worth of work in Palo Alto, Calif., where Tesla is situated in 2018 and the decade from there on. This explanation relates, how an inexpensive and good quality firm has the ability to deal with organizational issues and most probably the existing top management of the organization took step about these issues (Faulconbridge et al., 2009).

During the 1999, different companies gave options to their top management and 82 percent compared the executive compensations. They concluded that the compensation in benefits of top management and executives are strongly helpful to reduce the expenses. On the other hand, it is also assumed that this factor can negatively affect the performance and interest of executives. The rewards, benefits and different remuneration packages are strong factors to increase the performance of employees including executives. Different researches have been conducted on this issue and most of the studies suggested that good salary package, extra benefits are crucial factors to attract the skilled and talented people toward organizations. These talented and skilled people can contribute in organizational operations and are able to increase the organizational performance. Most of the people consider that the extra pay and benefits are not expenses in fact it is an investment in organization to increase the employee performance. That’s why it is important to use fair means for salary and other benefits (Frydman et al., 2010).

After introducing new payment plan Musk could actually become much, much richer and so could Tesla’s stockholders. To earn any compensation which can be bought forward, Musk must develop Tesla, whose present market capitalization is about $59 billion, to $100 billion in showcase top. Furthermore the increment in its incomes or balanced profit (before premium, assessments, deterioration and amortization) is no less than 70%. That would fulfill the main point of reference of the 12-level remuneration stepping stool, enabling Musk to gather investment opportunities worth an extra $1 billion (Gerhart et al., 2014).

But Musk also has the opportunity to collect a significantly bigger windfall. On the off chance that Tesla’s reasonable worth scopes $650 billion by 2028. And if the other money related measures increase in the vicinity of 15 and 21 times Musk can keep every one of the dozen tranches of investment opportunities, netting him an extra $55.8 billion, as indicated by the organization.

Musk’s genuine reward would be significantly more noteworthy. All things considered, the CEO is likewise Tesla’s biggest investor, and in the event that he hits every one of the 12 execution breakthroughs. The organization figures Musk would claim as much as 28.3% of Tesla. With that extensive stake of a $650 billion organization, Musk’s total assets would surge to $184 billion in Tesla stock alone, possibly making him the wealthiest individual on the planet (Thornton et al., 2012). According to other literature which was conducted and studied for understajnding the remuneration revealed that these approaches of remuneration are although attractive for the executives and have positive impact on the organizations. But on the other hand these are very costly for the organization because organizations paid a lot for these services. According to estimates the expenses of remuneration are almost equal to paid taxes (Bender, 2004).

Zajac and Westphal’s (2004) have proposed the theories of logics relating to the relationship between logic and the salary plans that are offered to employees. These theories show the different dimensions of the relationship between what are the rules regarding remuneration and what is actually happening. Corporate success lies within the fact that official employees are experts whereas the other employees basically work as the consultants, and both of them are willing act to the greatest advantage of investors; though, expect that administrators are self-intrigued specialists and non-official chiefs go about as a limitation on the shrewd conduct of administrators, utilizing observing and motivating force systems to guarantee that officials demonstration to the greatest advantage of investors.

Rules and regulations regarding remuneration packages have diversity in them, they are made keeping in mind the best interest of the executives and help the organizations in understanding how pay packages should be made. These rules and principle are not strict but actually they are totally explained and easy to be changed according to the situations of the organizations.

This is a broad, yet not a comprehensive rundown; future research and level headed discussion among scholastics, specialists, financial specialists, controllers, and it is quite necessary to be sure that whether the definitions made about remuneration are accurate or not. They are also responsible for maintaining the rules and regulation and following the principles related to remuneration. For example, these rules provide the guidelines that whether the remuneration being provided to any executive is compatible or not. The change in principles regarding these issues requires a board or the council to settle down on numerous choices that may differ crosswise over associations, ventures, nations, eras, and so forth (Kostiander et al., 2012).

Although the logics and the principles regarding the remuneration packages are quite clear but still how much they are applied in organizations or how much they are being followed is totally unclear. It is totally clear that earlier investigations have concentrated on official remuneration when all is said in done terms, not particular choices that remuneration boards of trustees made. The uncommon exemptions are

Bender’s (2007) investigated the uncommon exemptions and inferred that the reasons due to which 12 principles regarding remuneration have been rolled out. In settling on and revealing choices, the remuneration panel should organize the remuneration principles in some way in light of the fact that not all principles can be at the same time instituted. Future research ought to analyze how various Logics, the shifting convictions of chiefs, officials, and so forth influence the prioritization and emblematic utilization of the principles (Lan et al., 2010).

Conclusion

In this paper there are three ideas which explain whole story and these three ideas are have been generated form them principles made about remuneration, the remuneration practices and the processes that are being followed by the governmental companies. Remuneration advisory groups utilize the essence made through remuneration rules and bundles for administrators and to assess their execution, so officials act to the greatest advantage of investors. This helpful approach is tempered and it means that not all non-official chiefs trust that money related impetuses propel administrators, they expect to pay officials equivalently to their companions. The main theme behind the remuneration process and the way it is being used is undoubtedly made through the diffusion of expert systems. The principles or mechanisms through which the remuneration packages are made are controlled by the trustees and board of directors which also helps the executives by shielding their remuneration packages from the impact of investors, the mass media and the controllers. Although much of the research has been done in this regard but till today no proper method of remuneration has been devised. The level of executives differs in every organization and the levels of organizations is quite different too, one method which may be suitable for one company may not be suitable for the other. Much research on this topic needs to be done in the future for making packages which may be suitable for most of the organizations.

Question 2: Using your knowledge of balanced scorecards and organizational performance address the following:

Discuss the risks associated with linking executive remuneration solely to financial data.

There are number of risks associated with linking executive remuneration solely to financial data. Most of the risks are as follows:

  • Incentives can be disintegrated and when it will be low it can cause low employee engagement.
  • If the remuneration solely related to financial data it can cause the accounting issues and frauds in the organization.
  • If the company performance and profit is quite high it would not be possible to pay high incentives and reward to the executives.
  • If company pay according to performance so because of this process lower level employees can be ignored by the company.
  • Risk because of hierarchical culture creates a great deal of consideration and open deliberation.
  • Employees are required to make a yearly announcement of consistence with this prerequisite.
  • This process of remuneration can create conflicts among top level management.
  • This process has strong potential to negatively impact the organizational culture.
  • The Group arrangement isn’t to grant any optional annuity benefits.
  • The private organizations can pay well remuneration as compared to governmental so this process can create problems for governmental organizations.

The organizing of compensation and advantages in business contracts can show the two openings and dangers for associations. Not any single procedure is best in all situations so it depends upon the situation that which remuneration method can work best in which organization.

Discuss how management could use a balance scorecard to overcome these risks.

There are plenty of risks that are associated with the risk pf using only financial data for making or linking it with the executive remuneration package. The balanced scorecard was prepared by Robert Kaplan who was a Harvard University professor, and David Norton. They started their research in 1990 in several companies and they aimed that they must find some new methods of performance measurement. Generally, enterprises had been depending primarily on monetary measures to show execution. Numerous reactions emerged about utilizing just budgetary measures to track association execution (Landry, et al., 2002). But due to the efforts of Kaplan and Norton, balanced scorecard has been made which can be used by organizations easily for measuring the performance of the organization or for understanding the impact of risks which can be raised in organizations due to use of financial data for executive remuneration. Balanced score card gives the organizations an opportunity of using different measures for understanding whether the organization is working successfully or it needs some changes (Marin, 2017).

The balanced score card can be used by the organizations as they can assign some specific numbers with some specific risks to understand the impact of those risks on the organizations. The balanced scorecard gives the organizations a chance for mitigating the risk before it has actually occurred a loss for the organization. In case of risks arising due to use of balanced scorecard the organization can get ready and make employees ready for facing the challenge that are coming up their way in the near future. It helps the organization to be prepared for the loss before it actually happens (Mark, et al., 2006). Money related measures regularly include data from all levels condensed in abnormal state budgetary explanations. Information displayed in such a way may not be extremely helpful in light of the fact that regularly they don’t achieve every one of the levels of the association and its representatives.

Question 2:

1):

Sale = Total Fixed Cost + Targeted Income / Contribution

75000 = 687500+1000000/0.45

= $3750000

Answer cross checked:

Sales $ 3,750,000.00
VC $ 2,062,500.00
Contribution $ 1,687,500.00
FC $ 687,500.00
Profit $ 1,000,000.00

2):

Total Cost $ 2,506.25
Direct material $ 1,200.00
DL $ 1,306.25
Overhead allocated $ 2,285.94

3):

Regular Customer Special Order
Direct material 6500 7000
Add: Direct labour 2500 2500
Add: Variable Manufacture overhead 1500 1500
Add: Fixed Manufacture overhead 9500 9500
Total 20000 20500
Markup 10000 10250
Selling price 30000 30750

4):

Annuity Factor (1-(1+r)^-n/r
$ 8.56
cash flow $ 300,000.00
Cost $ 2,567,843.61

5):

Years Inflow
1 6000 -13000
2 8000 -5000
3 7000 2000
4 6000 8000
5 5000 13000
32000

Payback Formula:

Investment required/ Net annual cash flows

0.714285714
Payback Period 2.71

6):

Years 0 1 2 3 4 5
Inflow -19000 6000 8000 7000 6000 5000
Discount factor @10% 1 0.9091 0.8264 0.7513 0.6830 0.6209
NPV ($19,000.00) $5,454.55 $6,611.57 $5,259.20 $4,098.08 $3,104.61
NPV $5,528.01

7):

i):

Accountant did not follow the proper discounted cash flow techniques to evaluate the project. He apportioned overhauling cost over the project life span rather than to account for it in relevant year and then discount it. Through which he wrongly calculate the return of project over the period.

ii):

Years 0 1 2 3 4 5 6 7 8
Inflows 85000 85000 85000 85000 85000 85000 85000 85000
Depreciation -38250 -38250 -38250 -38250 -38250 -38250 -38250 -38250
Overhaul cost 0 0 0 0 -90000 0 0 0
Net Cash flows 46750 46750 46750 46750 -43250 46750 46750 46750
Investment -320000
Discount Rate @15% 1 0.869565217 0.7561437 0.657516232 0.5717532 0.497176735 0.432328 0.375937 0.326902
-320000 40652.17391 35349.716 30738.88387 26729.464 -21502.8938 20211.32 17575.06 15282.66
NPV -154963.626
Discount @ 10% 1 0.909090909 0.8264463 0.751314801 0.6830135 0.620921323 0.564474 0.513158 0.466507
-320000 42500 38636.364 35123.96694 31930.879 -26854.8472 26389.16 23990.14 21809.22
NPV -126475.119

iii):

Internal Rate of Return:

Lower rate +NPV at lower rate/NPV at lower rate-NPV at higher rate *(higher rate-Lower rate)

IRR = 12%

This is lower than the company’s desired rate of return which is 15%

8):

i)

Sale Budget Oct Nov Dec
Units 20000 25000 30000
Sales Price 4.5 4.5 4.5
Total Sales 90000 112500 135000 337500
Purchase Budeget Oct Nov Dec Jan Total of quarter
Budgeted Sales 20000 25000 30000 28000
Add: Desired Inventory 7500 9000 8400
Total Inventory needs 27500 34000 38400
Less: Beginning Inventory 6000 7500 9000
21500 26500 29400 77400

ii)

Purchase Budget Oct Nov Dec Jan Total of quarter
Budgeted Sales 20000 25000 30000 28000
Add: Desired Inventory 7500 9000 8400
Total Inventory needs 27500 34000 38400
Less: Beginning Inventory 6000 7500 9000
21500 26500 29400 77400

iii)

Cash Budget Oct Nov Dec
Cash of Oct 81000
Cash of Sep 7200
Payment of Aug 24000
Payment of Sep 24000 24000
Credit of Oct sales 9000
Cash of Nov 101250
Payment of Oct 30000 30000
Credit of Nov 11250
Cash of Dec 121500
Payment of Nov 37500
Total Cash 40200 56250 65250 161700

References

Adams, R. B and Gianneti, M. (2012) ‘Is pay a matter of values?’, International Review of Finance, Vol.12 No.2, pp.133-173.

Adamson, M., Manson, S. and Zakaria, I. (2014) ‘Executive remuneration consultancy in the UK: Exploring a professional project through the lens of institutional work’, Journal of Professions and Organization, Vol.2, No.1, pp.19-37

Aureli, S. and Salvatori, F. (2012) ‘An investigation on possible links between risk management, performance measurement and reward schemes’, Accounting and Management Information Systems, Vol.11 No.3, pp.306-334

Bender, R. (2007) ‘Onwards and upwards: Why companies change their executive remuneration schemes, and why this leads to increases in pay’, Corporate Governance: An International Review, Vol15. No.5, pp.709-723.

Bender, R. and Moir, L. (2006) ‘Does ‘Best practice’ in setting executive pay in the UK encourage ‘Good’ behaviour?’, Journal of Business Ethics, Vol.67 No.1, pp.75-91

Conyon, M. J., Peck, S. I., Read, L. E. and Sadler, G. V. (2000) ‘The structure of executive compensation contracts: UK evidence’, Long Range Planning, Vol.33, pp.478-503

Faulconbridge, J. R., Beaverstock, J. V., Hall, S. and Hewitson, A. (2009) ‘The ‘war for talent’: The gatekeeper role of executive search firms in elite labour markets’, Geoforum, Vol.40, pp.800-808.

Frydman, C. and Saks, R. E. (2010) ‘Executive compensation: A new view from a long-term perspective, 1936-2005’, Review of Financial Studies, Vol.23 No.5, pp.2099-2138.

Gerhart, B. and Fang, M. (2014) ‘Pay for (individual) performance: Issues, claims, evidence and the role of sorting effects’, Human Resource Management Review, Vol.24, pp.41- 52.

Lan, L. L. and Heracleous, L. (2010) ‘Rethinking agency theory: The view from law’, Academy of Management Review, Vol.35, pp.294-314.

Landry, S. P., Chan, W. Y. C. & Jalbert, T., 2002. Balanced scorecard for multinationals. Journal of Corporate Accounting and Finance, Vol. 13 No. 6, pp. 31-40.

Marin, G., 2017. The Role of the Balanced Scorecard as a Tool of Strategic Management and Control. Journal of Innovations and Sustainability, Vol. 3 No. 2, pp. 31-63.

Mark, B., Chen, A., Nunez, K. & Wright, L., 2006. Working hand in hand: Balanced scorecards and enterprise risk management. Strategic Finance, Vol. 87 No. 9, p. 49.

Thornton, P. H., Ocasio, W. and Lounsbury, M. (2012) The Institutional Logics Perspective: A New Approach to Culture, Structure, and Process, Oxford University Press, Oxford.

Westphal, J. D. and Zajac, E. J. (2013) ‘A behavioral theory of corporate governance: Explicating the mechanisms of socially situated and socially constituted agency’, Academy of Management Annals, Vol.7 No.1, pp.607-661.

Zajac, E. J. and Westphal, J. D. (2004) ‘The social construction of market value: Institutionalization and learning perspectives on stock market reactions’, American Sociological Review, Vol.69 No.3, pp.433-457.

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