Incentives for Efficient Inventory Management: The Role of Historical Cost

Management Science, Forthcoming

Posted: 10 Jul 2005

See all articles by Tim Baldenius

Tim Baldenius

Columbia Buiness School

Stefan J. Reichelstein

Stanford University - Stanford Graduate School of Business; CESifo (Center for Economic Studies and Ifo Institute)

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Abstract

This paper examines inventory management from an incentive perspective. We show that when a manager has private information about future attainable revenues, the residual income performance measure based on historical cost can achieve optimal (second-best) incentives with regard to managerial effort as well as production and sales decisions. The LIFO (last-in-first-out) inventory flow rule is shown to be preferable to the FIFO (first-in-first-out) rule for the purpose of aligning incentives. Our analysis also finds support for the lower-of-cost-or-market inventory valuation rule in situations where the manager receives new information after the initial contracting stage.

Keywords: Inventory management, historical cost accounting, decentralization, agency theory

JEL Classification: D82, J33, M41, M43, M44

Suggested Citation

Baldenius, Tim and Reichelstein, Stefan J., Incentives for Efficient Inventory Management: The Role of Historical Cost. Management Science, Forthcoming. Available at SSRN: https://ssrn.com/abstract=754189

Tim Baldenius (Contact Author)

Columbia Buiness School ( email )

3022 Broadway
New York, NY 10027
United States

Stefan J. Reichelstein

Stanford University - Stanford Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States
650-736-1129 (Phone)
650-725-7979 (Fax)

CESifo (Center for Economic Studies and Ifo Institute)

Poschinger Str. 5
Munich, DE-81679
Germany

HOME PAGE: http://www.CESifo.de

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