Incentive Stock Options, or ISOs, have been the foundation of tech company stock option programs for the past three decades. ISOs are supported by IRS rules that are designed to promote longer-term employee ownership by offering a tax advantage. ESPPs are governed by many of the same rules as ISOs. Most participants forego the potential tax advantage and treat their ISOs like any other stock option and their ESPP like a cash machine.
Since these plans are harder to administer, harder to communicate and most importantly, only a small percentage of people take full advantage of them, many companies have done away with them completely. Why offer a plan with a bunch of rules when half or less of your employees will ever use it? Many compensation consultants and accountants also advise companies to avoid these underutilized and powerful tools. Even companies that have these programs are advised to stick to the simplest features possible, regardless if this aligns the plan to a company’s stated strategy or culture.
Getting rid of ISOs or ESPPs because of underusage is like arguing we should eliminate presidential elections because so many voters don’t go to the polls. In other words, it is a bad idea to take away a privilege for many just because some, or most, don’t actualize its potential.
Voting for president can be hard. There are many mixed messages. Even the best-laid plans may result in dealing with unintended consequences. None of the candidates are perfect for everyone and many find none of them adequate for the job. ISOs may be subject to taxation issues that are seldom a concern to the normal US taxpayer. Even the best exercise and hold strategy may result in paying more than you expected. ESPPs require an employee to forego pay in order to get stock they may not fully understand. In all these cases, some studying and individual effort is required. Having a trusted advisor to help guide decisions is a good idea.
As we get into the thick of the presidential election cycle, I am reminded how difficult it can be to make a good decision on something so important. There are so many perspectives and so much misinformation that it can be hard to separate the useful from the loud. But, even with all of that noise and confusion, we never hear a call for the elimination of voting. This is because voting is better than the alternative.
When comparing ISOs to other forms of “appreciation only” instruments (NQSOs, SARs are the most common), ISOs are almost always the best alternative for an individual. If a company can grant them, they should take that responsibility seriously. ESPPs are similar comparisons. Offering a lesser alternative out of ease for the stock plan administrator, accounting department or communications specialist is just silly.
I have said it before and I will continue to shout it out loud. In a world where everyone tries to follow the KISS principle, harder is not always worse. In fact, harder is often the best possible alternative in a world of imperfect alternatives.
Dan Walter is the President and CEO of Performensation and is committed to aligning pay with company strategy and culture. Grab a copy of Dan’s new comprehensive issue brief,Performance-Base Equity Compensation. Dan has also contributed to “Everything You Do in COMPENSATION IS COMMUNICATION”, with Comp Café writers, Ann Bares and Margaret O’Hanlon. And if you’re still not sick of Dan, he has co-authored “The Decision Makers Guide to Equity Compensation”and “Equity Alternatives.” Connect with Dan on LinkedIn. Or, follow him on Twitter at @Performensation and @SayOnPay.