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Fair Value, Firm Performance Ratios and CEO Compensation

An Investigation of the Association between Use of Fair Value and Firm Performance Ratios and its effect over CEO Compensation, in Sweden

Written by Ö. Uyanık

Paper category

Master Thesis

Subject

Business Administration>Management

Year

2017

Abstract

Thesis: Fair value method According to International Financial Reporting Standard No. 13, fair value is the price that should be received when an asset is sold or a liability is transferred on the measurement date. The fair value method does not give a company a specific measurement, but is based on the market. It provides an opportunity for comparison between companies in the market and between different time periods of a company. According to this measurement method, the entity counts unrealized gains/losses into current profits and losses. Penman (2007) uses Hicksian's definition of income to treat any increase in wealth as income. In this sense, Penman believes that fair value measurement brings a solution to income measurement because it records any increase or decrease as income or expense. However, according to IFRS 13, the implementation of fair value is management’s subjective revaluation and its “hierarchical structure.” IFRS 13 emphasizes that there are two reasons for using this method: disclosure to improve the consistency and comparability of fair value measurement, And valuation to maximize the use of observable input values*. In this sense, the hierarchy divides the inputs used in valuation techniques into three levels (IFRS 13, pages 72-89 and Godfrey et al., page 7 Edition, 2010). The first-level observable input values ​​are valued at the current market price on the measurement date of securities, etc. (same as above). The first level of the hierarchy does not leave any initiative to managers to make some subjective decisions (Ibid.). However, if these prices are not available, a special index should be used. Level 2 input values ​​are input values ​​other than the market quotes of assets or liabilities that can be directly or indirectly observed in level 1 (Ibid. In this sense, similar or identical asset prices in active or inactive markets can be used. According to level 3 inputs, the input of assets or liabilities is unobservable, so the best available information can be used for valuation, This allows the company’s internal information (IFRS 13, p.72-89 & Godfrey et al, 7th ed., 2010). First, fair value measurement has been criticized for involving management’s investment in the absence of an active market ( Zeff 2005). On the other hand, many scholars have defended the concept of fair value measurement. Barth and Clinch (1995) emphasized that revaluation under the fair value method is highly relevant to investor decision-making. The findings of Barron et al. (2016) are recommended for use The third level of measurement provides more useful information about the company's future earnings. However, according to Godfrey et al. (7th edition, 2010), under the fair value method, the agent (CEO, CFO). 3.3 CEO Compensation Plan Jensen and Murphy (1990) asserted that the CEO's previous private cost-benefit assessment was to meet shareholders' expectations. Bender (2004) believes that the HR method of CEO compensation structure is to attract and retain executives with huge income potential. In this sense, Palmberg (2012) explained two methods for setting compensation contracts; the optimal contract for the manager not involved in the contract process, and the method for the manager to influence the management power of the contract. Oreland (2008) summarizes the CEO compensation plan into four parts; the basic salary is determined through the industry basic salary survey, according to Cybinski & Windsor (2013), it includes "CEO's leadership skills and experience." Annual bonuses depend on one-year performance goals, and stock options grant the right to buy stocks at a predetermined price and long-term-term incentives usually depend on 3 or 5 years of cumulative performance goals (Oreland, 2008). Usually, the CEO salary contract is signed every five years and may also include some pension benefits (ibid.). In addition, Oreland (2008) asserted that although the base salary is a fixed part of the CEO's contract, it may decrease over time, and that the CEO tends to increase the base salary rather than a bonus plan. Palmberg (2012) asserted that centralized ownership and family businesses weaken the CEO's bargaining power. On the other hand, Oreland (2007) emphasizes that centralized ownership and family businesses tend to exercise control over CEOs and implement more effective monitoring, which reduces the salary level in Sweden. At this point, the research results of Gabaix and Landier (2008) from different countries show that family or centralized ownership has no certain effect on CEO compensation. However, the findings of Gomez-Mejia et al. (2003) from the United States, indicating a negative impact, while the survey results from China indicate a positive impact (Cheung et al. 2005). On the other hand, the survey results of Mishel, Bernstein & Allegretto (2007) emphasized that the income of the CEOs of Swedish listed companies was 44 times lower than that of their American counterparts in 2005, even though the CEO’s salary was between 1998 and 2005 (Palmberg , 2012). In addition, Oxelheim and Randøy (2005) found that companies with decentralized ownership structures in Norway and Sweden reported higher salaries. It is also worth noting that Davila & Penalva (2006) found that the greater the CEO's influence on governance decisions, the greater the use of cash payments and accounting-based performance measures, especially the use of ROA ratios. On the other hand, Matolcsy (2000) Read Less