Managers and the company Essay
Performance measures are more advantageous for certain departments such as sales and supervisory personnel. An ineffective performance measure such as order turn around involves performance of other departments for which sales people do not have any control over. Plan may create hostility among the sales people and the other department controlling order turn around if the details of the incentive reward are not kept confidential. If order accuracy is less than 95%, no bonus will be awarded to the participant. No bonus for staff personnel in the current year.
Questions 1-B. Evaluate the annual and long-term incentive compensation plans for senior management (in place and as modified during 1983 – 1992), what problems do these plans solve? What problems do they create? AICP: The SICP will motivate managers to increase ROA and sales, which aligned the interest of managers with the strategy of the company. It will also reduce the possibility of manipulating the performance by the management, because the comprehensive measures are based on the performance of both ROA and Sales growth; The translation from reaching the goal to the bonus is clear, manager could read directly from the matrix the factor by which his/her target bonus would be multiplied to
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However, mangers may only focus on sales growth and profit but ignoring other factors, such as cost control, after-sales services; therefore managers may shift more attention to high profit customers but ignored lower profit customers who could be long-term profitable, which might result the loss for both of managers and the company; it may also ignore the outstanding performance as it is an average percentage payment for all senior mangers in a business unit.
LTIP: In the long run, it is good to the company the plan focused more attention on the result of the long term in 5 years, even if with one or two bad years performance the manager could still get a payment; so LTIP motivates the managers to pay attention to long-term effectiveness and pay continuous efforts; Since the bonus was cumulative for five years, a huge bonus could be an attractive incentive for managers to work harder in stand view of organizational behavior.
But the complexity of the plan may be difficult to understand which will give managers more leisure time since one or two bad year would not effect the bonus significantly. In addition, this plan will provide rooms for management to manipulate the book value of the share as a result, the historical book value may not reflect the current market value which results the bonus amount biased. New LTMIP: New LTMIP will not only align the interests of shareholder’s and the management but also can be flexibly adjusted when changes of responsibility or positions occurs as equitable adjustment will be made, in addition, LTMIP reflects more accurately the current period’s performance of managers. Finally, It takes consideration of extraordinary events and allows subjective adjustment.
New LTMIP lacks of full consideration of economic reasons or unforeseen problems and other critical factors, such as inventory and accounts receivable control, in addition, may forgo profitable long-term projects while taking short-term higher ROE investment. Last, it may causes accounts being cut-off: increased the sales figure by transferring next year’s sales to current year. Proposed New EVAIS: The new system was designed to more closely align the interests of management and shareholders. EVA may aligned the interests of management and shareholders much closer, and could serve the overall strategy of the company better than the existing system in both of short term and long term.
However, the EVA system is more time consuming and complicated because it needs a lot of adjustment and data analysis based on the financial statement. Bonus was affected by many factors, and some of the factors, such as Performance Unit Value, could make managers exhausted and frustrated. Because whenever the actual EVA was lower than or equal to the base line EVA, the bonus could be lower. Managers will be misguided to pursue the investment in the good projects whenever the projects will increase EVA, but ignore the cash flow problem in short term. Some numbers such as $1625000 of sensitivity factor was set subjectively; it is hard to judge its reasonability. In this case, this could lessen the effectiveness of the incentive plan.
Recommendations: The base salary for the next 5 years should be frozen. Duckworth Industries should also kept the bonus units constant for the next 5 years. The baseline EVA should be set at least 5% higher than the projected 1993 EVA and should be adjusted using the proposed 50% annual target adjustment factor as illustrated in the case. Base unit value should be set at 50 cents per unit for the Worth Corporation so it will provide managers with the limited leverage of not meeting the targets in contrary to the leverage of $1 and 80 cents thereafter since it seems to be quite lenient on management.
EVA Bonus Sensitivity Factor should also be adjusted as the sales increase relative to the division. The new EVA system is oversight by the top executives (primarily Mr. Duckworth and the Board of Directors), and it should be modified because of the relative complexity and modernization of this system, many risks for the company increase that could ultimately lead to problems if not monitored appropriately.