CFA Level I · CFA Level I Exam · Investors and Other Stakeholders
The board of a listed company is considering a proposal in which the CEO's long-term incentive pay vests entirely on one-year earnings per share growth. Which assessment of the proposal is most likely accurate from a governance perspective?
The proposal may encourage short-term actions that boost EPS at the expense of long-term value. A one-year earnings target rewards managers for cutting discretionary spending or managing earnings, so the pay structure does not align management with long-term shareholder interests.
- AIt aligns management with long-term shareholder value because EPS is audited
- BIt may encourage short-term actions that boost EPS at the expense of long-term valueCorrect
- CIt reduces agency conflicts because it removes any role for the compensation committee
Explanation
Tying vesting to a one-year metric can motivate managers to cut investment, buy back shares or manage earnings to hit targets, harming long-term value. Audited EPS does not fix the short horizon, and removing committee oversight would weaken governance.
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