Question

Here is a discussion dealing with bonuses and stock options: Geri Smart graduated from Troy University five years ago with a Masters degree in accounting. She obtained a position with a well-known professional services firm upon graduation and has become of its rising stars. Geri has developed a number of professional contacts in her work, both with clients and with outside companies. One of these companies, Busby Manufacturing Company, recently offered Geri a position as head of their financial services division. The offer includes a salary of $50,000 per year, annual bonuses of one percent of divisional operating income, and a stock option for 10,000 shares of Busby stock, to be exercised in two years at the current price of $15 per share. Last year, the financial services division earned $1,110,000. This year, it is budgeted to earn $1,600,000. Busby stock has increased in value at the rate of 16 percent per year over the past five years. Geri currently earns $65,000 per year. You are to advise Geri on the relative merits and downsides of the Busby offer.

Answer 1

Issue : Whether the offer of salary & stock option given by Busby Manufacturing Company should be accepted by Geri ?

Explanation : Geri, currently earns 65000$ per year. She has been offered a salary of 50000$ with one percent of divisional operating income & 10000 shares shares of the busby to be exercised after 2 years at current market price of $ 15 per share.Busby has also increased in value at the rate of 16% over past five years.

Relative Merits of accepting the offer :

1. The company is paying 1 % of the divisional income. That means if this year everything goes well, geri may get paid an annual bonus of around 1600000 *1 % = 16000. Which will let her earns 66000$ which is higher than her current salary. Note this, you get a percentage of income earned paid when you are very crucial person to the company.

2. Employee stock options are being offered for 10000 shares. If all vesting conditions are satisfied, the stock options shall vest. & the purchase price for such shares will be less than the market price existing at that date hence, benefitting the employee.

3. The company has a value increase @ 16% over past five years that means the market value might be greater at the end of 2 years or it may keep on increasing.

Relative Downsides of Busby's offer :

1. The budgets must be achieved. The salary is 50000$ to be paid. & yearly bonus may be paid at any time.

2. The Lifecycle of the product which the company is manufacturing must be considered. For example : it is possible that the company is in its growth phase & is nearing the maturity phase.

3. Offers from similar industry needs to be taken into account. The offer is risky though.

4. The shares option will only be exercised when you serve the company for 2 years. Hence, you are blocked there for 2 years.

Conclusion : Basically, we can say it depends. Depends on the need of employee to satisfy its expenses. It depends on the attitude of employee i.e. Whether the employee is risk averse or he is risk taking. It also depends on the age of employee, say if the employee is young & mainly has no family as yet, then such risk can be taken. The industry standards, growth history, competitors etc must be analysed properly & then a decision must be arrived at. The earlier company is just paying a salary. But Bosby is paying a lesser salary compensating with a percentage of divisional income & employees shares.