Introduction to Corporate Finance

ParT 2: ValuaTION, rISk aNd reTurN

CFO SURVEY EVIDENCE: OPTIONS, COMPENSATION AND HEDGING PRACTICES

The role of share options in executive pay varies

widely across countries. The following chart shows

that some companies are much more likely to

include share options as a significant portion of

the pay package given to senior executives than

companies in other countries. Bryan, Nash and

Patel (2009) investigate differences in executive

compensation practices across companies in

different countries and find that share options

were more prevalent in countries that had greater

institutional protections for shareholder rights

and better enforcement of those protections. The

study found that characteristics of companies were

important, too, with equity-linked compensation

such as options playing a bigger role in companies

with more growth potential and in larger companies

with less free cash flow.

In another 2007 study, Cohen and Yagil

asked CFOs from the largest 300 companies in

the United States, the United Kingdom, Canada,

Germany and Japan how often they used options

to hedge financial risks. Executives in Japan

reported that they were roughly 50% more likely

to use options to hedge risk than their US and

Canadian counterparts, whereas German and

British CFOs fell in the middle. CFOs from all five

countries reported that they were more likely to

use forward contracts (discussed in Chapter 17)

than options when hedging.

A survey by Murphy (2012) reveals that over

the period 1990–2011, the importance of share

options in executive compensation for organisations

in countries such as the US, Canada and Australia,

as well as in Western Europe, grew rapidly, then

diminished somewhat. The impacts of the global

financial crisis seemed to discourage the use of

share options in executive compensation packages,

but they are still a sizeable part of the overall

remuneration to CEOs and their senior staff in

corporate entities.

finance in practice

0

0 0.01

0.03 0.05

0.11

0.14

0.25

0.28

0.32

0.42

0.49

0.1

Country

Proportion of firms with options as

part of executive compensation

0.2

0.3

0.4

0.5

0.6

China Japan

Switzerland

Germany

France India

Netherlands

Australia

United Kingdom

New ZealandUnited States