Facebook’s equity gaffe: How not to shape your staff options plan
The staff at social media company, Facebook, and online games maker, Zynga, are in a funk, according to newspaper reports today.
It’s to do with the employee share plans the two big internet companies run.
Staff received shares in the initial public offerings of both companies. Zynga listed in December last year, and Facebook in May this year. Zynga’s share price has fallen 75% and Facebook’s by 46%.
The massive amount of wealth lost to staff of the high-profile internet companies, calculated by The Wall Street Journal and compensation researcher, Equilar, was published in The Australian today.
Staff at the companies are feeling down about their shareholdings, the newspaper reported, even though the average stock value of staff at Facebook was $2.5 million as of last Friday.
The problem, it seems, is the $2 million more that the shares used to be worth, on paper, several months ago.
A local trend towards employee share plans
Employee share plans are one the increase in Australia too, both in public and in private companies, says Ray Cummings, a director at accounting firm, Pitcher Partners. Cummings advises clients on how and when to establish such schemes, and who to include in them.
“It is happening more and more,” Cumming says. “In [large] private companies, they are tracking along and having one or two executives that they want to provide an incentive to. The principal and employee start with talking about remuneration, but I explain [to the principal] that executives are not doing this for remuneration. ‘You are paying already paying them big dollars and a bonus. What they are seeing is the ownership side’.”
In public companies, the case is an obvious one: tie the key executives’ rewards to the share price performance, and you have a market price and mechanism for realising the reward.
Companies are moving quickly to give employees a stake in the company for several reasons, Cumming says. “It is in part because of the soft economic times, so the cash isn’t there to pay another $50,000. You are rewarding key employees and saying stick with me, we are in for the long haul.
“Over the last six to eight months we are sensing a spike as people say: we think things are going to happen, so lock it in now, while values are low.”
The risks of broad-based schemes
Giving shares to staff, who have little say in the decision-making, is a less convincing case as an employee engagement mechanism, Cummings says. “Talking from long experience creating employee share plans in public and private companies: if the price goes up, it works; if it goes down, it doesn’t work.”
And it can destroy productivity. “I always caution clients before they set up employee option plans; they can provide a total and utter distraction for employees. They are always asking what they get out of it, about compliance and management of the shares. Many a client says to me, I just wish I hadn’t bothered.”
Dale Gillham, executive director of Wealth Within, says he would advise against employees taking share options, other than those in the highest executive roles, such as chief executive, or chief financial officer. “I would say get the money in the hand, because share options or equity is really high-risk for most of the companies issuing shares. Unless you are talking about a big listed entity, in the top 100, you are better off getting cash in your hand. The equity will come with conditions, such as that you can’t sell it for two years, or you can’t leave. They can invest their cash in things that are less risky.”
Tax changes
Tax is another problem for employee share schemes. The tax office determined some years ago that employees need to pay tax on shares when they receive them, if they are given for free. Tax can only be deferred to a future date in very rate circumstances.
These rules add to the disincentive. “If you issue options and they are in the money, so you are paying less than market value, so you might think I can afford to pay a bit of tax,” says Cummings. “But if I have paid $10,000 in tax and then share price goes down – they are out of the money – and that tracks along for three years until the options have to be exercised, I can’t get the tax back. Those options expire worthless, and I am stuck having paid the tax.”
Leadership issues
Staff can blame management for putting them in the scheme, further eroding their leadership authority.
Gillham says he has considered the idea of an employee share plan for his own managers, but decided against it. “For start-ups it is great, but for companies that are more stable it is harder. Employees prefer what they can get now, rather than what they can get in the future.”
Cummings says: “For a handful of key executives, it is the right thing to do because you are dealing with commercially astute people who can get their own advice.”
Kath Walters
Kath Walters is the editor of LeadingCompany and an award-winning journalist of 15 years’ experience. Kath was previously a senior writer and editor at BRW magazine covering management, strategy, finance, entrepreneurship and venture capital across all industry sectors. In 2006, Kath won the Citibank Award for Excellence in Journalism (General Business). Follow her on Twitter @KathWalters
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