Accounting Conservatism And Executive Compensation-performance Sensitivity

After the financial crisis, people pay more attention to the executive compensation contract. management usually possesses the information superiority compared to outside investors, which makes it possible that, management has the incentives to pursue a higher compensation for their own benefit by attempting to disclose unrealized profits and conceal potential losses. Accounting conservatism plays an important role in mitigating the overestimating assets and profits, motivating management to react correspondently to economic losses as soon as possible, and enhancing the executive compensation-performance sensitivity.To begin, this paper reviews and summarizes prior literature and discusses, then points out the question this paper tries to solve. Next it conducts theoretic analysis on the accounting conservatism and executive compensation-performance sensitivity. And using financial data of A-share Chinese listed companies from 2001 to 2008, we calculate the coefficient of conservatism according to BASU model. Further we rank, screen out, by conservatism, the first 25% as the high- conservatism group and the last 25% as the low conservatism group, and we present empirical evidence upon the effect of accounting conservatism on executive compensation contract through grouped regression by using the cross-sectional data from 2005 to 2008 of these two groups as research samples. We find: (1) The compensation-performance sensitivity is higher in the listed company with higher accounting conservatism; (2) The sensitivity of compensation to earnings is higher than the sensitivity of compensation to losses, but accounting conservatism can significantly decrease the asymmetric sensitivity of compensation between earnings and losses; (3) the promotion of accounting conservatism on executive compensation contract is more significant in state-owned enterprises. This paper demonstrates the important role of accounting conservatism in decreasing information asymmetry and agency cost between the shareholders and management from the angle of investor protection.