Page 668 - Bruce Ellig - The Complete Guide to Executive Compensation (2007)

Chapter 12. Summaries 653

When the intrinsic (or psychic) income is greater than the extrinsic (dollar) value, the
perquisite is considered a status symbol (e.g., a large office). However, some perks, such as
supplemental pension plans, are of significant dollar value to the executive and therefore are
extrinsic perks.
Employee benefits and perquisites are tax deductible to the company at the time and in
the amount the individual has an income tax liability. Qualified pension plans are an excep-
tion. Here the company takes a tax deduction at time of incurring the expenses, even though
the individual does not receive the benefit until later.

CHAPTER 7: SHORT-TERM INCENTIVES

By definition short term refers to a measuring period of one year or less, regardless of when
paid. If annual, the period is the business year. The word incentives means that the amount
of payment dependent on performance. It could be as low as zero or as high as a multiple of
salary. Short-term incentives are designed to introduce fluctuation in pay in recognition of
performance or the lack thereof.
Whereas salary actions are typically based on individual performance and long-term
incentives are usually based on company-wide performance, short-term incentives often
include both. They may also include groups, both permanent (such as a subsection of the
company) and ad hoc (such as teams assembled to solve a problem).
Short-term incentives are an expense and therefore a charge to the company’s income
statement for the period in which earned. They are also tax deductible to the company at
the time and in the amount they are taxable to the individual. Proxy treatment is simple:
short-term incentives are reported for the year in which they were earned.

CHAPTER 8: LONG-TERM INCENTIVES

The essential difference between long-term and short-term incentives is the length of the
performance period: while short-term incentives are typically measures in a period of one
year, long-term incentives are multiyear in nature. Some such as restricted stock, perfor-
mance shares, and performance-unit plans, are typically three to five years in length. Others,
such as stock options, are 5 to 10 years in length. The amount of payment can be measured
in cash or stock; the form of payment can be cash and/or stock.
Stock plans are either stock options (right to purchase), stock appreciation rights (right
to appreciation in stock price without having to buy the stock), or stock awards (receipt of the
shares without having to purchase them).
The stock option is the most common form of long-term incentive. It is a unilateral
contract by the company with the executive describing when a determinable number of
shares of company stock can be purchased at a defined price. The most common is the right
(not obligation) to buy a stated number of shares (e.g., 100,000) over 10 years at today’s fair
market value. Stock options are structured to maximize compensation in terms of rising stock
market prices.
Stock appreciation rights (SARs) permit the individual to receive the appreciation in fair
market value of the stock price over the price on the date the SAR was granted without having
to purchase the underlying share of stock. SARs may be granted in parallel (independent), in