Last week I blogged about the SEC’s agenda for this year, which includes a heavy focus on continued enforcement actions. While this is certainly one area on our radars, I’m reminded that there are other areas of “action” that could cast scrutiny on our practices. One such area is litigation. A few months ago, I blogged about one type of litigation that had taken hold – the shareholder driven lawsuits that challenged proxy disclosures. What I didn’t explore was all of the other areas where we’ve seen “action” in the form of enforcement or litigation. In today’s blog I’ll explore other areas (including some you may not have thought about) that have been the subject of a lawsuit.
I had a great aid in preparing this blog. Thanks to Executive Pay and Loyalty, I was able to access a “cheat sheet” that literally organizes stock award litigation by topic, complete with corresponding court cases. The full document is available on our web site.
Litigation Lessons Learned
What lessons have been learned from litigation in recent years? Here are a few of them:
Termination of Employment: This is a sensitive area, one that I’m betting is ripe for litigation. Not so much because an employee is terminated (that’s more of an HR concern), but if the employee misses the opportunity to exercise vested in-the-money stock options, they may come forward wanting restitution or compensation. The filing of a lawsuit doesn’t automatically make it a valid claim, or mean that the company will lose. We are reminded that sometimes there are “nuisance” cases – particularly if an employee simply “missed” the key pieces of information that would explain post termination provisions. Whether or not the claim is a solid one, any litigation takes time, money and focus away from more constructive activities. I see a couple of ways to minimize litigation opportunities in this situation – one is an “auto-exercise” of the vested stock option (See my recent blog on “The Case for Auto-Exercise”, January 16, 2014); another is to proactively send terminated employees the key documents that remind them of post employment provisions.
Defining Plan Terms: The more defined your plan terms are, the better. According to Executive Pay and Loyalty, it is better to have a longer plan document with explicit definitions than not. Litigation involving ambiguities is likely to be resolved against the employer. If you’re seeing a plan provision that is repeatedly the subject of questions or challenge from employees, this may be something to raise to your legal counsel to see if further clarification is needed.
Option Expiration During Blackout Period: The cheat sheet I mentioned suggests that employers be wary of stock options that expire during a blackout period. It is a best practice for plans to expressly address this in order to avoid angering employees and former employees who lose value due to a black-out period that interferes with their final time to exercise a stock option. I have actually seen several plan documents that are silent on this issue, so if your plan is up for amendment or overhaul, this may be a good area to document a defined practice. If it’s not in the plan document, at minimum identify a consistent approach or procedure for options expiring during a blackout and communicate it to employees in writing.
The Bottom Line
All of the issues described above have been the subject of court cases, and the suggestions I outlined are based on the result of those lawsuits. For more information on specific cases and a list of the other areas affected by litigation (including 162(m), and director compensation), check out the full Stock Plan and Award Litigation: Risk Management Checklist I mentioned as the basis for this blog.
We know we’re entrenched in a world that is highly regulated, scrutinized, audited and evaluated. The more we evolve our practices to be preventative, the better equipped we’ll be to stand up to investigations, enforcement actions, lawsuits and other nuisances.
For today’s blog entry, I highlight results from the NASPP’s 2011 Stock Plan Design and Administration Survey (co-sponsored by Deloitte). If you missed our webcast highlighting the results, you can still catch the audio archive (and the transcript will be up in a couple of weeks). The full results will be published later this month; I’ll cover more highlights from the results in future blog entries.
The 2011 Domestic Stock Plan Administration Survey The last time the Domestic Stock Plan Administration Survey was conducted was in 2007, when it was part of the Domestic Design survey. This is the first time the Domestic Administration survey has been conducted and published independently.
Respondent Demographics
We received 603 responses, compared to 428 responses in 2007. High-tech companies still comprised the single largest industry in the survey, but dropped from 43% of the respondents in 2007 to only 34% of respondents in 2011. We picked up respondents in the “other” industries categories, which is a mish mash of industries that don’t fit into any of the other categories (one thing I like about writing a blog is that I can use words like “mish mash” that I can’t use in anything else I write). Respondents from the western region also dropped from 35% in 2007 to only 29% in 2011. We picked up respondents primarily in southeast and a little in the northeast. 37% of respondents are Fortune 500 companies (this was almost the same as in the 2007 survey).
Staffing and Outsourcing
A question I am asked a lot is what department stock plan administration is located in. 60% of respondents reported that HR/Comp & Benefits has primary responsibility for administering the company’s stock and option plans. This was up from 57% in 2007. I was surprised to see the number of companies that locate primary responsibility for stock plan administration in Treasury/Finance drop from 16% in 2007 to just 5% in the current survey. 9% of respondents task accounting with primary responsibility for stock plan administration, which did not change from the 2007 survey.
The percentage of companies that have no personnel dedicated solely to administering their stock and option plans increased from 31% in 2007 to 39% in 2011. At the same time, the number of companies outsourcing more than 75% of stock plan administration increased to 41%, up from 33% in 2007. Perhaps the increase in outsourcing contributed to the decline in staffing.
The Electronic Age
Companies continue to move to electronic processes. The percentage of respondents distributing grant agreements in paper format dropped to 33%, from 47% in 2007. 47% of respondents permit a digital signature on grant agreements for some or all employees, up from 34% in 2007.
Participant Communications
76% of respondents require employees to accept their grant agreements, which did not change significantly from 2007. Enforcement practices also did not change significantly, but an additional 4% (19%, up from 15% in 2007) of respondents cancel grants if they aren’t acknowledged within a specified period.
We are seeing more companies notify employees of expiring in-the-money options. Only 20% of respondents don’t provide this notice, down from 25% in 2007. And more companies are relying on a third-party to provide the notice (45% of respondents, up from 31% in 2007). I expect that this is the result of the brokers and other third-party administrators developing the functionality to provide these notices to employees and more companies getting comfortable with relying on the brokers to provide this notice.
See You in San Francisco! I hope to see all of my readers at the 19th Annual NASPP Conference, which is scheduled for November 1-4 in San Francisco. The last Conference in San Francisco sold out a month in advance–and that was without the reality of Dodd-Frank and mandatory Say-on-Pay hanging over our heads. With Conference registrations going strong–on track to reach nearly 2,000 attendees–this year’s event promises to be just as exciting; register today to ensure you don’t miss out (and make your hotel reservations, because the hotel is close to selling out).
NASPP “To Do” List We have so much going on here at the NASPP that it can be hard to keep track of it all, so I keep an ongoing “to do” list for you here in my blog.
Attend your local NASPP chapter meetings in Florida, Houston, Ohio, San Diego, Silicon Valley, and Wisconsin. Robyn Shutak, the NASPP’s Education Director, will be at the San Diego meeting and I’ll be at the Silicon Valley meeting; we hope to see you there!
I recently read that Kohl’s is granting a make-up stock option to the Chairman of the Board because the company “failed to notify him” that his options were expiring–back in 2004! See the story here. Now, instead of $5 million in options that expired in 2004, he is being given around 130% of value of stock options (which is more than twice as many shares) that expire in 2015. Sounds to me like in this case ignorance is not only bliss, it is highly profitable!
It got me to thinking, as a stock plan administrator how much communication do you need to provide, and what will you do if you haven’t provided it or the participant didn’t act on the information provided? I’ve certainly answered the phone on situations like this; where someone has let a large amount of money (admittedly, not the $5 million that the Kohl’s chairman apparently lost out on in 2004) slip away because they had not read their grant agreement and did not understand that the option to purchase stock didn’t last forever, or that it was cancelled when they left the company. They aren’t fun calls, either for the person who is realizing that they missed out or for the administrator who most likely can’t do anything for them. Also, there is a definite difference in how management feels about the situation if the person is still an active, valued contributor to the company vs. an employee who terminated years ago.
The fact is that most grant recipients do not read their grant document or will not understand what they are reading without additional education. To be fair, I can’t confirm that the grant document correctly showed the expiration date in the Kohl’s case or that there wasn’t some other communication that indicated the grant would still be exercisable in 2008. However, the situation does highlight how important it is to maintain consistency through all participant communications as well as implement a solid education program to keep participants informed. Remind the participants as often as you can that they absolutely need to read their grant agreement and that they will be responsible for understanding the terms and conditions! In addition, companies should be sure to have a policy in place on how it will handle situations where the grant recipient has, through their own inaction, gotten into a situation where they have lost the opportunity to exercise or vest in their shares.
Stock plan administrators should be in the loop on all employee communications policies that have anything to do with equity compensation. It’s a good idea to have a sit-down meeting or conference call with your recruiting, HR, compensation, and legal teams to make sure that everyone understands the importance of consistent communications. If offer letters in the U.S. include an equity compensation piece, they should always also include a disclaimer that the grant is subject to approval and that the terms and conditions of the grant will be included in the grant agreement, which will supersede anything on the offer letter. In other countries, you will most likely not want to include the equity piece at all in an offer letter to avoid entitlement issues (a simple disclaimer may not be enough). Make sure that recruiters are being educated not to say anything that may be considered a verbal contract regarding equity compensation and that your HR team has good talking points to answer employee questions and actively participate in employee education. Also, many brokers now notify account-holders when an option is set to expire. Take time to understand your broker(s) policy, but be careful when educating participants to avoid making any guarantees that the broker will notify them of expiring options.