Are CEOs in European oil companies rewarded financially when the oil price increases? A study identifying the causes, the financial and legislative solutions to executive rent extraction

Abstract

Are CEOs rewarded financially for increases in parameters which they cannot personally control? The last couple of year’s financial turmoil initiated by the collapse of Lehman Brothers in 2008 has resulted in increased public debate regarding executive remuneration. Large amount of the public debate has focused on the unreasonable levels of executive remuneration, and remuneration policies which resulted in vast corporate scandals. The purpose of this thesis is to identify if CEOs in European Oil companies are rewarded financially when the oil price increases. The thesis succeeds to identify a connection between increases in oil price and increase in remuneration for the CEOs in European oil companies. This is clearly an agency problem. The thesis identifies two separate solutions on the agency problem. The first solution is a financial solution. Through optimizing the remuneration policy, the company could remove the problem of rent extraction. The thesis presents a couple of measures which could be taken by the company in order to optimize the remuneration policy. To begin with, the thesis advice the company to compare its result to a peer group or index. By comparing the company`s result with a peer group or index, the company makes sure that the CEO is only rewarded if the company outperformance their competitors. The CEO will then not be rewarded financially for general market fluctuations. However the CEO will be rewarded through annual bonus and long- term incentives if the company exceeds the peer group. Further, implement index options instead of regular stock options. The problem with regular stock options is that they increase in value as fast as the share price increases. The options do not make a difference if the increase in share price is caused by company performance or an increase in the general market. Therefore, the company could introduce indexed stock options. Index stock options only increases in value if company outperforms the average increases in share price in the company`s peer group. As a second solution the thesis identify a legislative approach. The managerial rent extraction could be reduced by either conventional legislation or the market is practicing self- regulation. The thesis recognizes that Sweden has an extensive regulation in the field of CEOs remuneration, consisting of both legislation and self- regulation. There are advantages with both systems. Legislation offers a great deal of validity and a greater extent of legal security. Advantages with self- regulation are that it is cost effective, has a greater flexibility and is experience a great acceptance by the business world. However, the thesis stress that both legislation and self- regulation are very important in a well governed corporate governance system.