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Imagine that you’ve become general counsel at a Fortune 500 company. The bad news is that your income may be broadcast to the world in your company’s annual disclosure statements. The good news is that practically nobody will be able to understand those disclosures. Just try making sense of the Summary Compensation Table of a proxy statement, with its litany of STIPs, SERPs, LTIPs, SARs, and ISOs. But some of the terms become almost understandable if you know their history. Let’s start with the compensation table. It was instituted by the Securities and Exchange Commission in 1992 to require companies to divulge the pay of their CEO and the four next-highest-paid executives, which often includes the GC. It’s there because corporations were coy about executive pay in the past. But now the table errs on the side of complexity, dividing pay into no fewer than seven categories, including Salary, Bonus, and Other Annual Compensation, and then throwing in the seemingly redundant All Other Compensation. This last category values things like executive perks and relocation expenses. Things used to be much simpler. Two thousand years ago, Roman soldiers were paid in salt rations known as salarium argentum, from which we get the word salary. Today, the general counsel of a major corporation can expect not only a salary � provided he’s worth his salt � but compensation in a variety of exotic forms. There are short-term incentive plans ( STIPs) and long-term incentive plans ( LTIPs), although the difference between the two isn’t much. To qualify as long-term, a plan need only take more than one year to pay out. (Contrast this requirement with the traditional Chinese view of history, which holds that it is still too early to tell what the “long-term” impact of the French Revolution has been.) Another way to reward executives is to pay them in stock options. An option gives an executive the right to purchase company stock at a predetermined price, known as the strike price. Executive options become exercisable when a certain goal is reached or a time period ends. This is known as vesting, a term that literally means “getting dressed”; it also conjures up images of executives clothing themselves in stock options. Some severance agreements call for accelerated vesting, which sounds positively racy. Options are a very old concept. In ancient Greece, the philosopher Thales was said to have profited nicely on options in the olive market. In America, financial options date back to the early nineteenth century, when they were called privileges. As a form of executive compensation, stock options began to appear in the 1950s, but only caught fire after tax changes in the 1980s. For those who like to avoid the business of options altogether, there are stock appreciation rights, or SARs. These brilliant little contracts let an executive receive cash equal to the profit he would have made had he held company stock over a given period � without ever having to own real shares. If the company’s stock goes up, the executive’s options or SARs will become valuable, a condition aptly described in proxy statements as being in-the-money � a term popularized by the song “We’re in the Money,” from the Depression-era film Gold Diggers. Traditionally, corporations value the price of their stock options and SARs by the Black-Scholes method. Although it sounds suspiciously like a firm specializing in arch supports, Black-Scholes is actually a formula devised by economists Fisher Black and Myron Scholes 30 years ago, consisting of � and I’m only going to say this once � a stochastic partial differential equation. Well, two can play at that game; and recently an upstart formula called the Binomial Model, born in 1978, has risen up to challenge Black-Scholes. If you must know, this model takes into account a share’s every price change and has been known to tie up powerful PCs for days (I’m exaggerating only a little) as they struggle to do the math. Even large corporations have trouble navigating the complex issues of executive compensation � they regularly hire professional compensation consultants. Which leaves one nagging question: How much do they get paid?
Adam Freedman is an associate at Schulte, Roth & Zabel. His book, Elated by Details, was published by Mayhaven Publishing in November 2003.

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