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Fact of the case Mega’s, NYSE listed company is on the end of fiscal period and it is expected that the year will end with 40% increase in revenue and Earning. The compensation committee has voted to pay $ 3 million compensation to its CEO; also they afraid if the compensation will be paid less, company will lose the CEO. Discussion Applicable law with respect to Case Section 162(m) of the Internal Revenue code of 1986 restrict deduction for compensation paid tocovered employee up to $1 *million. The Covered employee contains CEO and other three highest compensation paid officer excluding CEO and CFO. However there is certain exception to this provision. It is to be noted that qualified preference based compensation are not covered under the limitation of compensation as stipulated under section 162(m). Bonus paid based on the profitability of the company is definitely performance based compensation as the profitabilityof the company is always uncertain. However specific pre-established goals should be there and it must be approved by shareholder by vote. Also the certificate from the Compensation committee need to be obtain before paying performance based compensation stating that the required goals are fulfilled.Recommendation to Committee The compensation committee has two options Option 1 -Paying $ 3 Million as normal compensationMega’s compensation committee has agreed for payment of $3 Million compensation to the CEO as normal compensation , however it the company can claim only $1 Million as deduction for taxation , and for another $2 million the company will not get the deduction. So it will be huge tax loss for the company and lead to loss of shareholder wealth .Option 2- Paying compensation above $1 Million as performance bonus It is cleared said that companies profitability will be 40% high an end of the fiscal year and hence company can pay the performance based compensation to CEO. The compensation over and above $1 million can be covered under this relation. To take deduction for qualified compensation based on profitability, the compensation committee needs to take care following four points 1.The company need to set the performance goal for CEO in terms of profitability before year end 2.The Goals for the Profitability must be set by compensation committee 3.The approval of the shareholder must be taken in terms of vote before payment , for performance criteria and amount of compensation.
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