Everything You Wanted to Know About Performance Equity (well as much as can fit into a 1 hour presentation)Presented to th...
DAN WALTER, CEP<br />Dan Walter CEP, is the President of Performensation (www.performensation.com). For more than 15 years...
Learning Objectives<br />Definition<br />Popularity<br />Purposes<br />Common Uses<br />Participants<br />Metrics<br />Equ...
"Some men give up their designs when they have almost reached the goal; while others, on the contrary, obtain a victory by...
Performance Equity, Defined<br />Award is given for meeting goals<br />Vesting is accelerated for meeting goals<br />Vesti...
11 types of Performance Equity<br />Performance Awarded Shares<br />Performance Awarded Units<br />Performance Leveraged U...
The Popularity of Performance Equity<br />Most surveys shows that 50% of US companies now have some form of performance eq...
The Popularity of Performance Equity<br />Most surveys shows that 50% of US Risk Metrics and Glass Lewis have increased em...
The Purposes of Performance Equity<br />Drive corporate performance<br />Align compensation to shareholder expectations<br...
Intended consequences<br />Increase shareholder value<br />Better align participants goals with those of investors<br />Re...
Unintended Consequences<br />Pay executives well when company is cutting pay or reducing headcount<br />Disengage particip...
Historic Pitfalls<br />Too many metrics, too complex<br />Multiple year metrics in young or unpredictable companies<br />“...
“If you can measure that of which you speak and can express it by a number, you know something of your subject; but if you...
How Companies Use Performance Equity<br />Most common for Restricted Stock Units (Performance Units)<br />Most common for ...
How Companies Use Performance Equity<br />Common Metrics<br />TSR – Total Shareholder return<br />Absolute – your company’...
How Companies Use Performance Equity<br />How to shape a plan<br />Successful performance programs are about details and n...
Plan Design Project Flow<br />Corporate Philosophy and Intent<br />Data Analysis<br />Plan Goals<br />KPI Selection<br />E...
The Equity Compensation Dilemma<br />The Golden Decade<br />© 2010 – Performensation – all rights reserved<br />10/21/10<b...
The Comparison to Time-based Equity<br />Properly designed, performance equity can offer MORE STABILITY than time-based eq...
The Comparison to Time-based Equity<br />Even if properly designed, performance equity can offer MORE RISK than time-based...
It’s Execution, NOT Administration<br />Processes<br />How to fit new features and manual processes into Sarbanes-Oxley ap...
Impact on Administration<br />Requires systems to be more nimble and flexible<br />Lack of fixed dates, fixed prices and f...
Administrative Issues<br />Automate Goal Tracking and Communication<br />Integrate data elements from internal and externa...
Administrative Issues<br />Stock Administration System<br />System should be able to store awards with minimum, target and...
How to Make Administration Easier<br />Define a seamless path of communication<br />Number of shares approved for grant by...
Communicating the Not So Obvious<br />Always use prices and growth rates that reflect expectations, not hopes<br />Provide...
Communicating the Not So Obvious<br />Best practices for communicating performance-based equity? <br />“Communication is t...
Communicating the Not So Obvious<br />Do employees like receiving performance-based equity? <br />Results are mixed<br />W...
Multi-National Overview<br />Outside the US, performance is a main foundation of share-based compensation<br />98% of FTSE...
Multi-National Overview<br />Make sure that you obtain professional advice before rolling out a performance award program<...
Some Basics on Accounting / ASC 718 (FAS 123R)<br />Two basic “types” of performance metrics<br />Performance conditions: ...
Some Basics on Accounting / ASC 718 (FAS 123R)<br />Fair Value: Per share amount that must be expensed as compensation (no...
Some Basics on Accounting / ASC 718 (FAS 123R)<br />Compensation for all performance equity is amortized across the Requis...
Accounting – The Basics are Not Enough<br />Valuation cannot be performed on Market Conditions using Black-Scholes. <br />...
Conclusions<br />We are on the fast track to more performance equity<br />Say on Pay, Investor Concerns, Market Volatility...
Questions?<br />Dan Walter, CEP, PresidentPerformensation514 Precita Ave, Suite 100San Francisco, CA 94110877-803-9255 (to...
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Everything about Performance Equity Compensation (or as much as fits into an hour presentation)

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The use of performance-based equity is on the rise. This presentation discusses how to select metrics, set goals,and design a plan. It also covers communication, accounting and administrative concerns.

Presented to BACA (Bay Area Compensation Association 10/21/2010)

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Everything about Performance Equity Compensation (or as much as fits into an hour presentation)

  1. 1. Everything You Wanted to Know About Performance Equity (well as much as can fit into a 1 hour presentation)Presented to the Bay Area Compensation Association Oct. 21, 2010<br />Dan Walter<br />President and CEO<br />Performensation<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />1<br />
  2. 2. DAN WALTER, CEP<br />Dan Walter CEP, is the President of Performensation (www.performensation.com). For more than 15 years, Dan has assisted companies with equity and performance-based compensation issues. Dan has extensive experience with both executive and broad-based programs. A unique focus is the design and management of performance share and units.Dan provides end-to-end solutions for private and public companies based in both the United States and abroad. Dan is a popular speaker on topics involving equity compensation and success growth. His extensive work with both very small and very large companies provides his clients with a unique perspective. He creates effective, company-specific solutions paired with post-consultation support. Dan’s expertise includes diagnosis of issues, plan design, communication, administration and reporting solutions.  <br /> <br />WWW.PERFORMENSATION.COM<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />2<br />
  3. 3. Learning Objectives<br />Definition<br />Popularity<br />Purposes<br />Common Uses<br />Participants<br />Metrics<br />Equity Instruments<br />Comparison to Time-based Equity<br />Administrative Issues<br />Communication<br />A bit of Accounting<br />Conclusions<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />3<br />
  4. 4. "Some men give up their designs when they have almost reached the goal; while others, on the contrary, obtain a victory by exerting, at the last moment, more vigorous efforts than before.”-Herodotus<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />4<br />
  5. 5. Performance Equity, Defined<br />Award is given for meeting goals<br />Vesting is accelerated for meeting goals<br />Vesting occurs after a period of time AND goals are met<br />Vesting occurs ONLY when goals are met<br />Shares are earned, but not vested, when goals are met<br />Payout may be separate from earning and vesting<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />5<br />
  6. 6. 11 types of Performance Equity<br />Performance Awarded Shares<br />Performance Awarded Units<br />Performance Leveraged Units<br />Performance Earned Units<br />Performance Accelerated Units<br />Performance Priced Units<br />Indexed Options<br />Performance Granted Options<br />Performance Accelerated Options<br />Premium Priced Options<br />Performance Earned Options<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />6<br />
  7. 7. The Popularity of Performance Equity<br />Most surveys shows that 50% of US companies now have some form of performance equity program.<br />Outside Directors and Employees agree that there should be a link between equity compensation and relative, absolute and strategic metrics (Pearl Meyer & Partners, 2010)<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />7<br />
  8. 8. The Popularity of Performance Equity<br />Most surveys shows that 50% of US Risk Metrics and Glass Lewis have increased emphasis on performance equity<br />Dodd-Frank includes provision that requires companies to explain link between performance and compensation.<br />Say-on-Pay becomes mandatory in 2011. Other countries show direct link between this and performance equity.<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />8<br />
  9. 9. The Purposes of Performance Equity<br />Drive corporate performance<br />Align compensation to shareholder expectations<br />Improve “media worthiness” of equity compensation<br />Limit impact of volatile market movements on value of equity<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />9<br />
  10. 10. Intended consequences<br />Increase shareholder value<br />Better align participants goals with those of investors<br />Reduce “lottery” aspect of equity compensation<br />Focus participants on those metrics which best support corporate success<br />Obtain shareholder buy-in for current and future share usage<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />10<br />
  11. 11. Unintended Consequences<br />Pay executives well when company is cutting pay or reducing headcount<br />Disengage participants via unreachable goals, misunderstood or poorly communicated plan details<br />Orient participants on specific goals at the risk of others<br />Losing retentive value due to early payout<br />Magnified payout when short-term and long-term goals are too similar<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />11<br />
  12. 12. Historic Pitfalls<br />Too many metrics, too complex<br />Multiple year metrics in young or unpredictable companies<br />“Guaranteed” metrics in mature, predictable companies<br />Acquisitions or divestitures (internal and peers)<br />Variable Accounting<br />Limited Administration, Communication and Reporting tools<br />Poorly communicated and understood, (especially in the period between award and measurement date)<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />12<br />
  13. 13. “If you can measure that of which you speak and can express it by a number, you know something of your subject; but if you cannot measure it, your knowledge ismeager and unsatisfactory."<br />~LORD KELVIN <br />Or, in today’s vernacular<br />"What gets measured , gets done ."<br />~TOM PETERS<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />13<br />
  14. 14. How Companies Use Performance Equity<br />Most common for Restricted Stock Units (Performance Units)<br />Most common for Executive Management<br />Mid and Upper management use is growing<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />14<br />
  15. 15. How Companies Use Performance Equity<br />Common Metrics<br />TSR – Total Shareholder return<br />Absolute – your company’s number<br />Relative – compared against peer group(s)<br />Financial Goals<br />Revenue<br />ROIC<br />EBITDA / EBIT<br />Cost<br />Share Price<br />HRIS<br />Performance Appraisal / Human Capital Management score<br />Other<br />Risk<br />Staff Retention<br />Innovation / Product Development<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />15<br />
  16. 16. How Companies Use Performance Equity<br />How to shape a plan<br />Successful performance programs are about details and nuances<br />You must understand your data and direction<br />KPIs, metrics and measurements<br />Internal struggles during plan creation<br />Motivation factors<br />Administrative Simplicity<br />Performance drivers versus performance results<br />Defining the “What” Versus the “How”<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />16<br />
  17. 17. Plan Design Project Flow<br />Corporate Philosophy and Intent<br />Data Analysis<br />Plan Goals<br />KPI Selection<br />Equity Instrument Selection<br />Measurement Selection<br />Plan Structure<br />Review by External and Internal Stakeholders<br />Plan Documentation<br />Approval<br />Data Integration<br />Roll-out and Implementation<br />* Note this entire process may take 1- 2 years<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />17<br />
  18. 18. The Equity Compensation Dilemma<br />The Golden Decade<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />18<br />1988-1999 proved to be an anomaly. <br />This period became basis for future equity compensation expectations. <br />Since 2000, the market has been more volatile and is reflective of periods prior to 1988. Higher volatility may lead to higher values for time-base stock options, but it also leads to higher corporate compensation expense and greater risk of delivering no value to participants<br />
  19. 19. The Comparison to Time-based Equity<br />Properly designed, performance equity can offer MORE STABILITY than time-based equity<br />Not completely dependent upon stock price<br />Can factor in influence of the market volatility on peers and self<br />Can provide upside leverage and downside protection<br />Time to achievement based on corporate success cycles rather than the orbit of the earth around the sun<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />19<br />
  20. 20. The Comparison to Time-based Equity<br />Even if properly designed, performance equity can offer MORE RISK than time-based equity<br />Improper goal setting can occur when source data or future projections are incorrect.<br />Payout based on excellent past performance, but delivered during poor current performance.<br />Grants at historically low prices it can in tremendous value delivery<br />Goals always seems ambitious until, and unless, they are achieved.<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />20<br />
  21. 21. It’s Execution, NOT Administration<br />Processes<br />How to fit new features and manual processes into Sarbanes-Oxley approved processes<br />Responsibility<br />Who is responsible for each piece? Checks an balances. From beginning to end<br />Accountability<br />Who can be held accountable if it goes wrong?<br />Plan Evolution<br />Tomorrows plan design in today’s systems<br />How to augment the familiar with the unusual<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />21<br />
  22. 22. Impact on Administration<br />Requires systems to be more nimble and flexible<br />Lack of fixed dates, fixed prices and fixed numbers of shares significantly increases system complexity<br />Accounting<br />Systems are catching up to the most common plan designs<br />Valuation<br />Market-based goals require more complex valuation that can be automatically offered by software<br />Additional cost and timing of using valuation professionals as frequently as every quarter<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />22<br />
  23. 23. Administrative Issues<br />Automate Goal Tracking and Communication<br />Integrate data elements from internal and external sources<br />Metrics Vs Goals<br />System must support What, When Why, How, Who and the type of instrument the goal applies to<br />Provide access to managers and participants<br />Link to financia reporting an stock administration systems<br />Provide a path to drive, rather than reward, performance<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />23<br />
  24. 24. Administrative Issues<br />Stock Administration System<br />System should be able to store awards with minimum, target and maximum awards amounts<br />System should allow for description of goals for each tranche of shares<br />System should properly amortize expense for shares expected to vest<br />System should allow for update of probabilities or vesting, metrics achieved/missed<br />System should allow for shares associated with missed goals to be pushed to a later date.<br />“forgiveness” or “second chance”<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />24<br />
  25. 25. How to Make Administration Easier<br />Define a seamless path of communication<br />Number of shares approved for grant by the board<br />Confirmation from Legal or HR of the goals and metric<br />Approval of the number of shares vesting <br />Any decisions regarding stock should immediately be forwarded to Stock Admin<br />(many thanks to Paz Dizon)<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />25<br />
  26. 26. Communicating the Not So Obvious<br />Always use prices and growth rates that reflect expectations, not hopes<br />Provide examples of both up and down market conditions<br />Understand why and how each instrument and its goals have been designed<br />Performance equity only works if you watch performance closely and regularly recognize participants for interim achievement<br />Regular communications of small pieces of information are likely to be more effective than one huge communication covering “everything”<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />26<br />
  27. 27. Communicating the Not So Obvious<br />Best practices for communicating performance-based equity? <br />“Communication is the key to a successful program” – Allison McBride, International Paper<br />Educate participants on how the goals drive corporate success and why they apply to the individual<br />Communicate often, consistently and with enough detail for individuals to understand how they are linked to the movement of the underlying metrics<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />27<br />
  28. 28. Communicating the Not So Obvious<br />Do employees like receiving performance-based equity? <br />Results are mixed<br />When alignment and line-of sight are correctly positioned and the individuals can see their role plans seem to be positively received<br />When performance is low, the result can be similar to impact of underwater stock options<br />For lower level staff minimums may need to be structured to ensure some value even when performance is not great<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />28<br />
  29. 29. Multi-National Overview<br />Outside the US, performance is a main foundation of share-based compensation<br />98% of FTSE 300 have performance share schemes<br />More than 80% of Australian companies have performance-based share remuneration<br />Say on Pay is the biggest driver of these plans<br />The following countries have some version of Say on Pay rules in place<br />UK, Australia, Sweden, Norway, Netherlands, Italy, Portugal, Spain, Austria, Germany, Ireland, Croatia, Hungary, Poland, Denmark, Finland, Estonia, Luxembourg, Switzerland, Belgium and more on the way<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />29<br />
  30. 30. Multi-National Overview<br />Make sure that you obtain professional advice before rolling out a performance award program<br />May need special documentation/acknowledgements from employees beyond what using for time-based awards<br />Don’t assume that tax favored treatment will/will not be available for performance awards (e.g., France)<br />Be prepared to make changes to program design for non- U.S. employees<br />(many thanks to Jennifer George, Partner Orrick)<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />30<br />
  31. 31. Some Basics on Accounting / ASC 718 (FAS 123R)<br />Two basic “types” of performance metrics<br />Performance conditions: Requires achievement of metric that is not directly related to company stock price<br />Example: ROIC, Revenue<br />Is not included in Fair Value calculation<br />Market conditions: Requires achievement of metric based or indexed on company stock price<br />Example: TSR or Stock price<br />This does get included in the Fair Value calculation<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />31<br />
  32. 32. Some Basics on Accounting / ASC 718 (FAS 123R)<br />Fair Value: Per share amount that must be expensed as compensation (non-cash expense)<br />Private companies may use “Calculated Value” that is based on a measure of past volatility, rather than implied volatility<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />32<br />
  33. 33. Some Basics on Accounting / ASC 718 (FAS 123R)<br />Compensation for all performance equity is amortized across the Requisite Service Period<br />For market conditions this is factored into the Fair Value calculation and generally does not change after the grant<br />For Service and Performance conditions this is estimated at the time of award, based on the probability of achieving the metric. This is adjusted, post-award, if probability of achieve changes<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />33<br />
  34. 34. Accounting – The Basics are Not Enough<br />Valuation cannot be performed on Market Conditions using Black-Scholes. <br />Monte-Carlo modeling requires tool, expertise and experience only possessed by a true valuation professional.<br />Amortization on Performance Conditions is a story with multiple possible endings.<br />While the total possible expense is generally fixed, the amount accrued each quarter depends on understanding both the award structure and the influences on the underlying metrics.<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />34<br />
  35. 35. Conclusions<br />We are on the fast track to more performance equity<br />Say on Pay, Investor Concerns, Market Volatility, Media scrutiny and more will pus this quickly<br />Performance equity has both the potential for more stability and more risk.<br />Keys include design, communication and execution<br />Accounting is not for the inexperienced<br />Valuation, amortization and modifications are unlikely to ever be fully automated, but systems are getting better<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />35<br />
  36. 36. Questions?<br />Dan Walter, CEP, PresidentPerformensation514 Precita Ave, Suite 100San Francisco, CA 94110877-803-9255 (toll free)<br />415-625-3406 (office)<br />917-734-4649 (mobile)<br />dwalter@performensation.com<br />www.performensation.com<br />Twitter: www.twitter.com/performensation<br />LinkedIn: www.linkedin.com/in/danwalter<br />© 2010 – Performensation – all rights reserved<br />10/21/10<br />36<br />
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