Employee Stock Options 101

Offering stock option plans could boost retention rates, help maintain cash reserves, and shape truly transformative experiences. Discover what makes employees like Starbucks barista, Kaycee Kiesz, happy and motivated for over two decades

Are you looking to take advantage of your company’s established market footprint, and offer senior executives incentives without impacting liquidity?

Or are you a young business, trying to retain and motivate top talent without dipping into the precious seed funds earmarked for innovation and expansion?

The last few decades have been a virtual rollercoaster ride for stock options as benefits. After a sudden surge in popularity during the 90s, the dotcom bubble burst, making millions of shares worthless and disappointing a large workforce.

Yet, success stories like Starbucks keep the dream alive. The company is famous for giving employees in every tier, from the humble barista to management, a chance to be compensated in kind. The upside is that it helps foster investment and ownership at every level – something Starbucks knew and even accentuated by calling all its employees ‘partners’.

In fact, employee stock options place talent at the heart of your business, giving them a very real stake in the firm’s success.

Here’s how it works – right at the recruitment phase, a specific number of company stocks are offered at a ‘strike price’ or an ‘exercise price’ to be purchased after a ‘vesting period’. The exercise price is usually the market value at the time of recruitment.

Once the employee has been part of the organization for the stipulated period, he can buy shares at the original market rate, back when he had joined. If the price has increased substantially, he makes a solid profit.

Employee stock option plans could lead to several benefits for employers:

1. Employee Stock Option Plans come with a lock-in period called the ‘vesting period’:

At Starbucks, for instance, early baristas had to log in 360 hours of work before they were eligible to exercise their stock options. This means that while the plan comes into play at onboarding itself, the employee can choose to buy or not buy the shares.

Lock-in periods encourage employees to stay, be part of the company’s forward journey, and while retention rates soar, the workforce stands to gain from the time they’ve spent your organization.

2. Instill a sense of ownership:

Unlike manufacturing, healthcare, education, and a handful of other sectors, several industries don’t involve ‘hands-on’ labor. This has a fatal side-effect: workers often struggle to connect efforts and outcomes, resulting in a basic absence of fulfillment.

When employers become shareholders, they are directly impacted by the company’s fate.

And as a rise in stock prices means a larger windfall in the long run, employees are more focused on larger value creation – not just their slice of the job pie.

3. You can disburse in kind, instead of cash:

Stock options are a good way of rewarding employees in kind, freeing up cash reserves for other investments like acquisitions, office space & infrastructure, recruitment, and most importantly, new products.

Here’s an unlikely example – Jeff Bezos, the owner of Amazon.com and temporarily the richest man on earth, owns very little in cash and assets. In October this year, his net worth jumped to a whopping USD 93.1 billion, pivoted on his company’s performance – each Amazon stock then cost around USD 1120.

Of this, his non-Amazon assets were to the tune of USD 3.7 billion only. His individual success is clearly linked to the company’s and by not liquidating the remaining USD 89.4 million, he ensures that the business continues to hit it out of the park.

A 2014 survey revealed that while 71% companies have some form of employee stock option plan in place, there are major gaps across the paradigm.

The leading segment is technology and IT with 37% respondents in the category, while service sectors lag behind at a wide margin. Also, 87% companies go for a selective plan – rewarding only high-level employees: a different, more biased reality from the Starbucks ideal.

And among the 29% with no stock options for employees, over half said that they don’t intend to put one in place in the near future.

Tax regulations and statutory norms are the first to cross. Start-ups also run the risk of having individual employees straight out owning equity, and since the stock options have to stay in action for a while even after termination, complaints from disgruntled alumni are always a possibility.

That’s why companies are looking at alternatives that blend the pros of employee stock options with secure, more predictable incentive schemes.

You could go for a restricted stock option, where the stock is granted outright with a few restrictions in place – this could be in the form of tax breaks, ownership conditions, and so on, designed to iron out some of the complexities of regular plans.

Stock appreciation rights (SARs) are also a smart option, popular among companies trying to prevent an excessive employee share in the business. They work just like stock option plans, only after the vesting period is over, the incentive is equal to the increase in the stock price – and not the stock itself. Again, this stops the company from becoming too and could be paid out in cash, stocks, or any combination of the two.

Several employers are also opting for ‘phantom stocks’ – as in SARs, no real stocks are allocated. However, here the employee is entitled to the original stock price, and not just the uptick value.

There you have it – employee stock options are a changing animal. From the mythical Wall Street execs looking to cash in, to children of the Silicon Valley riding the wave of good products in a dynamic market, this is an incentive plan with clear, human outcomes.

Done right, the plan is so effective that it kept Starbucks barista Kaycee Kiesz with the company for 22 years. This allowed her and other long-term employees to gain from the stock’s 13,000% increase over the period – growth that’s fostered by a motivated, engaged workforce.

Source: https://www.hrtechnologist.com/articles/employee-engagement/employee-stock-options-101/

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