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A significant number of chief executive officers take steps to boost earnings in the few years prior to their retirements to increase the size of their pensions, a new study suggests.

McGill University Professor Paul Kalyta reviewed Fortune 1000 companies in the United States, and concluded there was evidence of earnings manipulation in the four years prior to a CEO's retirement, but only in cases where the CEO had a pension that was linked to the size of annual bonuses prior to retirement.

Many CEOs' pensions are calculated based on both the executive's salary and annual bonuses in a period prior to retirement - often five years - although some have pensions based only on their salaries in that period.

The study found companies whose CEOs had pensions that included a performance component, such as bonus payments, saw their share price gain 2.3 per cent on average in the three years before retirement, and decline an average of 5.3 per cent over the three years after the CEO retired. Companies whose CEOs had pensions based only on their salaries showed no abnormal returns, the study said.

Prof. Kalyta, whose findings are published in the most recent edition of The Accounting Review, a scholarly U.S. journal, said yesterday there is no evidence that the CEOs were illegally manipulating earnings, but that there is latitude within accounting rules that they can exploit for their own benefit.

"There are regulations, but there is significant room for accounting discretion, and managers can use the discretion for a variety of purposes," he said. "And in this case, it is clearly a selfish purpose."

He said the research suggests executive pensions should be based only on salaries, or be calculated using total income over the CEO's entire career.

He argued that it makes no sense that an executive's lifetime pension award can be so significantly affected by bonuses paid in one or two years prior to retirement.

"This year may not be representative of the CEO's overall performance over his career," he said. "And CEOs have very strong incentives to manipulate accounting performance in those specific years."

The study looked at companies that had supplemental executive pension plans, and had CEOs over the age of 60 who retired between 1997 and 2006.

It found the amount of the share price decline following the CEO's retirement was directly related to the size of the discretionary accounting accruals that the company recognized in the four years prior to retirement. That suggested the inflated earnings were corrected to normal levels following the CEO's departure.

Prof. Kalyta said research has not historically found a strong link between earnings manipulation and annual bonus payments, but said his work suggests there is a link. He said the finding is not surprising, considering the amount a lifetime pension can be increased simply by having a big bonus in one year prior to retirement.

"With a bonus, you have incentives, but it's not that strong - it's one bonus only. ... But with a pension, we're talking about 20 or 30 years."

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