6. The Board of Directors, with their bonus plan, has unintentionally cre-
ated a situation that is very difficult for the new CEO. Whenever such a
bonus plan is based on absorption costing net operating income, the
temptation exists to manipulate net operating income by changing the
amount that is produced. This temptation is magnified when an all-or-
nothing bonus is awarded based on meeting target profits. When actual
profits appear to be within spitting distance of the target profits, the
temptation to manipulate net operating income to get the all-or-nothing
bonus becomes almost overpowering. Ideally, managers should resist
such temptations, but this particular temptation can be easily avoided.
Bonuses should be based on variable costing net operating income,
which is less subject to manipulation. And, all-or-nothing bonuses
should be replaced with bonuses that start out small and slowly grow
with net operating income.
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Solutions Manual, Chapter 7 391
Case 7-20 (90 minutes)
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