Compensation Cafe

ISO Love Stock Options

Editor's Note: Today's post comes to us courtesy of guest contributor Judy Freides.

As the candidates pursue the Republican nomination, there is a lot of discussion around tax reform. Some of the changes being put on the table could influence companies’ stock option practices.

In the United States, there are two types of employee stock options — non-qualified stock options (NQSOs) and incentive stock options (ISOs). While similar in concept, the taxation of the two is very different.

 NQSOs are the more commonly used of the two. Once an employee has satisfied vesting requirements, he may exercise the options any time before the end of the term. Assuming it’s a cashless exercise, ordinary income is realized and taxed accordingly. At the same time, the company gets a tax deduction.

 ISOs offer a more favorable tax treatment to employees, but the news is not all good. When an employee exercises ISOs, there is no taxable event. At the time the shares are sold, it’s all considered capital gains. But here’s the catch – the employee must hold the shares for one year after exercise in order to get this special tax treatment. In that time, the share price could drop and turn the capital gain into a capital loss. Additionally, the company is not entitled to a tax deduction. In my opinion, these two issues have significantly limited the appeal of ISOs.

 Now let’s assume the Republicans are successful in extending the Bush tax cuts, leaving the highest marginal tax rate for ordinary income in the mid-30% range. They abolish the capital gains tax and reduce the corporate tax rate to 12.5%. And let’s assume that the Alternative Minimum Tax (AMT) is also eliminated, since neither party likes it. If these tax policies were to come to pass, how do we like ISOs now?

 I think they look much more interesting. From an employee perspective, any realized gain is entirely tax-free. This might make the risk of the one-year holding requirement more palatable. From an employer point of view, the tax deduction is still lost. But, is there an argument to be made that fewer ISOs have to be granted in order for the employee to realize the same after-tax gain as NQSOs? If that’s true, then the company has a potential offsetting savings from reduced stock option expense and lower shareholder dilution. And, I think there’s a case that can be made from a corporate governance perspective as well. Shareholders would certainly approve of a stock option plan that only rewards executives if stock price performance is sustained.

 I’m not saying ISOs would be a silver bullet. There are some other limitations and rules associated with them that can be challenging. But if the Republicans prevail, they might be worth a second look. 

Judy L. Freides is the resident blogger for CompDevil, a new company providing Human Resources professionals with on-demand access to compensation experts via live chat. Judy brings over 15 years of experience to bear in her weekly blog, which focuses on the nuances and pitfalls of compensation around the world. Her recent role as Global Compensation Director for a company with over 100,000 employees in 100 countries leaves her skeptical that there’s much out there that she hasn’t come across. But then again, she loves surprises.

Creative Commons image "Happy Valentines Day" by muffett

Is It the Person or the Position?

How much value is added by the individual holding that important management post?  Would those same output results occur no matter who was the incumbent?  Should any person who holds a position of substantial impact be automatically highly compensated?  How much of the “job worth” is truly attributable to the talents of the individual versus the normal outcomes anyone could generate from that place of power?  If someone is placed in a spot whose leverage has been created by the larger organization and its systems, why do we assume they deserve so much more pay than if they were an individual contributor with limited ability to affect the bottom line?  Is it the job or the person that creates value and how much comes from each?

These questions are integral to the compensation tradecraft yet are rarely discussed or even mentioned.

A recent article had an interesting take on the global compensation issues from bankers meeting in Switzerland.  Most felt that their generous remuneration was a matter of disinterest to their institutional investor shareholders, because it was a relatively tiny expense compared to the profits.  But a few noted that "it's the seat, not the individual," and found it offensive to see some callow young ignoramus earning millions merely because they had been placed at the head of a hedge fund which almost automatically generated billions in profits.  That comment brought back memories of my compensation childhood when Robert A. Smith preached the distinctions of organizational leverage versus human capital factors (KSAs) back in the early 1970's to his four young corporate comp/org analysts named Dave Thomsen, Gerry Stern, Larry Cook and Jim Brennan. 

He directed our reverse-engineering of virtually every job evaluation plan that existed at the time.  Taking the most statistically reliable elements of each, we then freshly designed and validated a customized point-factor plan universal enough to suffice for the Fortune 50 multinational conglomerate we served.  Besides the traditional personal features people bring to the job like education, experience and specific types of skills, we had an entirely distinct set of other categories we called “organizational factors.”   The personal human capital elements specific to the individual (KSAs) could be carried from job to job and proved to have significant but limited effect on market compensation.  The real money came from the leverage supplied by the organization for the application of the individual performer’s talents.

A skilled surgeon or product designer would have great value up to a certain point.  The personal value of an isolated worker would not continue to increase at the same rate (it showed an asymptotic relationship) as that of a less “skilled” but more “responsible” manager or executive given a higher degree of wider impact.  A great individual contributor only has one brain, two hands and so many hours to ply their trade.  The market value of personal KSAs flattened out fairly quickly.  On the other hand, even an indifferent manager, director or other executive operates as a conductor, coordinator or force multiplier who stirs those diverse KSAs together and applies them throughout the broader enterprise than the individual work unit.  The bureaucrat who applies the creative talents of otherwise isolated Nobel Prize winners will earn his or her value from that application leverage position rather than from their personal stand-alone talents.  Albert Einstein and Stephen Hawking would have had very limited values as ditch diggers but had tremendous values as teachers and publishers and innovators in the field of theoretical physics.  Many a brilliant genius has starved to death in this world due to failure to find an adequate platform from which their talents could be monetized.

There are things only the person can do.  And there are things only the organization can empower the position to do.   

This might be fundamental Compensation 301 to some readers, well known and fully documented in every textbook, but I don’t recall seeing it discussed much, if at all.  Please offer links or references that prove me wrong.  Supply even better elaboration on the topic.  I’d rather be wrong than right, on this point, because it is pivotal to a sophisticated comprehension of compensation tradecraft.

Whether the concept is new or old, just think about it.  It might help clarify some compensation valuation questions you face on a daily basis.

 E. James (Jim) Brennan is Senior Associate of ERI Economic Research Institute, the premier publisher of interactive pay and living-cost surveys. Semi-retired after over 40 years in HR corporate and consulting roles throughout the U.S. and Canada, he’s pretty much been there done that (articles, books, speeches, seminars, radio/TV, advisory posts, in-trial expert witness stuff, etc.) and will express his opinion on almost anything.

Image courtesy of shaneprigmore.blogspot.com

Is it Time to Change the Equity Compensation Paradigm?

Even with the explosion in performance-based equity, most equity compensation plans look very much like they did almost twenty years ago. Stock options, restricted stock unit and employee stock purchase plans would be familiar to a time-traveler from 1995. The biggest differences are in the size of the payouts and that many participants receive equity as an addition to base and bonus pay, instead of as a replacement for some of it. The similarities now and then are almost too numerous to list.

For the sake of a theme let’s talk about private companies.

Recently, many investors, executives and employees at privately owned companies have started thoughtfully questioning the reasons behind plan design and features, process and communication. These questions are less focused on traditional public company issues of skyrocketing CEO pay and governance issue and more aimed at how to create programs that fit the needs and patterns of the current economy as they relate to smaller companies.

Let’s start with vesting. Why does almost every plan offer 3 years vesting on full-value awards (restricted stock RSUs, Phantom Stock) and 4-5 years for appreciation-only awards (stock options, SARs, etc.)? There are two basic answers to this question.

1)     Legacy. When stock options plans were first solidified in the 1990s it was common for an exit event to occur in 4-5 years. Everyone followed the leader and an innovative idea became a dictum.
Restricted regained popularity after the Dotcom bust. The first few of these newer plans to make the headlines had three year vesting (AT&T, Microsoft). Once again an idea that had been focused on the needs of a moment became a kind of commandment.

2)     Practicality. Most companies find it hard to see more than three years into the future. Most compensation professionals see three years as being the minimum for “long-term” incentives. Conveniently these mesh well.

You’ll notice that I didn’t mention any scientific evidence behind typical vesting schedules. In most almost two decades working on these plans, I have not seen any convincing research that explained how nearly every company would benefit from nearly identical vesting norms.

More important than the initial questions about vesting tradition is the unspoken question: Why won’t longer or shorter vesting periods work? Vesting should exist to help the company meet specific goals and objectives. Awards with shorter, and much longer, timeframes do work for some companies. Why wouldn’t an eight-year schedule work if it matched the expected period for fruition of the company’s goals?  Why not two years for employees with shorter-term goals? The issues with vesting schedules are that most advisors are stuck in a rut, and most executives have been led to understand that equity is bound by legacy design considerations.

What about the type of instrument? Stock options have been the “go to” resource since the late 1980s. Unfortunately, they can be a bit like heroin. The initial grants are small and have an amazing impact. In order to repeat that feeling grants must get bigger and more expensive. Participants become more dependent on them and companies lose sight of some of the critical reasons they started using them in the first place. Once addicted, it becomes difficult to wean people off of stock options.

We have also heard a lot about the growth in restricted stock shares and units, but these vehicles are seldom used beyond founders in most start-ups. After the first few people, they tend get put on the back burner until the stock is publicly traded and the price is subject to the whims of the public market (consider them a form of methadone). Stock Purchase plans are difficult to do in private companies, but there are still valid reasons to consider them. We seldom hear much about the other forms of equity compensation, or the alternatives to traditional equity.

Even if we stick with the traditional big three, why haven’t these programs evolved with the changes in the markets, types of investors, company lifecycles and more? In 1990, when most of the current program designs were locked-down phones were still attached to a wall and there was no such thing as email. We live in a smart-phone world while using tools from a time when the Internet or calling someone from your car was still a concept bordering on science fiction. We can do better and I hope to spur a discussion here at the Compensation Café on what we can change to move these plans forward.

 What do you think needs to be fixed about equity compensation?

This article is the start of a discussion I hope will expand through this year and beyond. Look for future articles on this topic as we explore the possibilities of evolving compensation to meet the needs of the 21^st century.

Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” and “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter at @Performensation and @SayOnPay

Where in the World is Carmen San Diego’s Equity Compensation?

Some of you may remember the video game and game show “Where in the World is Carmen San Diego” (WITWICS.) It was very popular more than a decade ago. The goal of the game was to find the villain, Carmen San Diego, based solely on key facts about different locations around the world. The players had to know the specific country differences that made it possible to identify each unique location and capture the Carmen.

Compensation around the world is as unique in size, design and structure as were the clues to WITWICS. Unfortunately, when looking at most companies’ equity compensation design and awards, it is often impossible to distinguish which continent the participant is on, much less the specific country or region. Plans that don’t include regional differences can result in programs that aren’t effective anywhere.

As compensation professionals, we pride ourselves in the amount of survey data we use. We spend a lot of time and money obtaining and analyzing base pay and STI data that is specific to position and location. We work tirelessly to ensure that our compensation is competitive for those we want to hire, motivate and keep while still fitting within our compensation philosophy. Unfortunately, we often skip this process with equity compensation, especially when it comes to global awards.

This has been a consistent issue since the explosion of global equity plans more than 15 years ago. An engineer in County X, in State Y in the United States makes $90,000, plus a potential bonus of 20%. The company also offers 2,500 stock option shares. The same company pays a similar level engineer in another country base pay of $32,000, plus a potential bonus of 20%. Inexplicably this engineer also gets 2,500 stock options shares.  People have explained this by claiming that there is “too little data” or consistency allows for “easier movement” if the engineer in question has to be moved to a US location. The reality is that, for nearly every company, this is just bad policy.

I admit it. Variable compensation is hard. Global equity is even harder. It’s variable compensation to the fourth power!

1^st  You have the variable nature of equity itself. (Different instruments, available shares and more.)

2^nd Then you have the variability of the current stock price.

3^rd Add to that the variability of currency exchange rates.

4^th Add the volatile changes in unpredictable future stock prices.

Global equity also requires an understanding of constantly changing securities laws, income and tax provisions, expatriate considerations and other factors. Many companies look at the swirl of data and regulations, throw their hands up and beg for mercy.  A minority put a team of people on the project and work to create a perfect solution. The first approach works occasionally and randomly. The second approach works more frequently, but provides no guarantees.

Just like the competitors in the game WITWICS, the best way to determine how to find the right solution for each area is to focus on those factors that make each location unique. Some locations have already broadly adopted, and have a basic understanding of, equity compensation. These locations often have accessible survey data that is used by your international competitors to determine grant sizes. Other locations still see equity as a novelty. Small amounts may work as an avenue to begin their education. Still other areas do not value equity much at all. No matter what your philosophy is, a better strategy may be to offer a different form of compensation. Lastly, people in some regions are simply not paid enough for equity compensation to work well at all. If you decide to give people a nominal grant of 2% of their annual pay and your stock is trading at $200, you may have problems with someone who makes less than $20,000. Imagine giving that person 2 shares that vest over 4 years. Even the best communication can’t make sense of that!

Craft the plan to meet your people’s needs and locations. Don’t force your people to meet the needs of a tidy little plan and philosophy just to make your own life easier. Remember that every location is as unique as the one where your office is located. Every group of people have a set of desires and drivers as targeted as those sitting in the building around you. If you structure your plan to meet your locations you may find that it works as you had hoped. Otherwise expect surprises (and not the pleasant type.)

Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” and “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter @Performensation and @SayOnPay

Don’t Tell Me I’m Great If I’m Not!

I have both friends and clients who have been struck by an unfortunate dilemma. I have a couple of friends who have been told one thing for months, and perhaps years, only to find out that the truth they knew wasn’t the “real” truth. I have clients who need to realign pay for people who have been told they were top performers when, in fact, they are less than adequate. In both cases it seems more like senior managers were trying to be nice, rather than sneaky.

Why have confrontation when you can have everyone like you? It’s easier to be nice to everyone. Many managers have made this their approach to leading their staff. Rather than point out flaws, they point out only the positives. Rather than prepare their staff for bumpy water in the future, they keep things on the bright side right up to the moment the boat hits the dangerous rapids. The discussion of a potential demotion, cut in pay or job-ending decision never seems to make it onto the agenda.

Employees want to be led, and generally want the truth. I also think managers generally want to tell the truth, but seldom have the skills to do so delicately. While these managers do a disservice to employees by not laying out a realistic path, those of us in the compensation community do even worse by not providing them with the tools, words and examples that will allow them to discuss both the good and bad.

We can’t expect great employees who have been promoted to be great managers to be able to talk about pay issues with any amount of expertise. We also can’t expect that they will always do this task well, even if they have been trained. We need to make it clear what needs to be said to underperformers and check back to make sure it has been communicated.

This is not about avoiding lawsuits or angry ex-employees. This is about not being jerks in the eyes of those we need to keep working hard. Once the trust on performance has eroded in a single example, you risk the chance of other employees questioning their value to the company. Rebuilding trust is far more difficult than maintaining it. Like a swimming pool, it is far easier to keep it full than it is to fill it up.

So look at what you've asked managers to communicate. Then ask yourself if you have provided them the skillset to do so with a complete level of truth. It is not only our job to make sure that pay is properly designed and set, it is also our responsibility to ensure that the discussions around pay reflect the sometimes harsh reality of underperformance.

Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” and “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter @Performensation and @SayOnPay

Executive Compensation and the Great Wizard of Oz

Executive compensation holds as much mystery and magic as the Great Wizard of the Emerald City.  Of course, if the curtain were to be pulled back, the real magic would be found in how a lack of information, combined with fear and imagination, have colored the pay of all executives with the same brush. Remember that when Dorothy and Toto met the wizard he was just as unhappy and scared as they were.

I find it amusing and frustrating that there is so much misinformation about executive compensation. Let’s state the givens: Yes, there are many CEOs who make more money than most people can comprehend. Yes, executive compensation is a complex arena with many assumptions and estimates being made at any given point. Yes, companies spend a lot of time and effort on disclosure. So why am I frustrated?

Everyone discussing executive compensation has some type of an agenda. Companies don’t want to upset their shareholders or fight with the media. Journalists want a story that stands out among the noise of the day. Shareholder advisory firms want to show their knowledge and ability to shift practices. Consultants want to defend their past practices or point out their superiority when compared to pay at non-clients. Survey data providers want information that can be easily understand and digested. Politicians want to look good to their constituents without upsetting their contributors.

Each perspective leads to a different approach to the positives and negatives of executive compensation. Companies tend to paint things grey and play it safe. The media tends to hyperbolize and point out the outliers. ISS and Glass Lewis point out new issues to remain relevant and gain new clients. Consultants point out their successes and explain their failures as “beyond their control,” or “not their fault.” Survey data is defended as holistic even when it is often made up of a tiny fraction of representative companies. Politicians focus on the obvious problems and talk about them like they represent the majority of pay practices (but, they seldom act in the same way.)

All of this posturing has turned the topic of executive compensation into a kind of omnipresent wizard with terrifying powers and a capricious temper. It’s spoken about in hushed terms or artificially confident booming voices. The curtain is never really pulled back, since everyone already “knows” what’s behind it.

Imagine if the wizard had simply invited Dorothy behind the curtain the moment she arrived. Consider what his life would have been like had he rejected the mysticism of his new role from the day he arrived in Oz. Of course, he wouldn’t have had the power over people that mutual fear and misunderstanding granted him. Perhaps he wouldn’t have also had a lonely misunderstood existence that made him miserable.

When preparing this year’s proxy disclosure, say on pay voting and overall communications regarding executive compensation, consider pulling back the curtain on your pay. If you give people the truth only the crazy will find a way to dispute it. If you give people the whole picture you will lose the power of mystery but, in return, gain the power of understanding.

(Dear Readers: Yes, I know that I have used the Wizard of Oz twice in recent posts. No, I don’t know why, since I have not seen the movie in several years. Who knew it was created to inspire compensation articles?)

 Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” and “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter @Performensation and @SayOnPay

Sometimes the Road Less Traveled leads to a Band of Flying Monkeys

We all get bored. Most of us fill that boredom by exploring something new. Often this leads to an exciting new restaurant, but sometimes it means a terrible meal. Sometimes this means meeting new friends, other times it means getting stuck at a colleague's holiday party listening to stories about office politics and sick children. In my experience, very few compensation professionals are also extreme sports fanatics. I seldom speak to someone in our industry who has recently snowboarded off a cliff or free-dived with white sharks.

I bring this up because we are responsible for a huge portion of our companies' success. It surprises me how often professionals make a decision to follow a new path without first calculating to possibility of the path ending in a band of flying monkeys, rather than a better solution.

Are you following the road less traveled in the spirit of Robert Frost or Dorothy from The Wizard of Oz?

I ask because I still see a lot of compensation professionals acting against their nature when it comes to new programs. When an old plan is not working as well as planned, many choose to roll out a new program. This is done instead of enhancing the features and communication around an older plan. While the problems may be driven by failures in the design of the old plan, it is just as likely they are caused by poor utilization of available plan features or poor communication of the same.

Given our increasing responsibilities and shrinking staff sizes, rolling out a new plan efficiently is often beyond our capabilities.  We frequently discover that completion is impossible when we are already well down the "new plan" road, when turning back is no longer an option. This results in abandonment or, worse, partial roll-out of the new plan.  It can also mean that your old plan may still, by necessity, be your ongoing solution.

This year, explore a quick trip down the future of your current program path and ask yourself if you can get where you need to go without starting all over. You may find that you have simply been doing things by rote when a burst of new energy is all that is needed to reach your destination.

Remember that although Dorothy finally got where she was going, the journey was both arduous and terrifying.  We seldom have the luxury (or desire) of putting our employers and employees through a truly frightening experience. Dorothy had the distinct advantage of an author who could ensure that her story had a “Hollywood” ending. We generally drive the ending of our stories and are held professionally accountable for their success or failure.

Take a few days before 2011 disappears to document the reasons for the success or failure of your current (or recent) compensation plans. Be brutally honest about whether you and your staff could have done anything to have made them more successful.

Might I recommend doing those things, before you start down another unknown path?

Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” , “If I’d Only Known That” and  “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter @Performensation and @SayOnPay

3 Reasons Why Employees Are Frustrated & 3 Things You Can Do about It

Frustration.

That’s the common theme I see running through much of the research and news I read lately. And the frustration seems to run along three levels:

1) Employees sense more barriers to getting the work done, even as they are asked to do more with less.
I can do no better than to cite the excellent work of Hay Group Analysts Mark Royal and Tom Agnew on this point in their new book The Enemy of Engagement: Put an End to Workplace Frustration – and Get the Most from Your Employees. Frustrated employees are also engaged employees. If they weren’t engaged – committed to the success of the organization, they wouldn’t be frustrated. These highly engaged employees know they can do so much more, but feel shackled by processes, procedures, bad bosses, poor communication or other minutiae that keeps them from doing what they know they can do and what they know the team, the customer or the company needs from them to succeed.

2)  Companies sitting on loads of cash and not reinvesting that back into the workforce.
The news has been full of stories in the past few months of companies hoarding cash, reporting that “even accounting for a massive safety cushion, at least $1.4 trillion of those reserves should be considered excess.”

The reaction from “average employees” in large part seems to be one of anger, dejection and an ever increasing loss of loyalty to the organization. It would be disingenuous to express surprise at that reaction. When the recession first hit, employees who survived rounds of layoffs overcame their survivor’s guilt and took on the roles of laid-off colleagues. After three years, these employees continue to do yeoman’s work covering multiple roles, but don’t see any end in sight.

While research reports show employees are working at highly productive levels, employers seem to think they can keep working at that level indefinitely. So employees who “took one for the team” are now frustrated to see loads of cash hoarded instead of reinvested into hiring to backfill those positions and help the company (and the economy) grow.

3) Executive compensation and bonus structures that make no sense – not even to investors.
More and more investors and average Joe’s alike are demanding reward transparency, and it’s easy to see why based on this latest research out of Towers Watson:

“Are companies in denial when it comes to executives' annual bonuses for 2011? Judge for yourself. Among 265 companies that participated in a newly released Towers Watson survey, 42% said their shareholders' total returns were lower this year than in 2010. No surprise there, given the stock markets' flat performance in 2011.

“Yet among those that reported declining shareholder value, a majority (54%) said they expected their bonus plan to be at least 100% funded, based on the plan's funding formula. That wasn't much behind the 58% of all companies that expected full or greater funding.

"‘It boggles the mind. How do you articulate that to your investors?’ asks Eric Larre, consulting director and senior executive pay consultant at Towers Watson. Noting that stocks performed excellently in 2010 while corporate earnings stagnated — the opposite of what has happened this year — he adds, ‘How are you [the executive] going to say to them [the investors], “We made more money than we did last year, but you didn't”?’"  

So what do we do about it? The answer is fairly simple:

1) Knock down the barriers. Trust the people you’ve invested in to do the job you hired and trained them to do. Yes, supervise their activities, but be sure you’re not instituting “processes” for the sake of processes.

2) Spend the cash and hire people already. If your organization is sitting on a huge cash reserve as a hedge against a double-dip recession, you’re inadvertently contributing to that eventuality. Notice how overworked and stressed your employees are. Help them out already and loosen the purse strings. Hire the talent you know you need to grow while giving your current staff room to breathe and refocus their efforts and skills where they can truly excel.

3) Eliminate ridiculous bonus structures and bring compensation (at all levels) into alignment. Sure, I know this won’t happen overnight. But someone has to start somewhere. Towers Watson has done a brilliant job of calling this to light in their most recent research, now what are you going to do about it?

What’s causing you frustration in your organization?

As Globoforce’s Head of Strategic Consulting, Derek Irvine is an internationally minded management professional with over 20 years of experience helping global companies set a higher ambition for global strategic employee recognition, leading workshops, strategy meetings and industry sessions around the world. His articles on fostering and managing a culture of appreciation through strategic recognition have been published in Businessweek, Workspan and HR Management. Derek splits his time between Dublin and Boston. Follow Derek on Twitter at @DerekIrvine.

Prepare for Compensation Meetings Like an NFL Broadcaster

Like many of you, I have football games playing on my TV during most autumn Sunday afternoons. Also, like most of you, I  pay a lot attention to the big plays, but little attention to the broadcast itself. This past Sunday, for perhaps the first time ever, I focused on the incredible preparedness of the professionals producing the television events. It got me to thinking. What if compensation professionals prepared themselves in the same way? Our meetings with Executive Management and Compensation Committees would be short, enjoyable and incredibly effective.  More importantly, our programs would evolve more quickly and represent our companies more completely.

Consider any NFL broadcast. The announcers have spent all week studying the players and game plans of each team. Research assistants have put together statistics with such specificity that they make my wife laugh almost every weekend. “That pass sets the record for most passes to a running back, under 5’7” during the third quarter of a game in the twelfth week of an NFL season.” Cameras are set-up to cover the play from nearly every angle. They know where family members are sitting and where they’re from.

A great example of this attention to detail was a recent game in which Carson Palmer, quarterback for the Oakland Raiders, threw an interception that was run back for a touchdown. Almost immediately, there were replays from three or four different angles. There was nothing surprising here, just expected levels of great work.  Then came the doozey. Within 30-45 seconds of the play the announcers started talking about Mr. Palmer’s tendency to throw interceptions that were returned for TDs. While they spoke, a series of at least eight prior interceptions from the full length of his 8 -year career, played on the screen.

This meant that someone had just prepared for this unique opportunity. Carson Palmer has played more than 128 games in the NFL.  He has thrown 2,560 passes. Of these, eight or nine were intercepted and returned by the other team. Someone on the broadcast team gathered these into a package that was immediately accessible. The director knew the package was there. The researchers knew how to call it up on demand. The announcers were fed some statistical information to support their innate knowledge. And, in less than a minute, everything came together on screen in compelling support of this specific tendency.

Imagine if you were this prepared every time someone asked you about your compensation plans. “Hey, what’s the rule on Change-In-Control for the 2007 Stock Option Plan and does that conflict with the COO’s employment agreement that he received when we was hired at that company we acquired in 2009?” What if you had an immediate (correct) answer every time someone asked, “Why do we have that feature?” or “How much cash and equity should we offer a Senior Software Programmer, in Chicago, IL?”

If we all prepared and stayed organized like NFL broadcast teams, much of the stress of our jobs would be gone. The stress of leaving a meeting with more things to do than when you walked in.  The stress of providing the wrong, or no, answer in an executive meeting. The stress of correcting administrative errors due to assuming we knew a rule, rather then knowing the rule exactly.

Of course, we’ll never get to a point where we simply have a team of specialists to help us get prepared. We do not work in an industry where there is always accurate statistical data, or in a world where our rules are applied exactly the same way every time.  But, we can, and should, consider making this our goal and begin working toward achieving it.  You never know when that one thing that has only happened a couple of times in the past will happen again, but you would likely be compensated and respected more if you had a ready solution when it came up again.

Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” , “If I’d Only Known That” and  “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter @Performensation and @SayOnPay

How to Explain Stock Options to a Dog

Stock options are one of the most used and least understood tools in the compensation toolbox. Recently, a new optionee  asked if I could explain stock options in a manner that even his dog could understand. I have included my answer below.

"Come here Rover, I have got something to explain to you. Stock Options ....STOP scratching yourself and listen....Stock Options are an offer from the company that allows you to buy company stock at a later date. The cool thing...STOP sniffing my pant leg....The cool thing is that the company will let you buy that stock at today's price. If the stock price goes up then you get a great deal. If it goes down, then you get nothing (or close to it). A couple of key details....COME back here and stop rubbing noses with that cute poodle...If you quit your job any options that haven't vested will probably go back to the company. In fact, ...GEEZ stop pulling at your leash!... the shares you do exercise may also be bought back by the company (I would have to read the plan and agreement to know for sure.)

...What did you ask boy? How do you value them?... A private company is required by IRC 409A to have a reasonable valuation performed on the company at, or near, the time of grant and again at least annually or whenever the value may have materially changed. A public company generally uses the day’s closing or average price. ....OK, just hang on and I will get you a treat....The 2000 options you received may have a starting value of a few dollars or a few thousand dollars. It depends on the number of shares outstanding and the total value of the company. The final value will depend on the success of the company, the change in stock price, and your ability to keep your options etc. ...I'm not sure what’s in the treats, probably beef and bones or something like that...They could be worth nothing or they could be worth millions! The key is working to raise the value of the company as a whole.

I hope this helped a little. Now roll-over and let me rub your tummy.

As I re-read my response I realized that although the dog may now understand the basic concept of a stock option, they would not be able to understand the true risks and benefits of such a complex tool. Stock options, like many forms of equity, have inherent upsides and downsides. We tend to focus on the positives when we choose to use them and emphasize the negatives when we use something else. We seldom provide a fully colored, 3-dimentional picture of how these instruments work in a world of volatile stock prices, complex income and tax ramifications and various financial planning strategies.

When we choose to use complex compensation instruments during a period of unpredictable markets, we must also provide far more training and resources to our employees. Similar examples can be made for many types of equity instruments and nearly every form of performance-based pay. We short-change our employees and our companies by not ensuring that our employees truly understand the what, why and how of every compensation program we offer.

Dan Walter is the President and CEO of Performensation an independent compensation consultant focused on the needs of small and mid-sized public and private companies. Dan’s unique perspective and expertise includes equity compensation, executive compensation, performance-based pay and talent management issues. Dan is a co-author of “The Decision Makers Guide to Equity Compensation” and “Beyond Stock Options.” Dan is on the board of the National Center for Employee Ownership, a partner in the ShareComp virtual conferences and the founder of Equity Compensation Experts a free networking group. Dan is frequently requested as a dynamic and humorous speaker covering compensation and motivation topics. Connect with him on LinkedIn or follow him on Twitter @Performensation and @SayOnPay