Posts Tagged ‘stock appreciation rights’

The most recent post discussed the structure of a Stock Appreciation Rights Program as part of your ongoing effort to retain and motivate key employees, and as alternative to issuing equity.  The principal advantages of the SAR program are:

  1. It provides a clear connection between financial reward and the success of the company.
  2. It encourages cooperation among individuals and groups, because everyone will benefit financially if the company prospers.
  3. The vesting schedule encourages and directly rewards longevity.
  4. The company repurchases non-vested shares for zero dollars.
  5. When the company repurchases vested shares, 100% of the repurchase price is tax deductible.

As we indicated in the last post, an SAR program provides little in the way of immediate reward.  For some individuals, such as “hunter” salespeople, the lack of short-term feedback can be a demotivator.  This shortcoming can be remedied by an effective cash bonus program.

There is one cardinal rule for designing any cash compensation program; namely, reward the employee for success in areas in which s/he has a significant amount of control or, at least, considerable influence.  Financial accountability is critical, and that means the capacity to carve out in numbers the results of your employee’s efforts.

Let’s say, for example, that your company manufactures a number of products which carry a wide range of Gross Margin as a percent of sales.  Among those product lines that generate comparable unit volume, your sales force should emphasize sales of the high Gross Margin products, and you should reward those who are successful in this effort.  Specifically, the bonus plan must reward both Gross Margin dollars and Gross Margin percentages.

We have designed a number of sales compensation programs over the past 40 years, with particular emphasis on this very principle.  The beauty of this idea is that, if the salesperson increases the proportion of high Gross Margin business, while maintaining constant sales volume, s/he will benefit twice. First, Gross Margin dollars will increase because the Gross Margin percentage is higher on constant sales.  Second, s/he will get a bigger slice of those Gross Margin dollars.   So, the salesperson will get a bigger slice of a bigger pie.  Now, that’s motivation!

Stock Appreciation Rights programs and cash bonus programs are not mutually exclusive.  Quite the contrary, they can be companions that address the need to motivate the employee in the short run and encourage both strategic thinking and longevity.

Good luck!


PhotoPopell This article has been contributed by Steven D. Popell. Steve has been a general management consultant since 1970. Steve is a Certified Management Consultant, business valuation expert, and inventor of ExiTrak®– a process designed to assist the privately-held company owner/manager to build an attractive strategic acquisition candidate

Retaining key employees is extremely important for ongoing operations, and in building value for a potential sale of the company.  Stock options have historically played a key role in providing incentives for these individuals to stay.

In a previous post, we discussed the fact that IPOs and, with them, the attractiveness of stock options have taken a considerable hit in the past few years.  Not to worry.  A Stock Appreciation Rights (SAR) program can achieve many of the same purposes with few, if any, of the drawbacks of a stock option plan.  Here is what you need to know in order to have an intelligent and productive conversation with a professional who can help you to draft the implementing document for an SAR program.

The SAR Grant sets aside a specific number of SAR shares to be awarded to a named employee, including the timing and size of each award – both matters of management discretion.  Since SAR shares are awarded, rather than purchased, the employee does not tender any cash or incur any financial obligation to the company.

The Base Share Value (the value of the SAR shares at the time of the award) is also specified by management.  The key in determining the basis for this value is management’s definition of success.  Pretax profit as of the end of the most recent calendar or fiscal year would be a good example.  If earnings increase over time, all employees holding SAR shares will benefit as the value of those shares increases.

While there are advantages in having the same basis for valuing the SAR shares of all employees (such as increasing the chances of cooperation among potentially competing individuals or departments) other factors may have greater weight.  For example, if one group of employees has considerable influence over Gross Profit, while another has its principal impact in control of overhead, separate bases for valuing SAR shares may be more effective in fostering the kinds of behavior that management seeks.

Along with the SAR share award schedule, there is usually a vesting schedule.  These two elements combine to prolong the period in which all SAR shares are fully vested and, therefore, receive full value at sale.  If, for example, 25% of the shares are awarded each year for four years, and there is a four-year vesting schedule, it will take seven years for all shares to be fully vested.

When the employee leaves the company, his or her shares are purchased by the company at the then value (or the value at the end of the most recent calendar or fiscal year.)  The calculation is a simple one:

Cash to the employee = the Current Share Value minus the Base Share Value X the number of fully vested shares owned by that employee.

Non-vested shares have no value, and are purchased for zero dollars.  If the company is sold, all SAR shares will typically vest immediately.

The principal disadvantage of an SAR program is that it provides little in the way of immediate reward.  That shortcoming can be remedied by an effective bonus program.  The next post will discuss this important topic.

Good luck!


PhotoPopell This article has been contributed by Steven D. Popell. Steve has been a general management consultant since 1970. Steve is a Certified Management Consultant, business valuation expert, and inventor of ExiTrak®– a process designed to assist the privately-held company owner/manager to build an attractive strategic acquisition candidate

Increase the value of your company

by Steve Popell on August 9, 2010

This post is about the Role of Stock Appreciation Rights in retaining key employees; which goes a long way in increasing the value of your company. One of the least understood, but most valuable, strategic assets of any privately held company planning to sell is the quality of management, including its breadth and depth.

Put yourself in the position of the buyer.  Would you pay a lot for a company the executive corps of which consists of the founder/CEO and a cast of minor characters?  Of course you wouldn’t, and for one very sound reason.  If something were to happen to that individual (illness, injury, death or, simply, loss of motivation) your return on investment would be in serious jeopardy.  So, you would reduce your risk by reducing the price.

Therefore, it is critically important that ownership find effective ways to retain key employees.

Fewer Practical Options (Pun Intended)

Financial incentives have always played a key role.  However, because IPOs are much harder to come by in today’s market, one of the traditional favorites (stock options) has lost much of its appeal.  Not to worry.  Riding to the rescue is a great alternative: Stock Appreciation Rights or SARs.  This vehicle conveys no equity ownership.  Instead, the employee shares in the financial success of the company through what amounts to cumulative deferred income, with a vesting schedule that can take nine years or longer to play out.

Advantages and Disadvantages

There are several distinct advantages of SARs over traditional stock options, including:

  1. The value of the SAR shares is directly related to critical measures of company success, such as Pretax or After-Tax Profit, or Net Worth.
  2. The bases for the (hopefully increasing) value of the SAR shares are strictly a matter of management discretion.
  3. There are none of the nettlesome issues associated with employee equity ownership, such as membership on the Board of Directors.
  4. All SAR shareholders have a common goal, which encourages cooperation among sometimes competitive individuals and/or departments.
  5. The vesting schedule provides a powerful incentive to stay with the company – the whole point.
  6. When the company repurchases vested shares, these payments are fully deductible.

The principal disadvantage is common to stock options; namely, inadequate short-term incentives.  This problem can be very effectively addressed with cash bonuses.

The next post will discuss the logistics of setting up and managing an effective SAR program, as well as how to structure a cash bonus program that it actually benefits the company, and not just the employees.

Make it a great month!

PhotoPopell This article has been contributed by Steven D. Popell. Steve has been a general management consultant since 1970. Steve is a Certified Management Consultant, business valuation expert, and inventor of ExiTrak®– a process designed to assist the privately-held company owner/manager to build an attractive strategic acquisition candidate