Exploring Corporate Governance Around the World

By Allison Garrett, Senior Vice President for Academic Affairs at Oklahoma Christian University

Thursday, July 13, 2006

Executive Compensation Press Coverage: Options Get Counted Multiple Times

With the SEC's proposed revisions to executive compensation disclosure, the press has been examining executive compensation issues closely in the past few months. In connection with the examination, there's a fair amount of misinformation about total executive compensation because of the way that companies must report stock options grants and the way that the press reports this form of compensation.

Companies must report the value of stock options grants to executives. When a company reports, it does so on the basis of all stock options granted that are unexercised. In other words, the company may be reporting 8, 9 or 10 years worth of options grants. Some portion of those options are vested options, but they may not have been exercised by the executive just yet.

When the press reports "annual" compensation, it often reports the total of base compensation, bonus compensation, and options grants. By reporting the options grants in a lump, the press is actually reporting a multi-year number rather than a single year's compensation. And then next year, when the press reports the same CEO's compensation again, 8 or 9 10ths of the same options compensation is reported again.

To accurately reflect an executive's annual compensation, the options should be annualized, as well. So the press should report base compensation, bonus compensation, and an annualized options compensation figure. The press could report an annualized options compensation figure by simply using the Black-Scholes value of the current year's grant. Or they could look at the term of the options (usually 10 years). Then divide the total value of the executive's options by 10. Either way would be more accurate than the current approach which counts 10-years of options compensation every single year. Another alternative would be to require companies to report the value realized on options actually exercised by the executive during the preceding year.

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