Where management's bonuses are tied to profit-based performance measures management may have an incentive not to revalue assets because:
A) When revaluing assets, the value of the asset base increases, consequently the return on assets will fall.
B) A revaluation may result in a decrease in the value of the asset base.
C) A revaluation that increases the value of the asset base will increase profit measures.
D) When revaluing assets, the value of the asset base increases, consequently the debt to equity ratio will fall.

Question

Quizplus · Accepted Answer

When assets are revalued upwards, the total value of the asset base increases, which can lead to a lower return on assets (ROA) ratio because the ROA is calculated by dividing net income by total assets. If the denominator (total assets) increases while net income remains constant or does not increase proportionally, the ROA will decrease. This could be undesirable for management whose bonuses are tied to profit-based performance measures, as a lower ROA might reflect poorly on their performance.

Where Management's Bonuses Are Tied to Profit-Based Performance Measures Management