Question

On January 1, 2010, Korsak, Inc. established a stock appreciation rights plan for its executives. It entitled them to receive cash at any time during the next four years for the difference between the market price of its common stock and a pre-established price of $20 on 60,000 SARs. Current market prices of the stock are as follows:

January 1, 2010 $35 per share
December 31, 2010 38 per share
December 31, 2011 30 per share
December 31, 2012 33 per share

Compensation expense relating to the plan is to be recorded over a four-year period beginning January 1, 2010.


What amount of compensation expense should Korsak recognize for the year ended December 31, 2011?
a. $0
b. $30,000
c. $300,000
d. $150,000

Answer 1

Stock appreciation rights plans provide executives with a potential cash payment based on the increase in stock price. If Korsak, Inc.'s stock rises to $30, the SARs value is $600,000, and if it rises to $150, the SARs value is $7,800,000. These plans align executive incentives with shareholder interests in the form of capital gains.

Step-by-step explanation:

When a company like Korsak, Inc. establishes a stock appreciation rights (SARs) plan for executives, it offers them a potential financial incentive based on the increase in the company's stock price over a set period. Executives have the right to receive cash that equals the difference between the stock's market price and the pre-established price of the SARs.

Considering the provided prices, if the current market price of Korsak, Inc.'s stock is $30 and the pre-established price is $20, the value of the SARs for 60,000 units would be 60,000 times ($30 - $20), which is 60,000 times $10, resulting in a total of $600,000. If the current market stock price is $150, the value of the SARs would be significantly higher—60,000 times ($150 - $20), equal to 60,000 times $130, which amounts to $7,800,000.

Such incentive plans are designed to align the interests of executives with those of shareholders, as both are focused on increasing stock value, which could result in capital gains for shareholders. This potential increase in stock value aligns with the concept that when investors purchase stock, such as in Wal-Mart at $45 and later sell it for $60, they achieve a capital gain of $15.