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CS Executive · Corporate Accounting and Financial Management · Introduction to Financial Management

A firm grants its CFO employee stock options that vest only if the share price rises over three years. What is the main purpose of this arrangement in the context of the agency problem?

The purpose is to align the CFO's interests with shareholders' wealth maximisation. Because the options gain value only if the share price rises over time, the manager benefits when owners benefit, which reduces the agency conflict between management and shareholders.

  1. ATo align the manager's interest with shareholder wealth maximisationCorrect
  2. BTo eliminate the need for any audit of accounts
  3. CTo transfer the firm's business risk entirely to creditors
  4. DTo maximise the firm's current-year accounting profit only

Explanation

Stock options linked to share price tie managerial reward to shareholder wealth, reducing the conflict of interest. They do not remove audits, shift risk to creditors, or focus on one-year profit; the vesting over three years actually discourages short-term focus.

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