Bonus in, Stock Option out as Executive Compensation

By Belt, Joy Reed | THE JOURNAL RECORD, April 11, 1986 | Go to article overview

Bonus in, Stock Option out as Executive Compensation


Belt, Joy Reed, THE JOURNAL RECORD


Two new trends in executive compensation will change the way American business rewards its top people. One is that more emphasis is being placed on bonuses. The other is that the use of stock options, which had been growing rapidly for the past decade, is beginning to be questioned.

While the inflation rate was high, many companies felt obligated to give raises whether the executives earned them or not, to enable them to keep up. Now that the inflation rate has slowed, a largenumber of firms are turning to bonuses rather than raises.

Bonuses have two advantages. They're a way of rewarding selectively, so that the executives with the best performances get the most money; and they're a variable, not a fixed, cost, so that they can fluctuate in accordance with the company's earnings.

One California construction company, for example, sets a gross profit goal for each manager. If the goals are met, a mathematical formula is employed to net the manager a bonus which may amount to as much as 60 percent of his annual salary. An Indiana lumber yard has moved to a semi-annual bonus to remind the employees of the incentive more frequently.

Although stock options are still popular, their use may become more limited in the future. A stock option is the right to buy a company's stock at a set price over a period of time, usually 10 years. It benefits the executive if the stock rises, since he may buy stock for less than the market price; then, whenever he wants, he may sell the stock at a profit.

Justificaiton for using stock options as a form of compensation is that it rewards performance. If an executive's efforts build the company's value, he gets to share in its growth. The compensationmethod became popular because it was relatively inexpensive, needing no cash outlay. Young companies are sometimes able to lure top people whom they otherwise couldn't afford by paying them in stockoptions rather than money.

Critics of stock options say that they don't really reward an executive's performance; instead, they reward his ability to play the market. Some companies have also found that when the news gets out that an executive has made a killing by exercising his options, it makes for negative public relations.

Now the Financial Accounting Standards Board has "tentatively" ruled that stock options have to be charged against earnings - a rule which, if officially adopted next year, may make the practice too expensive to continue.

QUESTION: For the past seven years, I've had a raise every year. Now my company tells me they're moving to a system of giving bonuses and stock options instead of raises. …

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