What it is:
A golden parachute is an agreement between a company and an employee (usually a high level executive) that provides significant financial benefits to the employee upon termination.
How it works (Example):
For example, upon a change in ownership or a shake-up in management, a golden parachute clause in an executive's employment contract might specify that the executive will be granted special severance pay, bonuses, stock options, or other non-cash benefits upon his departure from the organization.
Theoretically, since the executive's own financial future is protected, he or she is free to make decisions about reorganizations, mergers or sell-offs that are in the long-term best interests of the company, even though such actions may lead to his or her dismissal.
Why it Matters:
Golden parachutes are meant to help companies hire and retain top talent. At the same time, golden parachutes have increased compensation costs, which can pose an obstacle to a transaction.
Average direct severance payments for golden parachutes in 2007-2008 were estimated at over $16 million per executive. With bonuses, often irrespective of company performance, they can total up to two-and-a half times that amount. As a result, golden parachutes are sometimes perceived as "poison pills." Transactions, if they involve the dismissal of top executives, can be perceived as too expensive even if they will benefit the company overall.