As we reported in the Nov-Dec 2015 NASPP Advisor, Twitter CEO Jack Dorsey announced in October that he is giving 6.8 million shares of common stock that he owns back to Twitter, to be used in Twitter’s stock plan. I started looking into this a little further and found some interesting details.
Not So Fast
Dorsey donated shares he already owned to the plan, unlike other CEOs who have given back outstanding options or awards. Because of this, the shares can’t simply be added to the stock plan. For most companies, the only way to add shares reacquired from investors into a stock plan is to submit the allocation to a shareholder vote.
Why Not Contribute Awards?
It would have been less complicated for Dorsey to have agreed to the cancellation of outstanding options or awards, as other CEOs have done (e.g., see our coverage of LinkedIn CEO Jeff Weiner’s decision to forgo his stock grant in the Mar-Apr 2016 Advisor). These shares can be added back to the plan without shareholder approval. But Dorsey doesn’t have a lot of outstanding awards to give up; he has voluntarily worked without compensation since becoming CEO and, thus, wasn’t granted any awards in 2015. He only has 2,000,000 outstanding stock options.
Enter the Proxy Advisors and Institutional Investors
Of course, submitting the plan to a shareholder vote leads to an analysis of the plan by proxy advisors and investors. It can even lead to a new Equity Plan Scorecard evaluation by ISS. A bit of news that caught my eye was that Twitter had to agree to prohibit repricing without shareholder approval under the plan to secure a favorable vote. Repricing without shareholder approval is a deal-breaker under the EPSC.
It’s Complicated
My first thought on reading this was “no good deed goes unpunished.” But, on second thought, I’m not sure that’s the case here. I’m not even sure this is a good deed. Rather than submit the proposal as a allocation of shares to their existing plan, Twitter adopted an entirely new plan for just the 6.8 million shares. The amendment to prohibit repricing only applies to this new plan; as far as I can tell, repricing is still permitted without shareholder approval under Twitter’s existing plans (under which any currently underwater options would likely have been granted).
Where’s the Urgency?
I was surprised to note that Twitter had over 110 million shares available in its 2013 plan as of December 31 and that the plan includes an evergreen provision, under which close to 35 million shares were added to the plan this year. It looks like Twitter granted less than 25 million shares last year, so it seems hard to believe that they are going to need those 6.8 million shares anytime soon.
Which makes me wonder why Dorsey donated the shares. Was it just a publicity stunt? A way to increase employee morale? (And, if so, did it work? Better than donating the 2,000,000 outstanding options would have worked?)
2011 has been a year of many things, one being fresh signs of life in the dormant IPO market. One anxiously anticipated IPO on the radar is that of Zynga, the Silicon Valley based online game company. With rumblings of an imminent high value IPO, Zynga is certainly a hot employment ticket. So imagine the surprise when along came last week’s article in the Wall Street Journal that depicted Zynga as a company that gives and then takes away.
What’s the Fuss?
The issue at hand? Employee stock options. Who would have thought that plain old vanilla stock options would become the heart of a controversy? Well, yes, equity compensation has had its share of scandals (ah, but backdating is so 2006). However, this time is different. No one has been arrested, the SEC is not involved, and it appears, by nearly all counts, to be a situation that didn’t violate the law. So what happened?
Pony Up Your Options, or Else!
According to the Wall Street Journal and several follow up articles, Zynga reportedly wanted to avoid a “Google Chef” scenario in which an employee’s stock option gains upon IPO were disproportionate to his contributions and role within the company (the rumor is that a chef at Google made an estimated $20 million upon its IPO from the value of his stock options). In evaluating and re-evaluating employee performance, Zynga CEO, Mark Pincus, reportedly kept a list of employees whom he felt were over-compensated with equity, based upon their current role and contribution to the organization. As Zynga began to feel pressure on its share reserves and an obligation to shareholders to suppress dilution, employees who had been identified as over-compensated were approached and asked to agree to cancel the unvested portion of their stock options. This would allow the cancelled shares to be returned to the plan reserve and become available for future issuance to other employees. The catch? If the unvested options weren’t returned for cancellation, the employee would be fired. Ouch. Many wondered, is that possible? Is it even legal? Though not tested in the courts, the consensus seems to be ‘apparently so’.
What’s the Answer?
A key public opinion question is whether Zynga was justified in its actions. On one side of the argument lies the assertion that Mr. Pincus did what was necessary to fairly balance the load of wealth within the company. After all, compensation is frequently re-negotiated in companies, including pay reductions. The counterargument is that once given, a benefit should not be taken away. If the targeted employees really weren’t performing well, then why were they still around in the first place? Finally, the company could have avoided this situation altogether if it had considered attaching performance metrics to option vesting.
Having worked for companies whose successful IPOs created employee wealth, I can relate to both sides of the situation. Should a stock option with service vesting be an entitlement once granted (assuming the employee remains employed), even if the employee is under-performing, demoted or reassigned? This is a tough question to answer. I do give credit to Zynga for thinking outside the box in finding a solution, right or wrong.
Share Your Opinion
On which side of the argument do you reside? Share your anonymous opinion by taking our poll below, and find out how your peers feel.
How does your company approach the issue of in-the-money options that are nearing their expiration date? This has always been a potential issue for terminated employees whose vested shares are no longer exercisable for the full term of the option. We now also see more companies with options that are actually nearing full term, especially when the options have remained underwater for an extended period of time.
Communications
The first decision on expiring options is whether or not the company will endeavor to notify participants of the impending expiration. At face value, this appears to be a fantastic idea, but there are still issues to consider. Ideally, these communications would be automated to some degree to avoid the administrative burden of manual distribution.
Identifying the grants and employees who should receive a notice regarding expiring in-the-money options may not be easy. Even if your stock plan administration software has a report that generates a list, you could be faced with a daily verification depending on the vesting schedules for your employee options. Most brokers have the ability to alert employees of upcoming option expirations through the employee accounts and some may even be able to send out automated email notification.
Another important consideration is how to ensure that the communication is universal. It is reasonable to exclude specific groups of employees (e.g., employees holding underwater options), but it is important that the exclusion is consistent to avoid even the appearance of discrimination. When considering the timing of communications, keep your termination parameters and typical administrative delays in processing terminations in mind. As with any communication, you run the risk of an employee relying on the notification, not receiving it due to an administrative anomaly, and find yourself in the middle of a lawsuit.
Automatic Exercise
More brokers are now willing and able to support a company’s policy to have expiring in-the-money options automatically exercised on the day before they expire. Automatic exercise has existed for many years for publicly traded options, so it’s not a stretch to apply the same logic to an employee plan. However, there are more considerations for employee stock options.
Exercise Type
When instituting an automatic exercise policy, careful consideration should be given to how the employee will pay the exercise price and tax withholding associated with the transaction. It is possible to initiate a same-day sale on an expiring option on behalf of the employee providing you have the appropriate permissions to do so and your broker is willing to execute the transaction. However, my opinion is that the best fit for an automatic exercise is some form on net share settlement. The key advantage is that employees would simply receive the net shares in their account, which could be held or sold at their discretion. You won’t have to ensure that brokerage accounts are open and unrestricted and you don’t have to worry about coordinating a market transaction. Regardless of the exercise type you choose, there should be a way for employees to opt out of the automatic exercise.
How Much is Enough?
Another consideration for automatic exercise is just how in the money options need to be for an exercise, especially if you are doing a net share settlement. Even with a sell-to-cover transaction, it is better if the employee receives more than a fraction of a share in value for the transaction. For non-qualified stock options, you have to account for not only the exercise price, but also the tax withholding, which could dramatically reduce the value returned to the employee. Although in general some value is better than nothing, there are many situations where the exercise of an option that is barely in the money could actually do more harm than good. If you set a minimum value, be sure that it can be consistently administered and is clearly communicated to employees.
Documentation
If you are instituting a new automatic exercise policy, confirm with your legal team on how to handle both existing options and new grants. Does your plan accommodate and will your company feel comfortable simply making it a policy and notifying employees, or will you need to have some kind of agreement from employees. For future grants, will you need to include specific language for an automatic exercise in the grant agreement?
Early Bird Special for the 19th Annual NASPP Conference
Speaking of expiring options, don’t miss out on your option to register for the 19th Annual NASPP Conference at a reduced price! Now through May 13th, NASPP members will receive a special discount on Conference registrations. Register today!