Pet Peave – Companies Who Clawback Option Life at Normal Retirement

Question: What’s our biggest pet peeve regarding stock option compensation?

Answer: Companies who clawback stock option life at normal retirement.

Setting the stage:

Before we dive in, let’s remember that the C/Suite blog intends to enhance awareness of certain items we feel are of value for equity compensation participants. I think some folks reading this blog might be mad or sad, and some comp and benefit consultants will bristle, but we write here as 100% advocates for the individual client-officer and NOT the company for whom they work. We aim to advocate exclusively for our client families.

If you are a person who is professionally or personally upset by this blog, please do not lecture us about protecting or building shareholder value if you disagree today. That won’t fly with us because we believe that creating and maintaining shareholder value is exactly what our clients do every day to fulfill their leadership roles.  Our clients have dedicated their lives to making their company as great as it can become under their watch. Of course, you can accuse us of being sentimental, and we can accept that criticism, but please recognize, we are dedicated to personal advocacy, not institutional advocacy.

Oops, thou shalt not assume:

Throughout our work with Senior Leaders of Fortune 500 Companies, we assumed that when an officer decided to retire who met 100% of the requirements to achieve normal retirement, all option grants would continue to vest. Each grant would retain its entire life of ten years!

You know what they say about people who make assumptions! We were shocked while reading an award certificate for a new officer client in a new company with no other clients seven years ago. So we’ll leave out the legal mumbo jumbo and share the essence or paraphrase of the alarming discovery:

  • Congrats, you have qualified for normal retirement.
    • An example would be something like 10-years of continuous service and achievement of a certain age. Each company sets its definition of normal retirement.
  • Even though you are fully vested and free to retire, when you retire, this option grant will have a truncated life of 5-years, not the 10-years at the original grant date.
    • This clawback of grant life represents a loss of five years or 50% of the potential for appreciation!
  • By the way, that’s not all; every grant you have previously received MUST be exercised no later than five years post-retirement!
  • So the grant you received two years ago must also be exercised within five years of retirement, not its previous 10-year life.
    • This means you lose four years of potential appreciation on a two-year-old grant.
  • And the grant from three years ago must be exercised within five years of retirement, not its previous 10-year life.
    • Here’s the simple math on the years of retroactive lost potential for appreciation across the five grants impacted by this unusual retirement clawback:
      • 5+4+3+2+1 = 15 years of lost potential for stock appreciation at retirement! This is a clawback of 15 divided by 50 = 30% of the appreciation potential in our clients’ last five years of option grants for the honor of achieving full, normal retirement!
      • Side note: When my dad retired, he got a gold watch, a fabulous dinner, and a compensated international board seat at the global parent. He sure didn’t have a clawback of previously earned compensation or benefits! Yikes!

So, let’s process this from the officer POV:

You have given every bit of intellect, energy, focus, vision, and leadership skill to the company and its shareholders to make your company as great as it can be across decades of your life. In the process, you may have moved your family from here to kingdom come as part of the opportunity to achieve the American Dream! Statistically, the last five years of option grants are your largest and most valuable grants; perhaps in recognition that you are also mentoring your replacement to assure corporate continuity! These stock option grants are part and parcel of your total rewards or total compensation. They have been earned, and you are now vested upon normal, full retirement, having fulfilled your end of the employment bargain.

One could say, “well, the retroactive loss of option life language is written into every grant certificate, and the company instructs each officer to read their certificates carefully. There should be no surprise!” And that would be correct.  Here’s the rub: line up ten senior leaders and ask them if they understand the loss of grant life at retirement, and anecdotally, five will answer yes. Not every officer has advisors who read their option grant certificates.

Ask the same ten officers a different question: Statistically, do you know how much appreciation value is lost to the clawback of option life at your full retirement? Anecdotally, ten out of ten officers will say NO.

Anecdotally, outside shareholder advocates might say, “come on, these folks get millions of dollars of equity compensation, and if some potential gets clipped at retirement, is that so bad?” Yes, in our editorial and professional opinion, option life truncation at normal retirement is both terrible and unjust. The justification for why companies do this is multifactorial; however, we believe the primary reason for option life clawback hinges on two words overhang and sufficiency. We won’t jump into the why of it today. Instead, we will leave you hanging until Blog Part II, to be published in mid-January.

  • Are the means virtuous by which the objectives are achieved?
    • In January, you will have the rest of the data to answer this question for yourself.
    • We have already answered this question for ourselves and our client families.

A comp and benefits expert asked us to provide statistically accurate analysis on this option life truncation subject. We enthusiastically obliged. The information was dutifully discussed at the highest levels of the comp team at one of America’s largest corporations! A high-level summary of our study will be included in blog Part II.

We are not looking to be correct. We are simply advocates for families of officers who lead America’s largest corporations. Our mission is to be a voice to promote human flourishing within our clients’ families! We hope this blog and its Part II cousin will provide context and perspective. Please stay tuned for Part II if you want quantification and an enhanced understanding of the statistical loss of value in missing 15 years of option life due to a normal retirement clawback.

Happy Holidays from your friends at C/Suite, and our entire team at The Bahnsen Group!

Stoddard Barnhill
sbarnhill@thebahnsengroup.com

Phillip Barnhill
pbarnhill@thebahnsengroup.com

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About the Authors

Stoddard Barnhill, CFP®

Private Wealth Advisor

Sarah Leitzke, CFP®

Private Wealth Advisor

Phil Barnhill, CLU®

Director of Risk Management

For nearly 25 years Phil has worked exclusively with senior leaders of public and large private companies. Over the past seven years Stoddard has been carefully mentored in this niche market and is now mentoring Sarah, leading to a highly-specialized practice knowledge within the team. This focus on corporate executives and their family dynamics comes with significant insights into executive compensation, stock concentration, equity monetization, and the full life-cycle of a career in the C-Suite.

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