The NASPP Blog

You may know that one of the (many) mantras of the stock plan administrator is something like “know the terms of your stock plan.” If there was a list of top 10 phrases of advice for a stock plan administrator, I’m pretty sure that understanding all of the various nuances of your company’s stock plan(s) would be there. Interestingly, when many of us think of plan terms, we’re thinking of the really important details, like the number of shares, limits on shares, handling of terminations, death and disability. You get the picture. I’m betting that I’m in the majority (not the minority) in having read a stock plan or two and skimmed over the language that seems fairly standard. Especially the wording that seems to be pretty similar in every stock plan, or, what I call “legal stuff” that doesn’t translate to outright administration responsibilities. Language that is just there. Well, as it turns out, that language is there for a reason and the phrasing of some of those terms could be way more important than one might think.

Waxing Philosophical?

I’m going to start using the word “purpose” now, as in understanding the purpose of your stock plans. I’m not really waxing philosophical, though. If you look at your stock plan, chances are the very first thing you see is a section on the “purpose” of the plan. And it usually goes something like:

“The purpose of this Plan is to provide incentives to attract, retain and motivate eligible persons whose present and potential contributions are important to the success of the Company, and any Parents and Subsidiaries that exist now or in the future, by offering them an opportunity to participate in the Company’s future performance through the grant of Awards.“

The above is a copy and paste from a real stock plan, available publicly online, that will remain nameless. I think you get the picture, and I’m betting if you look at your own plan’s “purpose,” it will read fairly similar.

So why all this chatter about the purpose of a stock plan?

Intent Does Matter

A recent blog by California attorney Keith Bishop recounts a recent 9th Circuit Court of Appeals ruling involving – you guessed it – the purpose of a stock plan. The plan involved in the case was a stock rights plan, but in terms of plan terms the one in question for this matter is similar to what you’d find in an equity incentive plan. The specifics of the appeals case are described by Attorney Bishop as follows:

Most equity award plans that I come across include a statement of the plan’s purposes.  I haven’t tended to give these provisions a whole lot of thought, but an opinion issued yesterday by the Ninth Circuit Court of Appeal makes it clear that a plan’s purpose clause can be very important indeed.  The case arose from the retirement of the plaintiff, a Mr. Foster Rich, from Booz Allen Hamilton, Inc. (BAH).  While working at BAH, Mr. Rich participated in the company’s stock rights plan (SRP) pursuant to which he was granted the right to purchase BAH shares.  When Mr. Rich retired from BAH, he had accumulated 30,500 shares.  BAH then exercised its right to repurchase those shares and paid Mr. Rich $4,507,900, or $147.80 per share.  That is a lot of money, but a little over a year later BAH sold a portion of its business to The Carlyle Group and holders of BAH stock received $763 per share. Because Mr. Rich was no longer a BAH shareholder, he did not receive any compensation from that transaction.  Presumably, Mr. Rich would have received $23,271,500 had his shares not been repurchased.  It seems that while Mr. Rich became wealthy under the SRP, he didn’t become nearly as wealthy as others.

Mr. Rich sued alleging breach of contract and Employee Retirement Income Security Act (“ERISA”) claims.

The 9th Circuit did not agree with Mr. Rich and upheld that the plan was not subject to ERISA (more details can be read in that blog). In arriving at their conclusion, they turned to the “purpose” of the plan as defined by the plan, and corroborating actions and communications within the company that further supported the stated purpose. That plan’s purpose was defined as “to provide incentives for [BAH] Officers to continue to serve as employees of the Company and its subsidiaries.”  Sound familiar? That’s not too far off from the Equity Incentive Plan purpose language above, right? It appears that, in this case, it was the plan’s own language that played a significant role in helping the 9th Circuit decide to uphold that the plan was not subject to ERISA (and therefore the former employee was not entitled to further gain from the shares post repurchase).

Bishop suggests that this case may be something for companies to consider when responding to item 1(a) on the Form S-8. The choice of words there could be an important factor in helping to clearly define the true intended purpose of a stock plan (“Briefly state the general nature and purpose of the plan, its duration, and any provisions for its modification, earlier termination or extension to the extent that they affect the participants.”) and their corresponding entitlements. This is something for all stock plan drafters to consider. Certainly for those involved in drafting new plans or the S-8 process – even if it’s just reviewing the documents, it’s something to raise as a point of discussion. While your stock plan may not be subject to an ERISA-based challenge, there could certainly be other challenges that arise. That’s why having a clear and solid intention behind all that plan language, supported by administration practices that reiterate and corroborate those intentions, really does matter. It turns out that those many pages of plan terms are important after all.

-Jennifer