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Increasing goal congruence in project evaluation by introducing a strict market depreciation schedule

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  • Lindblom, Ted
  • Sjögren, Stefan
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    Abstract

    The economic accuracy of accrual-based managerial performance measures is most essential for value added investment decisions in decentralised firms. Contemporary EVA-literature often lends support to annuity-based depreciation schedules for accomplishing congruence between capital budgeting criteria, like NPV, and accounting measures, like ROI and RI. This is incongruent with the principal agent literature aiming at designing managerial incentive contracts. We introduce a strict market-based depreciation schedule which is shown to be superior to ordinary straight-line, annuity-based or IRR-based depreciation schedules. It gives the right managerial investment incentives also in the case of growth, inflation or technological development.

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    Bibliographic Info

    Article provided by Elsevier in its journal International Journal of Production Economics.

    Volume (Year): 121 (2009)
    Issue (Month): 2 (October)
    Pages: 519-532

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    Handle: RePEc:eee:proeco:v:121:y:2009:i:2:p:519-532

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    Web page: http://www.elsevier.com/locate/ijpe

    Related research

    Keywords: Depreciation Managerial incentive Performance measurement Capital budgeting EVA;

    References

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    1. Graham, John R. & Harvey, Campbell R., 2001. "The theory and practice of corporate finance: evidence from the field," Journal of Financial Economics, Elsevier, vol. 60(2-3), pages 187-243, May.
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    4. Rogerson, William P, 1997. "Intertemporal Cost Allocation and Managerial Investment Incentives: A Theory Explaining the Use of Economic Value Added as a Performance Measure," Journal of Political Economy, University of Chicago Press, vol. 105(4), pages 770-95, August.
    5. Sandahl, Gert & Sjogren, Stefan, 2003. "Capital budgeting methods among Sweden's largest groups of companies. The state of the art and a comparison with earlier studies," International Journal of Production Economics, Elsevier, vol. 84(1), pages 51-69, April.
    6. Sunil Dutta & Stefan Reichelstein, 2003. "Leading Indicator Variables, Performance Measurement, and Long-Term Versus Short-Term Contracts," Journal of Accounting Research, Wiley Blackwell, vol. 41(5), pages 837-866, December.
    7. Alfred Wagenhofer, 2003. "Accrual-based compensation, depreciation and investment decisions," European Accounting Review, Taylor & Francis Journals, vol. 12(2), pages 287-309.
    8. Jensen, Michael C. & Meckling, William H., 1976. "Theory of the firm: Managerial behavior, agency costs and ownership structure," Journal of Financial Economics, Elsevier, vol. 3(4), pages 305-360, October.
    9. Fisher, Franklin M & McGowan, John J, 1983. "On the Misuse of Accounting Rates of Return to Infer Monopoly Profits," American Economic Review, American Economic Association, vol. 73(1), pages 82-97, March.
    10. Stephen Riceman & Steven Cahan & Mohan Lal, 2002. "Do managers perform better under EVA bonus schemes?," European Accounting Review, Taylor & Francis Journals, vol. 11(3), pages 537-572.
    11. Lambert, Richard A., 2001. "Contracting theory and accounting," Journal of Accounting and Economics, Elsevier, vol. 32(1-3), pages 3-87, December.
    12. Wallace, James S., 1997. "Adopting residual income-based compensation plans: Do you get what you pay for?," Journal of Accounting and Economics, Elsevier, vol. 24(3), pages 275-300, December.
    13. McFarland, Henry, 1990. "Alternative Methods of Depreciation and the Reliability of Accounting Measures of Economic Profits," The Review of Economics and Statistics, MIT Press, vol. 72(3), pages 521-24, August.
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    Cited by:
    1. Carlo Alberto Magni, 2013. "Generalized Makeham's Formula and Economic Profitability," PROYECCIONES FINANCIERAS Y VALORACION 010992, MASTER CONSULTORES.

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