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Accounting 304 > Midterm 2 > Flashcards

Midterm 2 Flashcards

1
Q

Contingent contracts create…

A

Value - align incentives and share risk

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2
Q

External negotiations are rough without…

A

Internal alignment - less time on strategy & more on interests

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3
Q

Owner-Manager incentive conflicts (5)

A
  1. Choice of effort
  2. Perquisite taking
  3. Differential risk exposure
  4. Differential horizons
  5. Over investment
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4
Q

Hierarchy in a firm

A 
Shareholder
CEO
Divisional manager
Plant manager
Workers
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5
Q

Sources of conflict

A
  1. Differences in preferences for perquisites and effort
  2. Differences in decision horizon
  3. Differences in risk preferences
  4. Differences in investment incentives
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6
Q

Elements of organizational architecture

A

Delegated decision authority
Performance measurement
Reward system

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7
Q

Contracts designate…

A

Actions, rules, payments, expectations

Can be explicit and implicit

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8
Q

Contract parties voluntarily agree to….

A

Modify behavior for mutual benefit.

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9
Q

Organizational architecture

A

Decision rights
Reward system
Performance measurement

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10
Q

Benefits of decentralization

A

Effective use of knowledge
Conservation of management time
Training and motivation for local managers

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11
Q

Costs of decentralization

A

Potential agency problems
Coordination costs and failures (duplicate efforts)
Less effective use of central information

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12
Q

Revenue center

A

PxQ
Take derivative
Solve for Q

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13
Q

Optimal level of decentralization

A

Solve for D

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14
Q

Assigning decision rights to teams

A

Benefits: better use of member knowledge, contribution by each member, increase employee support and involvement, enhance employee buy in

Costs: slower than individual decisions, collective action problem (politics), free riders (moral hazard)

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15
Q

Decision process

A

Initiation - generate proposals
Ratification - select initiatives to be implemented
Implementation- execution of decisions
Monitoring - measurement of performance of decision makers

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16
Q

Why do we measure performance?

A
  1. To provide feedback on employee activities

2. To determine rewards and compensation

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17
Q

What determines performance?

A

Ability
Effort
Noise (random stuff)

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18
Q

Agency cost =

A

Monitoring costs + bonding costs + residual loss

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19
Q

Who pays for monitoring costs?

A

Principal

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20
Q

Who spends bonding costs?

A

Agent

Ex: audit fee

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21
Q

Residual loss represents…

A

Opportunity loss remaining when contracts are imperfectly enforced

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22
Q

Incentive contracts can improve performance because they …

A

Motivate employees

Attract high performers

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23
Q

Stretch performance

A

Belief that aggressive targets will motivate managers to perform at their highest levels

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24
Q

Minimum performance standard (MPS)

A

To judge managers first on if they hit an MPS

MPS should be realistic and achievable

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25
Q

Problem with MPS

A

It can be subjective

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26
Q

Owner incentives:

A

To maximize profits and have diligent employees

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27
Q

Employee incentives:

A

Maximize utility and take breaks from working

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28
Q

Incentive problems

A

Firm cannot observe employee performance costlessly

Output can be difficult to measure

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29
Q

If employee and owner interests align :

A

Incentive problem does not exist

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30
Q

Contracts can solve incentive problem if :

A

Workers actions and output are observable

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31
Q

Constraints for contracts

A

Contract must balance fixed income and performance incentives

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32
Q

Compensation contracts :

A

Motivate employees

Share risk more efficiently

33
Q

Employer is risk —-

A

Neutral

34
Q

Employee is risk —

A

Averse

35
Q

Fixed income does not

A

Motivate employees to perform better - incentive coefficients do

36
Q

Incentive component of pay can be made stronger if:

A

Employee is less risk averse
Variance of performance measurement is smaller
Employee is less effort averse
Marginal productivity of effort is higher

37
Q

Ratchet effect:

A

Employees only have incentive to meet goal and not exceed it

38
Q

Subjective performance evaluation

A

Can completely replace objective performance evaluation

39
Q

Overcome problems with subjective performance evaluation

A

Forced distributions
Rotate superiors and employees more frequently
360 degree performance reviews

40
Q

Relative performance evaluation

A

Can be used in or across firms

41
Q

Upside and downside of paying for human capital

A

Upside :
More measurable than performance
May be better sign of long term value added

Downside:
Ability does not equal performance
Skills may erode

42
Q

Upsides and downsides of seniority pay

A

Upside:
Long term commitment/motivation effect
Underpay in early career (firm)
Security of rising income (employees)

Downside:
Weak performance incentives/ reward
Inequity
Overpay in later career (firm)/ pension

43
Q

Upside and downside of paying market wage

A

Upside:
Measure the market price
Equity (fair and impartial)

Downside:
Determining appropriate labor market

44
Q

Upside and downside of efficiency wage

A

Upside:
Attract better workers
Gain in motivation and productivity
Low wages = high turnover

Downside:
More expensive to pay workers

45
Q

Paying for individual performance

A

Reward for individual efforts

46
Q

Pay for group performance

A

Team building system - tied to overall performance

47
Q

Goals of the balanced scorecard

A
  1. Translate strategy into action

2. Communicating and linking

48
Q

Decisions cannot be made based solely on…

A

Financial information

Much info cannot be quantified

49
Q

Balanced score card balances

A

Current performance and long term abilities
Feedback and guidance
Financial and non financial measures

50
Q

4 aspects of balanced score card

A

Financial
Customer
Internal business process
Innovation and learning

51
Q

Financial perspective measures

A

Operating income
Cash flow
Revenue growth
Stock price

52
Q

Customer perspective measurements

A

Responsiveness to customer desires
Market share
Customer satisfaction and retention
Customer perception of the company

53
Q

Internal business perspective measures

A 
Manufacturing or service excellence
Backlogs
Cycle time
Quality
New product introductions
54
Q

Innovation and learning perspective measures

A

Technological leadership
Research and development
Employee training and satisfaction
Invest in new technologies

55
Q

Designing a balanced score card steps

A
  1. develop company strategy
  2. determine critical success factors and goals
  3. determine activities that drive achievement
  4. determine metrics to evaluate performance
56
Q

With transfer pricing no:

A

Cash changes hands

57
Q

Seller will sell to outside if transfer price is

A

Below market price

58
Q

Buyer will buy from outside if transfer price

A

Is above market price

59
Q

Transfer price is calculated as:

A

Marginal cost per unit + opportunity cost per unit

60
Q

Profit is:

A

Historical, backward looking, does not consider investment required, might not be comparable

61
Q

ROI is:

A

Intuitive, measures investment usage and levels, independent of scale, does not require a cost of capital estimate

62
Q

Residual income is:

A

Incorporate investment base, lines goals, motivates revelation of private information, conservation principal

63
Q

EVA equals

A

Adjusted after-tax income - cost of capital x adjusted total divisional asset

64
Q

EVA adjustments:

A

Marketing and R&D expense, depreciation expense, goodwill, restructuring costs

65
Q

Challenges of EVA

A

Some adjustments are difficult to justify, cost of capital is difficult to measure, ignores managerial risk aversion

66
Q

Informativeness principal

A

Compensation based on all factors of employees performance

67
Q

Internal labor market

A

Hiring from within the firm

68
Q

Two reasons why KN introduce BSC

A

Transfer strategy to action in communication

69
Q

Downside of controllability principal

A

Doesn’t try to forecasting usual affects
Doesn’t cooperate with other managers
Doesn’t try to mitigate negative effects

70
Q

How to determine transfer price

A

Market price, full cost, marginal costs, negotiation

71
Q

Two types of agency problems

A

Adverse selection and moral hazard

72
Q

ROI =

A

After-tax net income divided by divisional assets

73
Q

Turnover ratio equals

A

Sales divided by divisional assets

74
Q

Profit margin equals

A

After-tax net income divided by sales

75
Q

Residual income equals

A

After-tax net income minus the cost of capital times total divisional assets

76
Q

NPV is used for decisions…

RI is used for decisions….

A

Before projects

During projects for evaluation

77
Q

EVA equals

A

Adjusted after-tax income minus the cost of capital times adjusted total divisional assets

78
Q

Why are internal negotiations difficult?

A

1) sharing private info is uncomfortable
2) can appear as greedy - not a team player
3) info could be used against me

Accounting 304 (3 decks)

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