Oracle Corporation (ORCL) Investors, Pay Attention: You Are Paying for Underperformance at These Companies

Oracle Corporation (NASDAQ:ORCL)Last year, Oracle Corporation (NASDAQ:ORCL) CEO Larry Ellison was awarded 7 million stock options, valued at $90.7 million, in the face of significant shareholder disapproval. Oracle’s board defended the decision by pointing out that the $90.7 million valuation isn’t necessarily an accurate measure of the compensation Ellison will receive.

The board is right to claim that the $90.7 million valuation of Ellison’s 2012 pay is misleading. In the end, Ellison’s 2012 pay will likely be significantly higher than the $90.7 reported in the company’s proxy – even if Oracle goes on to underperform.

Here’s why.

Options valuation
Oracle points out that the options granted to Ellison had no intrinsic value when they were granted, and would only gain intrinsic value if the stock appreciates. That much is true. The strike price of options granted to Oracle’s named executive officers was based on the closing price of Oracle’s common stock on the date the options were granted, so the $90.7 million valuation was entirely based on the time value of the options, which are good for 10 years.

Also, these options take four years to fully vest. Four years from now, Ellison’s 2012 options will have less time value, so he’ll only be able to bank his $90.7 million if Oracle’s stock price appreciates under his leadership.

What the proxy doesn’t tell you
Even if we buy Oracle’s claim that intrinsic value is a better indicator of the “true value and worth” of Ellison’s options, a few basic calculations show us that Ellison doesn’t have to help Oracle put up a very strong performance to get his $90.7 million payday.

How much does Oracle’s stock price have to appreciate over the 10-year life span of Ellison’s 2012 options for him to get that $90.7 million? Only about 3.4% a year!

Guess how much Ellison’s 2012 options will be worth 10 years from now if Oracle’s share price doubles, offering average increases of 7% per year. About $227 million! That’s a heck of a lot of money to pay for share appreciation soundly beaten by the nearly 10% average historical annual growth put up by large-cap stocks on the whole. Granted, this average includes gains made through dividends, but with a yield lower than 1%, Ellison isn’t doing much for shareholders in that arena, either.

Actually, the stock market’s long-term return has been closer to 9.6%, based on data from 1928 from IFA.com, which includes dividends.

Geometric mean returns (1926 through 2008)

Asset Class Average Annual Return
Large-cap stocks 9.6%
Long-term government bonds 5.7%
U.S. Treasury Bills 3.7%

An option to rip off shareholders
Ellison isn’t the only CEO with the potential to gain an outrageous pay package without putting up a performance to match it. Eric Schmidt, former CEO of Google Inc (NASDAQ:GOOG) , was granted a pay package worth more than $100 million in 2011. $38 million of that pay package comes from 181,840 options given an at-the-money a strike price of $612. As was the case with Ellison’s options, Schmidt’s options had a 10-year life span and put Schmidt in a position to make much more than $38 million on them if Google went on to put up a merely average performance. If Google’s stock price appreciates by an average of 7% per year, Schmidt’s shares will be worth more than $111 million by the time the options are set to expire.

The article Investors, Pay Attention: You Are Paying for Underperformance at These Companies originally appeared on Fool.com.

Fool contributor M. Joy Hayes is the Principal at ethics consulting firm Courageous Ethics. She has no position in any stocks mentioned. Follow @JoyofEthics on Twitter. The Motley Fool recommends Google. The Motley Fool owns shares of Google and Oracle.

Copyright © 1995 – 2013 The Motley Fool, LLC. All rights reserved. The Motley Fool has a disclosure policy.

blog comments powered by Disqus
Insider Monkey Headlines
Insider Monkey Small Cap Strategy
Insider Monkey Small Cap Strategy

Insider Monkey beat the market by 52 percentage points in 24 months Click to see monthly returns in table format!

Lists

10 Top Reasons For Getting Fired

The 3 Best States to Start an LLC

10 Jobs That Allow You to Travel

7 High-Paying Jobs You Can Do From Home

12 Best Cities to Shop in USA

10 Best States To Practice Medicine

The 10 Best States to Have a Business

The 12 Most Expensive Apple (AAPL) Apps in the Market

The 10 Richest Billionaires in the World

10 Biggest Kickstarter Failures

The 10 Best Places to Work At

The Top 10 of Google Inc (GOOGL)’s Most Expensive Acquisitions

13 Best Cities to Visit in South America

10 Most Expensive Works of Art of All Time

The 10 Richest Banks in the World

The 10 Best-Paying Jobs in America (2014)

7 Most Expensive Foods in the World

The World’s Top 10 Earning Authors

Five Wicked and Very Expensive Items (and Other “Stuff”) Sold on eBay

10 Biggest Celebrity Bankruptcies

The Top 10 Highest Paid CEOs in 2014

The 10 Most Expensive Real Estate Cities in America

10 Most Expensive States To Live In America

The 10 Best Airlines in the World

The 10 Best-Selling Cars in 2014

The 10 Best Industries to Invest In

The 10 Most Expensive States to Own a Car In

Top 10 Business Schools in US: 2014 Rankings

Top 20 Female Billionaires in 2014

6 Movies That You Should Watch to Better Understand The Cold War

Top 15 Best Paying Jobs for Women in 2014

Top 6 Things Rich People Do Differently Every Day

5 Retirement Mistakes To Avoid (and Einstein’s Famous Quote)

11 Smartest People in the World

6 Films About the Financial World You Need To Watch (While “The Wolf” is Not Around)

Warren Buffett and Billionaires Are Crazy About These 7 Stocks

The Top 10 States With Fastest Internet Speeds

10 Best Places to Visit in USA in August

Top 10 Cities to Visit Before You Die

Top 10 Genetically Modified Food In the US

15 Highest Grossing Movies Opening Weekend

5 Best Poker Books For Beginners

10 Strategies Hedge Funds Use to Make Huge Returns

Top 10 Fast Food Franchises to Buy

10 Best Places to Visit in Canada

Best Summer Jobs for Teachers

10 Youngest Hedge Fund Billionaires

Top 10 One Hit Wonders of the 90s

Fastest Growing Cities In America

Top 10 U.S. Cities for Freelancers

Subscribe

Enter your email:

Delivered by FeedBurner

X

Thanks! An email with instructions is sent to !

Your email already exists in our database. Click here to go to your subscriptions

Insider Monkey returned 47.6% in its first year! Wondering How?

Download a complete edition of our newsletter for free!