Incorporating Conflict into a Manager’s Compensation Plans: Does It Benefit or Hurt Innovations in Management Accounting?

Abstract

Managers in firms often hesitate to pursue innovations in management accounting because these innovations have direct cost implications (extra tax, implementation costs, etc.), but generate uncertain long-term benefits. To encourage decision-makers to pursue these innovations, shielding their long-term compensation from these cost considerations might motivate more investments. In an experiment we test this presumption in a setting where finance executives, as decision-makers, decide about using an innovative management accounting system that produces uncertain long-term benefits, but at the same time increases direct costs. Contrary to the above intuition, our results show that compensating decision-makers on long-term performance metrics that include the costs of the innovation (instead of metrics that exclude them) increases their likelihood of adopting the innovative management accounting system. Our results offer important new insights for practice. Using performance metrics that include conflicting considerations in the compensation plan can prompt managers to pursue more innovations in management accounting.

Keywords: Management Accounting Innovations, Compensation Design, Recognition of Conflict, Heuristic Processing, Analytical Thinking

JEL Classification: C91, D83, M40