“A dime ain’t worth a nickel anymore.” — Yogi Berra
The current Covid-19 pandemic is creating significant confusion regarding what to do about equity awards – stock options, restricted stock, RSU’s, performance-based stock units, etc. This article summarizes the context, then offers some important ideas for who, when, where, why and how we can make equity awards work for both the individual and the organization.
The Covid-19 pandemic is dramatically impacting every organization and their ability to provide compensation to their workforce – from executives to the core, basic staff members. This is particularly difficult in industries dependent on ‘on-premise’ customers – retail, restaurants, hospitality, travel. And the impact has gone well beyond these industries, and the trends for how or when we can return to some previous measure of prosperity are not clear. Consequently, compensation plans that relied heavily on equity – stock options, restricted stock, performance-based options or full value shares, stock appreciation rights, and more – have been decisively reduced thereby decreasing the net worth of many. Furthermore, it is unlikely any incentive bonus awards will be made for 2020 performance, and salaries are being frozen or decreased in many industries and in many companies. The financial, work operations, corporate culture and individual lifestyles are being impacted in ways rarely seen.
These conditions leave us with several critical questions to address considering equity awards in 2020. Some of the more critical ones are:
- Given what firms have had to do with the cash compensation for existing staff, should we make any equity awards at all and if so, for what reason?
- If you/we move forward with awards, what vehicle do we use? Which one would provide us with the greatest balance and fairness to all stakeholders – shareholders, employees, executives, customers, public scrutiny?
- If we have selected a vehicle, how do we determine how much and when to make such awards?
Addressing these questions for every business condition – those facing bankruptcy, those facing challenging but survivable times, those facing increasing growth pressure – are beyond the scope of this paper. That being said, here are a couple of “ideas” to consider as you address these questions.
- What’s Available? The value of your organization’s stock is likely significantly below what it was at the beginning of the year. If so, making equity awards now will likely provide substantial growth when the market returns to “normal” dynamics. So, if you have reduced cash compensation and have available equity, this may be an excellent time to be generous in making awards. However, the amount to be awarded depends on the impact of these awards by those who will not be receiving them. The reputation of the Board and senior executives will be significantly impacted by who and how much is awarded. So, consider the amount based on more than a transaction that may benefit a few – the ripple impact may be more serious than you anticipate.
- What to Use? Companies have been moving from options to restricted stock (or full value) equity awards in recent years. The Great Recession of 2008 accelerated this trend and given the volatility of the current stock market (and company valuation of private companies), this trend will likely intensify. Employees like some form of restricted stock because it retains at least some value. Stock options are desired when there is a belief that the stock price will grow rapidly in a relative short time period (one to two years). Make your choice on the vehicle based on what balances both the value (defined by “expected value” = opportunity for growth in $ value x probability %) to employees and the amount of equity available. Use what you believe will have the greatest meaning and return on investment for all concerned.
- Who to Include? Retention of talent is probably not a major issue right now. Many people are likely very nervous about changing employers in these turbulent times. However, if the past has not been a positive experience, then as companies start back at hiring, retention of your talent may become a major issue. Confidence in leadership, commitment to the firm, and a sense of opportunity are the “invisible currency” at work for one considering whether to stay or go. Equity compensation that communicates a message that “you are important to the future of our organization” can be powerful. Equity awards that are restricted to those who already have substantial wealth may be wasted. Consequently, who you include, even if only for special grants, can have an important impact on whether you are using your limited resources wisely. However, if people do not know about or value these awards or believe their potential benefit will not offset what they have currently lost, then these may be wasted here too. In these times, we have come to learn the importance of each individual and how we are dependent on their contributions.
- How Much? A common practice is to base the number of equity awards on a multiple of salary. The higher the salary, the higher the multiple, based on the principle that these individuals have the greatest impact on the value of the enterprise. Typically, Boards use the stock price at a particular point in time to do their math in determining the number of shares awarded. Given the volatility of the market, using a 3-year running average may stabilize the number of shares to be awarded. Here individuals will not be penalized (i.e., receive less shares) when the stock soars or enriched when the stock plummets. Also recognize that these times have placed significant importance on the “front-line” of your organization. When wealth continues to be bestowed on those who are already significantly wealthy through equity, the confidence in the firm’s leadership will be questioned even more than in the past. Consider your decision in light of what truly is socially responsible.
- Why and When? A total compensation philosophy that does not influence decisions is just rhetoric. Base salary meets every day needs of the individual and reflects their role and talent. Incentive compensation provides awards for the performance of the company, division/business unit, and individual. It creates accountability and shared interests of interconnected individuals. Equity awardsenable people to share in the growth in value and performance of the enterprise over the long-term. Employee benefits provide security for core concerns of health and wealth (i.e., retirement). At least, these are the general concepts behind each element of total compensation. How much you spend on each element and how you structure the mix are often influenced by the needs of different employee groups, segments of your organization and competitive market practices. So, as you consider one element of total compensation, such as equity awards, examine the implications on other elements of pay, your company’s financial health and your employees’ financial health. The answer you find should provide the right mix given the conditions and environment of your organization, and what will help you create a successful future. We know that there will be a future, and the decisions we make today will surely influence what that looks like and when we will get there.
We hope these questions, considerations and ideas are helpful to you as you consider the decisions facing you at this time. We at Wilson Group are here to help and be of counsel to you so you have the information you need and the guides for making the best decisions. We are here when you are ready.