IAI Actuarial Core Principles · Business Finance · Corporate governance and the regulation of companies
The board of an Indian listed company wants to reduce the agency conflict by linking the CEO's pay to shareholder interests. Which arrangement is most likely to align the CEO's incentives with long-term shareholder value?
Share options that vest after several years and depend on total shareholder return targets best align the CEO with long-term shareholder value, because the reward depends on sustained share price and dividend performance, not on short-term revenue or accounting profit that can be manipulated.
- AA fixed salary with no variable component
- BA bonus based solely on current-year revenue growth
- CA bonus based on current-year accounting profit, paid in cash immediately
- DShare options that vest after several years subject to total shareholder return targetsCorrect
- A guaranteed severance payment regardless of performance
Explanation
Long-dated share options tied to total shareholder return give the CEO a stake in share price and dividends over time. Revenue or short-term profit bonuses encourage short-termism and can be manipulated, a fixed salary gives no link, and guaranteed severance rewards failure.
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