The Advisors' Blog

With a down market, the number of companies asking what to do with their underwater options naturally increases. Looking into the crystal ball, I think it is fair to say that re-pricings will be very rare; none of my clients would even consider it (they would do cash SARs if they did not have shares).

I have had a few conversations about surrendering underwater option shares for no or nominal consideration. Participants would not be promised any replacement grant, but the shares added back to the kitty would be eligible for recycling (it appears that their plan allows an “add-back” for the surrendered options).

Some companies have accelerated their normal grant dates to try and put some incentives in place to support the needed turnaround (and take advantage of the current, low price). Some companies have granted restricted stock with continued service vesting provisions to promote retention and conserve shares. Some companies have awarded deferred cash to promote retention (in some cases, the stock is so volatile that employees prefer cash).

Also important, Risk Metrics/ISS’ allowable limits have dropped significantly the last few years, so getting a new plan or the refueling an existing plan approved by shareholders is viewed as a real challenge for underperforming companies. The bottom line is that I expect to see the use of more cash, despite the potential for liability accounting (in some cases, liability accounting is not all bad, as the charge to earnings is ultimately conditioned on what the employee realizes in value. So, a cash SAR that produces no value and ultimately results in no accounting cost; unlike a stock option, where you take the charge regardless of the value – or lack thereof – realized by the employee).

– Mike Kesner