Journal of Law and Financial Management - Volume 2, November 2003
Volume 2 November 2003
Opinions on Options: Discordant Incentives and Desultory Disclosure
In this paper we examine the controversy which has surrounded options awarded to executives as a component of their overall remuneration. We argue that many of the claims advanced in favour of the use of options schemes by employer corporations are flawed. In particular, we suggest that the alleged incentive alignment effects of granting options to executives either do not manifest themselves as strongly in practice as might be expected in theory, or are undermined by other factors, which we set out in this article. Further, we are critical of the view that the current status quo financial reporting treatment of options granted to employees in lieu of cash or other forms of remuneration is appropriate or able to be justified as a matter of principle. We discuss our preferred alternative treatments and advance a case as to why we believe that they would represent a more appropriate means of accounting for options than current prevailing practice.
Regulation and the Cost of Equity Capital in Australia
By Martin Lally
This paper examines four issues associated with the Officer model, in the context of estimating the cost of equity capital for regulatory purposes. The conclusions are thus. First, regarding the issue of foreign investors, continued use of a version of the Capital Asset Pricing Model that assumes that national share markets are segmented rather than integrated (such as the Officer model) is recommended. Second, a value for 'gamma' of 1 rather than the generally employed figure of .50 is recommended. Third, in respect of the market risk premium, continued use of the generally employed figure of 6% is recommended. Finally, regarding the differential taxation of capital gains and ordinary income, the simplifying assumption in the Officer model that they are equally taxed could lead to an error in estimating the cost of equity of up to 2% if individual firm values for the dividend yield are used, and up to 1.1% if industry average values are used. Whether this is a sufficiently large sum to warrant concern, and whether the ACCC should lead in this area, are arguable.
Expensing the Cost of Executive Option Schemes: Case Studies in the Australian Healthcare Industry
By Jennifer Saiz
This paper provides a contribution to the literature on executive share options by reporting the results of detailed case research conducted by the author in relation to two publicly listed Australian companies from the health / biotechnology sector. These sectors are chosen as the focus for the case studies reported in this article because of the relatively high degree of reliance placed by corporations within this sector of the economy on options as part of overall employee remuneration. The case studies demonstrate the material impact the inclusion of the cost of options would represent in relation to reported earnings were this to become a mandatory financial reporting requirement. The case studies also highlight the poor quality of disclosures being made in relation to options. It is concluded that significant reforms of reporting and disclosure policies would be beneficial.
The Treatment of Risk in Financial Planning
By Tom Valentine
This article provides an overview of some of the more important theoretical and practical issues relating to risk profile in the context of the financial planning process. It is argued that current industry best practice in risk profiling does not match well with theoretical literature on financial risk and risk taking. Alternatives to current practices are briefly reviewed.