The Impact of Performance-Based CEO and CFO Compensation on Internal Control Quality

52 Pages Posted: 13 Jan 2009 Last revised: 20 May 2010

See all articles by Ranjini Jha

Ranjini Jha

University of Waterloo - School of Accounting and Finance

Kevin Kobelsky

University of Michigan - Dearborn

Jee-Hae Lim

University of Hawaii, Manoa

Date Written: May 1, 2010

Abstract

In this paper we examine the effects of performance-based compensation on the quality of internal control. We find that the sensitivities of CEO and CFO option portfolios and long-term incentive plans to stock price changes are negatively related to the propensity to report internal control weaknesses between January 2004 and December 2006. We also find that sensitivity is more strongly related to company-level than account-specific control weaknesses. This relation is stronger for CFOs, the officers primarily responsible for the processes generating financial information, and the financial information actually reported by the firm. Despite this positive impact on internal control, compensation sensitivity is positively related to accruals manipulation. Our findings indicate that while SOX disclosures harness the power of compensation schemes to enhance internal control, the controls implemented are not sufficient to eliminate the incentive to manipulate accruals within the bounds of GAAP arising from unvested options and unrestricted equity holdings.

Keywords: compensation, internal controls, SOX, accruals manipulation

Suggested Citation

Jha, Ranjini and Kobelsky, Kevin and Lim, Jee-Hae, The Impact of Performance-Based CEO and CFO Compensation on Internal Control Quality (May 1, 2010). Available at SSRN: https://ssrn.com/abstract=1326176 or http://dx.doi.org/10.2139/ssrn.1326176

Ranjini Jha

University of Waterloo - School of Accounting and Finance ( email )

200 University Avenue West
Waterloo, Ontario N2L 3G1 N2L 3G1
Canada

Kevin Kobelsky

University of Michigan - Dearborn ( email )

College of Business
19000 Hubbard Drive, Room 171 FCS
Dearborn, MI 48126
United States
313-583-6490 (Phone)

HOME PAGE: http://https://umdearborn.edu/cob/kevin-kobelsky/

Jee-Hae Lim (Contact Author)

University of Hawaii, Manoa ( email )

2404 Maile Way
Honolulu, HI Honolulu 96822
United States
(808) 956-8503 (Phone)
(808) 956-9888 (Fax)

HOME PAGE: http://shidler.hawaii.edu/directory/jee-hae-lim/soa

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