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At The Money: Getting Paid in Company Stock · Masters in Business

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  Speaker 1: Bloomberg Audio Studios, podcasts, radio news.
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  Speaker 2: That's the way you do it.
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  Speaker 3: You play.
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  Speaker 4: Honey, working, That's the way you do money.
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  Speaker 2: Money, That's the way you do it.
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  Speaker 1: Let me tell you, guys, don't.
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  Speaker 3: Equity based compensation has become an increasingly large part of
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  Speaker 3: the US labor landscape, especially in technology and high growth
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  Speaker 3: venture capital funded companies. I was at a recent employee
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  Speaker 3: benefits conference in Silicon Valley, and I was shocked to
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  Speaker 3: hear from so many corporate benefit managers that a lot
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  Speaker 3: of their employees neglect to capitalize on their stock options
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  Speaker 3: or other types of equity compensation. To help us unpack
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  Speaker 3: all of this and what it means for your compensation,
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  Speaker 3: let's bring in Joey Fishman. He's an expert in equity
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  Speaker 3: based compensation and Ben's previously Portland, Oregon, and his clients
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  Speaker 3: ranging from Seattle and Redmond down to San Francisco and
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  Speaker 3: Silicon Valley. Full disclosure, Joey is the equity compensation expert
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  Speaker 3: at my firm, and he's one of my partners.
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  Speaker 2: So Joey, let's start with the basics.
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  Speaker 3: What are the most common types of equity compensation plans
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  Speaker 3: today that companies are offering and how do these differ?
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  Speaker 4: Thank you so much, Barry. The most comprehensive, the one
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  Speaker 4: that we see the most is restricted stock units, then
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  Speaker 4: followed by non qualified stock option its incentive stock options.
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  Speaker 4: Those three things tend to be the most frequent forms
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  Speaker 4: of equity compensation that we see these days.
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  Speaker 3: So rsu's ESOPs, what are the difference between this alphabet
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  Speaker 3: soup of Yeah.
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  Speaker 4: So ESOP actually is the employee stock option plan and
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  Speaker 4: so that can include non qualified stock options or incentive
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  Speaker 4: stock options.
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  Speaker 2: What are the difference between those two?
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  Speaker 4: The main difference between the two is that incentive stock options,
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  Speaker 4: if you thread the needle appropriately or correctly, you avail
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  Speaker 4: yourself to long term capital gains tax treatment. Non qualified
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  Speaker 4: stock options are a little bit different where you have
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  Speaker 4: to meet two different thresholds in order to avail yourself
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  Speaker 4: to long term capital gains tax treatment. One basic primary way,
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  Speaker 4: and that is incentive stock options are reserved only for
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  Speaker 4: employees that comes from the treasury account. The non qualified
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  Speaker 4: stock options that's typically given to board members, consultants, other
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  Speaker 4: folks that have a participating activity within the firm itself,
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  Speaker 4: but they're not necessarily an employee.
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  Speaker 3: I kind of remember a story about a guy who
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  Speaker 3: designs a logo for Facebook and they pay them in
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  Speaker 3: stock and it ends up being worth millions of dollars.
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  Speaker 3: I don't know if that sounds familiar. So look, my
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  Speaker 3: firm is an employer.
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  Speaker 2: We issue equity participation.
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  Speaker 3: We have about thirty out of nearly eighty employees or partners.
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  Speaker 3: I understand the advantage of offering equity compensation, but I.
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  Speaker 2: Want to hear it in your terms.
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  Speaker 3: What are the advantages of equity versus cash from a
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  Speaker 3: corporate perspective.
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  Speaker 4: I mean not to sound cliche, but we've all heard
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  Speaker 4: the term that like culture each strategy. That is very
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  Speaker 4: much the case in this endeavor. So like it sets
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  Speaker 4: the tone, the right tone from the beginning. Employees are
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  Speaker 4: incentivized to grow the business, you know, put their heads
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  Speaker 4: down and get after it with less friction between you know,
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  Speaker 4: management and themselves. So they feel like they're active participants
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  Speaker 4: and growing the business and they'll be financially rewarded for
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  Speaker 4: doing So.
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  Speaker 3: What are the disadvantages from a corporate perspective?
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  Speaker 4: They are complex to administer. The regulatory environment is kind
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  Speaker 4: of a beast, and you do have to spend money
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  Speaker 4: on compliance to make sure that you're threading the needle
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  Speaker 4: of all the various rules that apply depending on the
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  Speaker 4: various stock plan that you choose to employ.
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  Speaker 3: So let's say both a company and an employee say, hey,
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  Speaker 3: this equity thing sounds attractive. How do you go about
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  Speaker 3: figuring out what's the right mix of equity and actual
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  Speaker 3: cash compensation? How does this differ from employees at different
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  Speaker 3: levels within the company.
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  Speaker 4: It's more art than science, and so each company is
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  Speaker 4: going to have its own version of an equity stock plan.
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  Speaker 4: The Nikes of the world, they tend to get folks
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  Speaker 4: that are athletes and like to push themselves. So in
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  Speaker 4: some cases they they'll offer these employees incentive stock options,
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  Speaker 4: which have a lot of leverage upfront. They also have
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  Speaker 4: the ability to choose RSUs or restricted stock units for
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  Speaker 4: folks that want to at least at the end of
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  Speaker 4: the day, guarantee that they're going to have something tangible.
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  Speaker 4: Other firms like Netflix, they give you the option to
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  Speaker 4: determine how much of your actual co compensation that we're
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  Speaker 4: going to give you each year can be dedicated to
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  Speaker 4: buy non qualified stock options. Broadly speaking, you know, oil
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  Speaker 4: and gas typically uses rsu's financials typically use RSA's restricted
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  Speaker 4: stock awards with healthy or juicy deferred compackages. And then
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  Speaker 4: tech is very much reliant on options at the beginning,
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  Speaker 4: and then as the company grows and becomes more established
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  Speaker 4: and switches to RSUs.
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  Speaker 3: So we're talking about a variety of different ways to
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  Speaker 3: implement an equity based compensation. What does this mean for taxes?
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  Speaker 3: It sounds like each one of these has its own
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  Speaker 3: set of tax ramifications for the employee.
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  Speaker 4: They do, and it's very hard, it's very challenging to
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  Speaker 4: navigate all of it. It's like playing a game of
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  Speaker 4: financial twister. The goal at the end of the day
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  Speaker 4: is to get yourself available so that any we realize
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  Speaker 4: gains from here on out or long term capital gains
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  Speaker 4: tax treatment because at least there, you know, within the
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  Speaker 4: spirit and intent of the law, you have the ability
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  Speaker 4: or at least some options to beat back that tax liability.
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  Speaker 4: So ideally, like you're getting yourself to that place. You know,
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  Speaker 4: the ones that end up being most punishing, which you know,
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  Speaker 4: relatively speaking, is you know, folks that have non qualified
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  Speaker 4: stock options or ISOs in the incentive stock option case,
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  Speaker 4: they may fall under what's called a MT taxes, which
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  Speaker 4: is it's an incredibly inpent expensive tax that's levied on
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  Speaker 4: folks that is not always recoupable down the road. And
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  Speaker 4: in non qualified stock options, you may just find yourself
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  Speaker 4: completely in ordinary capital gain or ordinary income tax rates.
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  Speaker 4: And you know, in some cases, you know, if you're
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  Speaker 4: realizing a couple million dollars worth of non qualified stock
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  Speaker 4: options and you live in the state of California, at
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  Speaker 4: the end of the day, you're walking home with maybe
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  Speaker 4: fifty cents on the dollar. The needles that have to
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  Speaker 4: be threaded to make yourself available for long term capital
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  Speaker 4: gains tax screaming are hard, but if you can do
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  Speaker 4: it correctly, then the window opens up for your ability
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  Speaker 4: to at least chip away at that tax liability and
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  Speaker 4: keep more of that game. When all of a said and.
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  Speaker 2: Done, huh really interesting.
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  Speaker 3: Let's talk about vesting schedules and the difference between a
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  Speaker 3: cliff or a graded vesting. When do these option plans
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  Speaker 3: actually show up is real assets to the employee.
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  Speaker 4: To the employee, that's good question. Okay, So to the employee,
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  Speaker 4: they have to follow a vesting schedule, and most work
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  Speaker 4: under a four year vesting schedule with a one year cliff,
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  Speaker 4: which simply means that you need to stick around for
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  Speaker 4: the next four years and your shares are going to
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  Speaker 4: vest in equal amounts. However, nothing is going to invest
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  Speaker 4: or vest for the first twelve months. That's called a cliff.
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  Speaker 4: After the cliff is met, the first twelve months is met,
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  Speaker 4: you then get twenty five percent of your shares. From
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  Speaker 4: there on out, for the next thirty six months, you're
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  Speaker 4: going to get quarterly divestitures or vesting of, you know,
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  Speaker 4: a fractional percentage of the total until that remainder period
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  Speaker 4: is up and the equity is all yours.
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  Speaker 3: So someone who has opted for a high equity portion
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  Speaker 3: of their compensation and their company does really well, and
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  Speaker 3: let's just say they've won, what's the procedures from there?
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  Speaker 3: How do they take full advantage, minimize their taxes and
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  Speaker 3: reduce some of their concentrated wealth in a single holder.
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  Speaker 4: Here's where things really get complex, and it's going to
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  Speaker 4: depend on if the company is publicly traded or if
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  Speaker 4: they're privately So if they're publicly that's the easier of
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  Speaker 4: the two because there's liquidity when you need it. However,
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  Speaker 4: as an employee, you're going to be subject first after IPO,
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  Speaker 4: assuming that you're going through the process, there's going to
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  Speaker 4: be a six month lock up period where you can't
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  Speaker 4: touch your shares, and so typically, i mean what generally
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  Speaker 4: happens is that the stock is going to sell off.
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  Speaker 4: It's going to get shellacked for the next six months,
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  Speaker 4: and it's going to look terrible and it's going to
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  Speaker 4: feel awful. But eventually, once that six month lock up
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  Speaker 4: period is over and all of the insiders have divested
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  Speaker 4: their shares, then it's put up or shut up time.
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  Speaker 4: So usually, like that month period is really ruling for
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  Speaker 4: a lot of folks to endure. There's there's going to
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  Speaker 4: be trading blackout periods that surround earnings releases. If you're
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  Speaker 4: in the C suite, you're going to need to file
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  Speaker 4: specific forms to make sure that there's no whiff of
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  Speaker 4: insider trading. So there's there's a whole you know, patchwork
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  Speaker 4: of laws and rules that you have to follow in
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  Speaker 4: order to sell these shares. And so it's not as
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  Speaker 4: easy as saying, hey, when it hits this price point,
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  Speaker 4: I'm going to sell everything and just live off the
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  Speaker 4: you know, the interest for the rest of my life.
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  Speaker 4: It's it's not that easy.
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  Speaker 3: Unfortunately you mentioned private versus public. Obviously it's easy if
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  Speaker 3: the company goes public or if they're purchased in an
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  Speaker 3: M and a transaction. Well, what happens with private companies
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  Speaker 3: where there isn't necessarily a broad, deep market that's very liquid.
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  Speaker 4: They call these double trigger events. So in a privately
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  Speaker 4: traded market, essentially two things need to occur. One is
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  Speaker 4: you need to vest, so that's the first trigger, and
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  Speaker 4: the second trigger is there need to be a liquidity event.
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  Speaker 4: So if there's no transaction where somebody buy shares or
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  Speaker 4: you know, liquidity exchanges, you're kind of stuck there until
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  Speaker 4: something happens. If at all you could, you know, theoretically,
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  Speaker 4: just have a bunch of network on paper that's captive
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  Speaker 4: and never gets realized because there's just no market for it.
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  Speaker 2: Really really interesting. But other than that, there really is no.
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  Speaker 3: Difference between various stock option plans for a publicly traded
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  Speaker 3: company or for a private company.
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  Speaker 2: It's just what the exit looks like.
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  Speaker 4: It's mostly the liquidity constraints that are challenging for privately
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  Speaker 4: traded firms and being able to realize that gain within
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  Speaker 4: at least the timeframe that you hope sometimes it's just
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  Speaker 4: not available to you until a flu cappens understood.
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  Speaker 3: So, what are some of the biggest mistakes you see
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  Speaker 3: that either corporate offerers of equity compensation make or employees
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  Speaker 3: who receive equity compensation also engage.
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  Speaker 4: On the employee side, over confidence tends to run rampant.
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  Speaker 4: And I say this because like with our firm, like
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  Speaker 4: they're coming to us after already having won the game.
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  Speaker 4: So like the world with which we see is through
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  Speaker 4: survivorship bias, I should say that at the forefront, but no,
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  Speaker 4: they've already wonted, so they're coming to us, and among
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  Speaker 4: the things that they need to immediately wrap their heads
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  Speaker 4: around is the uncertainty of having to navigate the various rules.
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  Speaker 4: There's a degree of overconfidence, which you know has its
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  Speaker 4: own challenges that need to be dealt with, and usually
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  Speaker 4: like through strategic planning and showing them you know, sequence
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  Speaker 4: of risk and how this can all play out, helps
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  Speaker 4: you know, dampen that down. And you know, there's resistance
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  Speaker 4: to diversifying away from you know, what they've attached themselves
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  Speaker 4: to for for so many years. So overcoming those things
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  Speaker 4: is definitely challenging on the On the employers on the
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  Speaker 4: employee side. On the employer side, it's it's the regulatory
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  Speaker 4: needles that have to be threatened. It's a beast. There's
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  Speaker 4: there's this fraud with litigation. Even on the advisory side,
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  Speaker 4: because it involves taxes, you have to be very careful
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  Speaker 4: in how you communicate things and display things so that
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  Speaker 4: you're not giving tax advice when you should be strictly,
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  Speaker 4: you know, relegated to financial advice. And so the employer
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  Speaker 4: is also straddling that very same line. It's very unclear.
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  Speaker 4: Sometimes even attorneys don't want to touch this stuff. So
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  Speaker 4: let's a it's a landmine if you don't know what
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  Speaker 4: you're doing.
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  Speaker 2: Let's talk a little bit about psychology.
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  Speaker 3: You know, every employee seems to think their stock is
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  Speaker 3: the next Nvidia, when it could just as easily be
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  Speaker 3: the next Lehman or ge or Enron for all we know.
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  Speaker 3: How do you, as an advisor work with employees at
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  Speaker 3: hot companies letting them understand all of the risks and
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  Speaker 3: potential risks they're looking at.
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  Speaker 4: At the end of the day, it is considerably less
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  Speaker 4: expensive to lock in your quality of life by diversifying
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  Speaker 4: than it is to maintain a concentrated risk in a
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  Speaker 4: single security. So, and the other way to say that
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  Speaker 4: is that volatility is a tax on returns, and so
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  Speaker 4: once you get to a place where, look, there's thirty
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  Speaker 4: five times your burn rate, none of taxes that are
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  Speaker 4: sitting in your equity comp if you're not de risking
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  Speaker 4: and locking in your quality of life now, you are
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  Speaker 4: missing the opportunity of a lifetime. Getting them to understand
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  Speaker 4: what they don't want to happen and what they want
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  Speaker 4: to avoid is absolutely tantamount. And when you show them
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  Speaker 4: the difference between, hey, it's going to cost you this
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  Speaker 4: much to lock in your quality of life with a
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  Speaker 4: diversified portfolio versus if you continue to maintain this course,
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  Speaker 4: it's going to cost you thirty to forty percent more
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  Speaker 4: to ensure that you're never going to run out of
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  Speaker 4: money again because of the associated volatility with that single security.
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  Speaker 2: Huh, really interesting.
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  Speaker 3: Last question. Tell us about the most recent trends you
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  Speaker 3: see in equity compensation. What is going on, especially at
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  Speaker 3: tech companies and high growth firms.
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  Speaker 4: They are switching to RSUs, which are the easier of
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  Speaker 4: the equity comp forms to administer, and there it's a
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  Speaker 4: very simple process you're going to have a vesting schedule.
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  Speaker 4: It's most likely going to have a one year cliff.
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  Speaker 4: It'll unfold over four years. But you know, in each
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  Speaker 4: portion or each vesting schedule, you will be a lot
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  Speaker 4: of the set of shares. Whatever the value is or
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  Speaker 4: the trading price is at the time at your vesting,
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  Speaker 4: that's what that's what your your your amount is going
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  Speaker 4: to be. There will be taxes owed, but it's it's
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  Speaker 4: considerably easier than having to navigate you know, incentive stock
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  Speaker 4: options and a MT tax or non qualified stock options
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  Speaker 4: and the margin element and all the various tax treatments
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  Speaker 4: that go along with it. And so the bottom line
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  Speaker 4: vary is that everyone's trying to find a way to
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  Speaker 4: simplify all this. You know, after a fifteen sixteen year
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  Speaker 4: bowl market, you know, a lot of the money has
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  Speaker 4: been made in the option space, and now they're they're
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  Speaker 4: settling in for I would say, a more mature way
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  Speaker 4: of distributing income or distributing equity compensation, because with RSUs,
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  Speaker 4: at least at the end of the day, you're going
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  Speaker 4: to have.
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  Speaker 2: Something really really interesting.
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  Speaker 3: So to sum up, if you're an employee at a
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  Speaker 3: company that offers you an equity part of compensation. You
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  Speaker 3: should very much explore it. Speak to your financial advisor,
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  Speaker 3: speak to your accountant or tax professional.
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  Speaker 2: Make sure you understand the risks.
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  Speaker 3: But if you've won this game, don't hesitate to de risk.
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  Speaker 3: Have a more broadly diversified portfolio. Don't have ninety percent
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  Speaker 3: of your entire net worth tied up in.
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  Speaker 2: A single stock.
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  Speaker 3: It's just way too much risky and potentially creates a
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  Speaker 3: lot of downside.
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  Speaker 2: I'm Barry Rudolfs.
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  Speaker 3: You're listening to Bloomberg's At the Money. Both married, manymenter
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  Speaker 3: school