Companies collapse due to poor company performance

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Introduction

In recent years, many companies collapse due to poor company performance and it has attracted many media and academic take attention with executive compensation schemes (ECS)issues. ECS can affect business performance due executive as an agent for the shareholders who manage the company. Agency theory is “designing an appropriate incentive scheme that aligns the interests of managers with those of the shareholders” (Duffhues P. and Kabir R. 2007) [Online]. Lee J (2009) [Online] indicates principal-agent are concerned with relationship between independent boards of directors how to monitoring the management performance on behalf of shareholders. It is difficult to develop schemes which satisfy and acceptable compromise between incentive and reward, executive expectations and shareholders acceptability (Bruce A. et al., 2007) [Online].

Literature Review

Executive compensation packages are designed by remuneration committee, these include items like fixed salary, incentive like return on equity, profits, earnings per share and superannuation components in short-term incentive payments, of which paid as cash bonus and long-term incentive include share options or share-based payment (Lee J., 2009)[Online]. Lee J. (2009) [Online] argued that different countries have different ownership and board environments but they have similar corporate governance regulation. Australia and Singapore company structure and ECS are different, however executive compensation is use to motivate executive and maximizing shareholders value to retain key management.

According to Duffhues P. and Kabir R. (2007) [Online] once the executives have received adequate compensation, pay-performance relationship are expected to be positive due to the assumption that executives work hard to enhance company performance. Consequently, company compensation schemes are designed in such a way that can improve financial performance, Lee J. (2007) [Online] indicates, performance based pay is based on the company overall performance improvement, and this is also a mechanism designed to improve company financial performance. In the United Kingdom (UK), remuneration committee's efforts to maximize executive compensation are restrained. However some of the shareholders may think that if higher compensation of executive can contributes their value, they are willing to pay higher compensation to their executive (Bruce A., et al. 2007) [Online]. Company like Royal Dutch Shell, Heineken, Reed-Elsevier, Unilever and et.al are paying the large amount of compensation to their executive (Duffhues P. and Kabir R. 2007) [Online].

Besides this, the stewardship role of executives require them to have their own incentive packages to manage their firm rather than depend on independent board and short-term management incentive payments (Lee J., 2009)[Online]. ECS guarantees compensation to executive regardless of additional performance conditions. (Bruce A., et al, (2007) [Online] state all the compensation should be subject to ‘challenging performance conditions'. These conditions must be relevant, extend and designed to enhance company business performance.

According to Lee J. (2009) [Online] firms of larger size are required to pay higher executive compensation as incentive to executive due to their are risk sharing when the company are complexity and uncertainty. Executive have to expend more effort as compared with the smaller firm size. Bruce A., et al (2007) [Online] argued that firm size will affect the executive compensation.

Agency problems will be reduced when a company stewardship role is dominant with high ownership concentration and related with family members therefore it will improving company performance. Senior managers will be motivated and performed well in the company rather than maintain their self-interest (Lee J., 2009) [Online].

Conflicts generally increase when the management uses their rights to preserving their own self interest at the expense of the shareholders. Whist, shareholders may not able to afford paying high incentive in monitoring such a management behavior (Lee J., 2009) [Online]. Because of these issues, management-incentive compensation contract is an effective mechanism to control management's behavior (Lee J., 2009) [Online]. Therefore, Lee J. (2007) [Online] states that Chief Executive Officers (CEO) are risk averse, when the company is in high risk, increase in executive compensation means putting more burden for them, and they expose higher risk, so they will tend to reduce company performance.

Consequently when a company corporate governance control is insufficient, executive might create opportunities of self-dealing behavior. They might be extract rent and maximize their compensation at the expense of shareholders (Lee J., 2009) [Online]. And another example in Netherlands Company likes Ahold and Royal Dutch Shell, although the companies were poorly performance but executive still being paid higher compensation. Therefore it shows insignificant relationship in pay-for-performance. Duffhues P. and Kabir R. (2007) [Online] also argue that executive use compensation to extract additional rents from the company even though company performance does not improve. This goes beyond the agency theory of paying rationale executive compensation and will affect company performance adversely.

With regulatory requirements, listed companies are required to disclose their executive compensation in both cash and non-cash components in the annual report. From the shareholder viewpoint, transparency of compensation arrangement is to align the interest of both the executives and shareholders (Bruce A., et al, 2007) [Online]. Duffhues P. and Kabir R. (2007) [Online] argued that less transparent executive compensation may be associated with ‘camouflage' and no improvement in corporate performance in the opinion of shareholders. In Dutch firms, there have a negative pay-performance relationship with the shareholders. Cause, the company didn't disclose non-cash component due to insufficient estimate the components (Duffhues P. and Kabir R. 2007) [Online].

Conclusion

In conclusion, ethics are important in the executive compensation. In the articles reviewed, ethics have been neglected. It does not mention on how ethics can be applied in improving the financial statements and executive behavior. Executives always look for their own selfish interest in the first place rather than interest of shareholders. Executive compensation can take on a ‘bonus' basic if the executives are achieve their performance goals. This will lead the executive more motivate and pay attention with their pay-performance based and increase company value. Executive compensation not only based on stock and stock options of the company, portion of the compensation can be paid by cash. All the companies should disclose executive compensation in financial statements; prove to the public that executive compensation is efficiency and effective therefore investors can monitor and oversight their roles.

References:

Bruce A, Skovoroda.R, Fattorusso.J and Buck.T. 2007. ‘Executive Bonus and Firm Performance in the UK'. Long Range Planning. [Online] Vol. 40, pp. 280-294 [URL:http://www.sciencedirect.com/science?_ob=MImg&_imagekey=B6V6K-4NX2W0W-1- 2&_cdi=5817&_user=8190668&_orig=search&_coverDate=06%2F30%2F2007&_sk=999599996&view=c&wchp=dGLzVlz-zSkWb&md5=6b3c3c142e122061614a9638e38f4456&ie=/sdarticle.pdf] [Assessed Date: 23/06/2009]

Duffhues P. and Kabir R. 2007. ‘Is the pay-performance relationship always positive? Evidence from the Netherlands'. Journal of Multinational Financial Management. [Online] Vol. 18, pp. 45-60 [URL:http://www.sciencedirect.com/science?_ob=MImg&_imagekey=B6VGV-4N43RSY-3-1&_cdi=6048&_user=8188890&_orig=mlkt&_coverDate=02%2F29%2F2008&_sk=999819998&view=c&wchp=dGLzVtb-zSkWz&md5=c5b95b84aff2cb88472a40fcc93126c9&ie=/sdarticl e.pdf] [Assessed Date: 28/07/2009]

Lee J. 2009. ‘Executive performance-based remuneration, performance change and board structures'. The International Journal of Accounting. [Online] Vol. 44, pp. 138-162 [URL:http://www.sciencedirect.com/science?_ob=MImg&_imagekey=B6W4P-4W3874D-1-1&_cdi=6548&_user=8190668&_orig=search&_coverDate=06%2F30%2F2009&_sk=999559997&view=c&wchp=dGLzVtz-zSkWb&md5=a7502b9ac855500225d8003368067780&ie=/sdarticle.pdf] [Assessed Date: 23/06/2009]

Bibliography:

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Duffhues P., Kabir R. 2007. ‘Is the pay-performance relationship always positive? Evidence from the Netherlands'. Journal of Multinational Financial Management. [Online] Vol. 18, pp. 45-60 [URL:http://www.sciencedirect.com/science?_ob=MImg&_imagekey=B6VGV-4N43RSY-3-1&_cdi=6048&_user=8188890&_orig=mlkt&_coverDate=02%2F29%2F2008&_sk=999819998&view=c&wchp=dGLzVtb-zSkWz&md5=c5b95b84aff2cb88472a40fcc93126c9&ie=/sdarticl e.pdf] [Assessed Date: 28/07/2009]

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