Incentive Contracting and Value-Relevance of Earnings and Cash Flows

55 Pages Posted: 27 Apr 2009

See all articles by Rajiv D. Banker

Rajiv D. Banker

Temple University - Department of Accounting

Rong Huang

City University of New York (CUNY) - Stan Ross Department of Accountancy

Ramachandra (Ram) Natarajan

University of Texas at Dallas - Department of Accounting & Information Management

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Abstract

Accounting performance measures such as earnings and cash flows are useful for both valuation and performance evaluation purposes. However, little evidence exists on whether there is any association between these two roles. In this study, we provide large sample empirical evidence that the value-relevance of earnings explains a significant amount of the cross-sectional variation in the pay-sensitivity of earnings and the incremental value-relevance of cash flows explains variation in the marginal pay-sensitivity of cash flows. We document that while both value-relevance and compensation weight on earnings decline from the sub period of 1993 to 1997 to the sub period of 1998 to 2003, both value-relevance and compensation weight on cash flows increase from the earlier sub period to the later sub period. Overall, our results provide additional evidence that value-relevance of a performance measure plays a significant role in its use for performance evaluation.

JEL Classification: J30, M40, M46, M52

Suggested Citation

Banker, Rajiv D. and Huang, Rong and Natarajan, Ramachandra (Ram), Incentive Contracting and Value-Relevance of Earnings and Cash Flows. Available at SSRN: https://ssrn.com/abstract=1378294 or http://dx.doi.org/10.1111/j.1475-679X.2009.00335.x

Rajiv D. Banker (Contact Author)

Temple University - Department of Accounting ( email )

Philadelphia, PA 19122
United States

Rong Huang

City University of New York (CUNY) - Stan Ross Department of Accountancy ( email )

One Bernard Baruch Way, Box B12-225
New York, NY 10010
United States
(646)312-3204 (Phone)

Ramachandra (Ram) Natarajan

University of Texas at Dallas - Department of Accounting & Information Management ( email )

2601 North Floyd Road
Richardson, TX 75083-0688
United States
972-883-2739 (Phone)

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