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ACCA Strategic Professional · Advanced Performance Management · Performance and reward

Tamarind Ltd's finance director receives a bonus of 4% of operating profit once profit exceeds a threshold of $10 million. Operating profit is $12.5 million. The bonus is paid on the full operating profit. What is the bonus, and what behavioural risk does the threshold create?

The bonus is $500,000, being 4% of the full $12.5 million operating profit. The threshold creates a cliff-edge, so managers may be tempted to manipulate earnings, for example by accelerating revenue or delaying costs, to ensure the target is reached.

  1. A$500,000; managers may manipulate profit to cross the thresholdCorrect
  2. B$100,000; managers may defer profit to later years once the threshold is passed
  3. C$500,000; managers will under-invest because the bonus is capped
  4. D$100,000; managers may delay costs to reduce the threshold

Explanation

The bonus is paid on the full profit: 4% × $12.5m = $500,000. A cliff-edge threshold creates an incentive to manage earnings, such as accelerating revenue or delaying costs, to cross it. Option $100,000 wrongly applies 4% only to the $2.5m excess, which gives $100,000, but the scheme pays on full profit.

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