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ACCA Strategic Professional · Strategic Business Leader · Governance scope and approaches

Brandt plc wants to reduce agency costs between its shareholders and senior executives. The board proposes that executive bonuses depend solely on this year's reported profit before tax. Which is the most likely adverse consequence under agency theory?

Executives may manipulate reported profit or cut discretionary long-term spending such as research to reach the bonus target. A bonus tied only to one-year accounting profit encourages short-termism, so it aligns interests imperfectly and can reduce long-term shareholder value.

  1. AExecutives will take a longer-term view and under-invest in short-term projects
  2. BExecutives may manipulate profit or cut discretionary spending such as R&D to hit the target, harming long-term shareholder valueCorrect
  3. CExecutives will have no incentive to monitor costs because profit is outside their control
  4. DShareholders will bear no monitoring costs because the bonus aligns interests perfectly

Explanation

A short-term, single accounting measure invites earnings management and cutting of long-term investment, so interests are not fully aligned. Option A reverses the likely effect. Option D is wrong because alignment is imperfect and monitoring is still needed.

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