PERFORMANCE ANXIETY? Have No Fear

Transcription

1 Leading the Evolution of Global Stock Plan Management PERFORMANCE ANXIETY? Have No Fear

2 PERFORMANCE ANXIETY? HAVE NO FEAR Performance plans are an increasingly popular form of equity compensation across North America, and not just for top-level executives. These awards are unique for many reasons, but are based on one central, defining idea: They set out to compensate people based on performance criteria. While this concept is certainly popular during an era of public scrutiny over executive compensation, it is also what allows these awards to offer benefits that other equity awards do not, including: They reward people based on their merits, not just on favorable market conditions. Stock options and share awards cannot offer the same guarantee, as they facilitate occasions where executives make huge gains while stakeholders experience significant losses. They allow for simple calculations to determine what level of compensation an employee will receive. These calculations can easily be set up to have a clear and fair quantitative basis (e.g. if an employee achieves 72% of their annual goals, they receive 72% of the grant maximum). They align the interests of employees and shareholders (in terms of company-wide performance targets) by focusing attention on specific goals and driving high-achievement performance. They have become easier to report on: Under ASC Topic 718 (FAS123R) and IFRS2, they no longer require variable accounting, and all types of equity awards now result in an income statement expense. With all these benefits, you might wonder why performance plans have been slower to catch on in North America than other forms of equity, such as incentive and restricted awards. One reason is that performance plans come with a variety of unique features, design concepts, and administrative challenges that can make them complicated to design, implement, and educate your participants about. Well-crafted performance plans must incorporate performance measures, time periods, vesting and payout provisions, and other considerations, and it can be challenging to determine what kind of performance you want to encourage, and how to measure it. However, if you understand the fundamentals and have a trusted consultant or administration provider to help you, performance awards can certainly be a valuable form of equity offering, and one you might want to consider adding to your current plans if you haven t already. A BIT OF BACKGROUND Performance plans have been around in the U.S. since the 1970s, having emerged from a 14-year flat stock market period that ended in During this time, the executive compensation industry recognized that stock prices were down, but not necessarily because of poor executive performance. This realization centralized the need for performance awards in the U.S. Variations of performance awards were widely adopted across Europe and the U.K. in the 90s. This adoption grew out the belief that just because a company was enjoying success, it didn t mean everyone within the company was performing well enough to be reaping compensation benefits. Therefore, performance plans were an attempt to reward people based on merit, not simply for being on the staff roster. As a result, there are many large U.K. companies today that use performance awards to complement other types of equity plans. 2

3 WHAT ARE PERFORMANCE AWARDS? Any type of equity compensation becomes a performance award when there is a performance goal attached to it. Performance goals set out a specific target that must be met before the award will be received, and are uniquely designed to determine when/if/how much of the award will be paid to an employee once designated targets have been achieved. There are several ways to set up performance plans but the preferred form is performance stock units (PSUs). These are restricted stock units that come with associated performance goals and there are generally three ways to fund a PSU settlement upon vesting: 1 Treasury the issuance of stock from treasury is the most common method of settlement Pros No impact on corporate cash flow commitment Employees have the ability to retain stock, which fosters corporate ownership Cons Dilutive (although it can be decreased by net settlement, whereby the company will withhold shares to cover employee taxes and thus pay taxes on behalf of the employee, which results in a cash expenditure) Requires board and shareholder approval 2 Payroll the value of the PSUs at settlement date is paid to employees in cash via payroll Pros No dilution No brokerage costs to employees that would otherwise sell shares to receive cash Cons Will affect corporate cash flow. Total expense function of share market price at time of vest remains an unknown until settlement date Does not foster corporate ownership 3 Market the stock required for settlement is bought in the open market Pros No dilution Can be a natural hedge for company, as the cost can be capped, unlike the payroll method above Cons Will affect corporate cash flow Come with brokerage costs for company 3

4 WHAT TO CONSIDER WHEN DESIGNING PERFORMANCE PLANS Performance plans are comprehensive in design and can affect a variety of outlying areas, including employee behavior, requirements for administration, financial reporting, proxy disclosure, and more. It s worth taking the time to hire a professional to help you consider all the elements that go into plan design. The first and most important step is determining performance measures, as these will guide the rest of your decisions. Performance measures determine what type of performance you want to promote and measure, and how you ll go about measuring it. Begin by asking what kind of performance you want to encourage and what the best route is to get you there. With this in mind, you can proceed with logistics. Application and objective measurements: First you need to determine how you will apply performance measures (at grant/group level). Next you ll need to decide if they will be based on objective measurements, which can be almost anything, but common examples include intra-company thresholds (i.e. project completion dates, budgets, product release dates, cost-cutting success, etc.) and/or external parameters (such as share price, comparison with peers, etc.). Measurement standards: The next step is determining if you ll use internal or external resources as performance measures, and then setting standards to measure performance. Internal measures might include numbers (dollar values, growth percentage, etc.) and may be based on records from previous time periods, if you have them. Or it may be simpler to use external measures as performance indicators/gauges, such as statistics and numbers from peer companies or groups/indexes. You can also have more than one type of measurement for performance awards (although the more you attach, the more complicated your plan will become.) Target-based or relative goals: Performance goals can be absolute/targetbased (meaning they have simple and absolute targets with associated variations), relative performance goals (meaning they assess performance relative to external reference points), or a combination of the two. Once you ve set the basis of your plan with performance measurements, the next steps are determining the following: Performance periods: the period of time over which performance is assessed Vesting provisions: when the recipient will be given unrestricted rights to the shares Payout: how performance will be compensated and how performance level variations will adjust compensation 4

5 A COUPLE OTHER CONSIDERATIONS Dividends: It s important to address the treatment of dividends in the plan design, as this is a big component that introduces a significant amount of complexity to the administration of the plan. Moreover, dividends will impact the payout or value of PSUs on vesting. Grant date: This can be set only after all your performance goals and criteria have been determined and all your key terms agreed upon and understood by all parties. At this point, you can proceed in determining a grant date and fixed share value for the award. Financial reporting: The financial reporting requirements involved with your performance awards will depend on the intricacies of your plan, and this is something you should keep in mind during the design process. Consult a professional to help you with this step, to ensure you are aware of how your choices will affect financial reporting requirements. Expensing treatment: Expensing treatments vary depending on whether performance goals are non-market based (also known as performance conditions ), or market-based (also known as market conditions ), and will also vary depending on forfeitures, performance factors, and more. Consult a professional to help you with these considerations. Communications: Once you ve designed a plan, it s important to communicate the fine details to your employees. Your plan cannot succeed without an effective communication program that lets participants know what type of performance you re targeting, how it will be measured, and how they can achieve the goals set forth. Once the plan is underway, provide your participants with regular progress updates to promote and encourage favored behavior. Tax settlement/withholding: The company may elect to do a net settlement, whereby the employee would receive a net amount of shares that would account for a share deduction, based on the value of taxes due. This would allow for less share dilution, but it would also require that the company pay on behalf of the employee for shares netted. These are just a few of the points you need to consider if you re thinking about setting performance goals. However, each of the points discussed above should be examined in depth, in relation to your company s unique needs. Contact an industry consultant or ask your administration provider for more in-depth help. Or download a copy of Solium s report on performance plans, published in conjunction with the Certified Equity Professional Institute. 5

6 Performance Anxiety? Have No Fear ABOUT SOLIUM CAPITAL Solium is a leading global provider of web-based stock plan administration technology and services. Our software helps companies automate and manage their stock option and purchase plans, by providing unrivaled comprehensive regulatory and financial reporting capabilities. Founded in 1999, Solium has offices in Canada and the United States. Solium s mission and sole focus is to simplify stock plan administration for everyone through technology and services. Our innovative and passionate approach to simplifying and automating tasks, along with our industry-leading Shareworks software, has made us a disruptive force in the stock plan administration industry. Since our inception, we have emerged as pioneers in the industry, as we are always striving to change the status quo and challenge and update traditional methods. We take great pride in being leaders of change and delivering the most innovative stock plan administration experience possible for finance and HR professionals and plan administrators and participants. ABOUT SOLIUM TRANSCENTIVE Solium Transcentive, a subsidiary of Solium Capital, is the equity plan provider of choice for more than 850 companies worldwide. To meet the needs of today s equity compensation environment, Solium Transcentive offers a comprehensive range of technology and advisory solutions, designed to help companies manage equity plans and drive efficient and effective plan administration. Solium Transcentive develops, maintains and markets the Express Equity suite of products, which includes Express Options, Express Stock Purchase, Express Desktop and Express Share Tracking. Contact Solium Toll Free: solutions@solium.com Solium Capital Inc. All rights reserved. Solium Capital, the Solium Capital logo and Shareworks are trademarks of Solium Capital in Canada and/or other countries. All other trademarks are the property of their respective owners.