EBK INVESTMENTS
11th Edition
ISBN: 9781259357480
Author: Bodie
Publisher: MCGRAW HILL BOOK COMPANY
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Chapter 20, Problem 19PS
Summary Introduction
To explain: The way to equate the given agreement of the manager’s options on the firm’s stock.
Introduction: call option is a way for the option holder to acquire the assets or contract at the predestined value. But an option holder wants to gain some profit so they purchase the shares when the shares’ price more than the contract price.
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Suppose the compensation committee for a corporation is preparing to hire a new CEO and debating which of two pay packages to offer. Package A includes an annual salary of $1 million plus 1000 shares of stock. Package B also has a salary of $1 million, but has 10,000 options to purchase the company at its current price of $50.
a) Draw a graph showing the relationship between the CEO’s total compensation (vertical axis) and the stock price (horizontal axis) for the two pay schemes. Clearly label the two compensation methods in your graph.
b) Discuss how a switch from the stock to stock option plan would alter CEO behavior.
c) Discuss how a switch from the stock to stock option plan would affect the type of CEO that would be willing to accept the job.
Which of the following actions would be likely to reduce potential conflicts of interest between stockholders and managers?
a. A firm's compensation system is changed so that managers receive larger cash salaries but fewer long-term options to buy stock.
b. The company changes the way executive stock options are handled, with all options vesting after 2 years rather than having 20% of the options awarded vest every 2 years over a 10-year period.
c. The composition of the board of directors is changed from all inside directors to all outside directors, and the directors are compensated with stock rather than cash.
d. The company's outside auditing firm is given a lucrative year-by-year consulting contract with the company.
e. Congress passes a law that severely restricts hostile takeovers.
A limited is considering introducing an executive share option scheme. The scheme would be offered to all middle level managers of the company. It would replace the existing scheme of performance bonuses linked to the post tax earnings per share of the company. Such bonuses in the last year ranged between sh 500,000 and sh 700,000. If the option scheme is introduced, new options are expected to be offered to the managers each year.
It is proposed that for the first year, all middle level managers be offered options to purchase 500,000 shares at a price of sh 5.00 per share, after the options have been held for one year. If the options are not exercised at that time, they will lapse. Assume that the tax authorities allow the exercise of such options after they have been held for one year.
The company’s shares have a current market price of sh 6.10 per share. The dividend paid was sh 0.25 per share, a level that has remained constant for the last three years. Assume the dividends are…
Chapter 20 Solutions
EBK INVESTMENTS
Ch. 20 - Prob. 1PSCh. 20 - Prob. 2PSCh. 20 - Prob. 3PSCh. 20 - Prob. 4PSCh. 20 - Prob. 5PSCh. 20 - Prob. 6PSCh. 20 - Prob. 7PSCh. 20 - Prob. 8PSCh. 20 - Prob. 9PSCh. 20 - Prob. 10PS
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