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GEO Debate

GEO Debate. Share-Based Payment Speaking in favour of a charge for options Presenter: Alan M Judes Date: 5 December 2000. Agenda. what are options? how do they work? do they have value? how important a part of the remuneration package are they?. What are options?.

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GEO Debate

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  1. GEO Debate Share-Based Payment Speaking in favour of a charge for options Presenter: Alan M Judes Date: 5 December 2000

  2. Agenda • what are options? • how do they work? • do they have value? • how important a part of the remuneration package are they?

  3. What are options? • the right, but not obligation • to acquire shares at a price fixed now • at up to 10 years in the future

  4. Example of how share options work Market Price @ Exercise SharePrice £6 £6 £4 Gain = £4 £2 Option price: £2 10 Years (Exercise Limit) Grant Date Exercise Period TIMING

  5. Do they have value? Source: FT 29 November 2000

  6. Do they have value? • you bet they do • they have enormous value • even “underwater” options have value • a company can sell them • Citibank will buy them and make a market for executives • millions of traded options are bought and sold every business day

  7. Why do Companies grant options to employees? • to attract • to retain • to reward • to motivate • to pay • options are a payment of compensation in a slightly different currency to cash

  8. How should companies account for the transfer of assets of value to employees? • as remuneration? • as though they do not exist?

  9. Why does the taxman want income tax on options? • back to basics • Abbot v Philbin – grant of options is remuneration • remuneration should be taxed

  10. The current accounting position • grant of option – nothing • exercise of option debit: cash credit: share capital • just balance sheet • no profit and loss charge

  11. What a company could do • sell option to market maker for cash • give cash to employee • employee uses cash to buy option from market maker • should cash payment to employee be ignored?

  12. How important a part of the remuneration are they? • very important • some executives take no salary, they work for options • can a company realistically employ an MD at no cost to it?

  13. Lets stop pretending options are free Advantages • employee appreciates their worth • they don’t complain as much when “underwater” • they understand the dynamics and gearing better

  14. Example US company • old system – cash bonus $10,000 • new system cash bonus 80% of old, 20% of bonus “buys” option at Black Scholes value • Black Scholes value 25% of market value so employee gets $8,000 in cash and $8,000 in options

  15. Institutional Shareholder Services ISS • Pay Model • evaluates share schemes using binomial option pricing • Pay Model is not a dilution based model, it measures monetary cost of plans

  16. The choice facing companies • bury heads in the sand and hope it will go away • engage in the debate and shape a better future • campaign for recognition at time of grant, not vesting

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