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Motivated by the increasing importance of accounting return (ROA or ROIC) in firm decisions and compensation design, we study the effectiveness and implication of granting
CEO incentives contingent on accounting-return (AR) metrics. We find that firms’ accounting return (AR) improves significantly in years with AR-based compensation grants.
Supporting the influence of AR grants on firm performance, firm AR improves further in
the maturing year of these grants only when the performance-to-date is near but below
target performance. A disproportionately large number of firms just meet the AR target
as compared to the number of firms that just miss the AR target. Firms achieve better AR
by cutting the denominator (i.e., assets or investment) instead of improving the numerator (i.e. earnings). The denominator-shrinking strategies do not improve asset efficiency
and are followed by weaker sales growth. Together, our analysis suggests that AR-based
incentives may induce performance manipulation and managerial myopia.