Downturns are the Best Time to Give/Receive Equity Compensation Awards
Equity compensation in the form of stock options, restricted stock units, and performance shares, are an important way for public and select privately-held companies to attract, retain, and motivate employees. However, the most valuable equity compensation awards are often granted and received during economic downturns. In this blog post, we will explore why that is the case.
During economic downturns, companies face significant challenges and uncertainty. To survive, companies reduce costs, increase efficiency, and bolster cash reserves. One cost-cutting measure is to reduce overall employee compensation. This includes reducing overall salaries, bonuses, and other benefits through RIFS, freezes or plan modifications. However, companies must maintain top talent, especially during these difficult times. Top talent is crucial to their survival and success.
Equity compensation awards are an effective way for companies to retain top talent during economic downturns without drawing down cash reserves. Equity compensation awards grant employees ownership rights in the company, which aligns their interests with those of other owners. This alignment creates a sense of commitment to the company's success. Employees who receive equity compensation awards are more likely to stay with the company for a more extended period and work harder to ensure the company's success.
Equity compensation awards provide a long-term incentive for employees. In an economic downturn, share prices often are at their lowest, only to rebound later as the economy picks up. When employees receive ownership rights over several years the increase in share prices creates a strong monetary incentive for employees to stay with the company and strive to achieve the corporate goals. This incentive is precious during economic downturns, when short-term cash rewards may be limited or nonexistent. Equity compensation awards are tax-deductible expenses, which may reduce the company's tax liability and periodic tax accruals for a non-cash award.
In an economic downturn, equity compensation awards can be used to attract new talent to the company from other organizations where existing incentives have been cut or awards are underwater. In a downturn, companies that reduce their workforce feed the labor pool with highly skilled professionals. Companies can attract high-performing employees to join their teams by offering equity compensation awards. This can be especially valuable for companies looking to pivot their business model or expand into new markets.
Cash is a precious resource during economic downturns, and companies may need to conserve it to survive. Equity compensation awards do not use cash. This allows companies to conserve cash by reducing cash otherwise diverted to salary or cash incentive expenses, which can be used to fund their operations and invest in new opportunities.
Finally, equity compensation awards can help companies retain control over their ownership structure during times of economic uncertainty. Equity compensation awards are typically granted with certain restrictions, such as a vesting period or a lock-up period to a group that is intrinsically tied to existing management. This group of white knights, of a sort, is especially valuable for companies that are facing a hostile takeover or a significant shareholder dispute when ownership margins are tight.
There are many ways to structure equity awards to take full advantage of a turbulent economic environment. FutureSense can help find the solutions that could work best for you.