Vice Chairman, Executive Pay & Governance
Stock Options: An Executive Perk Slipping Away
A reeling stock market doesn’t make many people happy, and the current one might be particularly painful for one group: senior-level employees holding options to buy company stock.
Over the last two years, employees whose long-term compensation included options—contracts to buy stock at a set price by a future date—looked like the holders of winning lottery tickets. But as the market continues its sharp sell-off, more and more of those options are going “underwater,” making them worthless unless the company’s stock rebounds. If conversations about these devalued options haven’t already started at the board level, they almost certainly will if the market continues to falter, says Irv Becker, vice chairman of Korn Ferry’s Executive Pay and Governance business. “Those companies don’t have to do anything now, but if the market goes down from here and sustains it, they might need to do something,” he says.
The tech-heavy Nasdaq is already in a bear market, having dropped more than 20 percent from its peak. The S&P 500 is not too far behind, 16 percent off its all-time high. But those averages mask the declines of many companies whose share prices soared in 2020 and 2021 only to plummet 40 percent or more since 2022 began.
Options make up around 15 percent of a CEO’s pay, Becker says. Over the last two decades, their popularity has declined at big firms, which now prefer giving restricted stock grants to senior-level executives and other managers. Still, the granting of options remains prevalent at smaller firms, start-ups in particular. These firms may not have the capital to offer employees big cash salaries or giant stock grants, so they woo talent using options—and the promise of mega paydays—instead.
The declining market and its impact on employee options could sever a thread between employees and their firms. Those options usually can’t be exercised immediately, and sometimes not for years. But the huge pullback in share prices at some companies reduces the likelihood that options granted over the past two years will be worth anything anytime soon. “If someone is hanging in there because they had money on that table, now they don’t have that money on the table,” says David Vied, global sector leader for Korn Ferry’s Medical Devices and Diagnostics practice.
Don Lowman, leader of Korn Ferry’s Global Total Rewards practice, says companies should not involve something radical. Two decades ago, firms would routinely reprice options for key executives if the firm’s share price fell, essentially giving them the equivalent of a stock-market mulligan. But investors eventually learned that the practice was costing them hundreds of millions of dollars. “The point of equity participation is that you’re sharing upside and downside,” says Juan Pablo Gonzalez, sector leader of Korn Ferry’s Professional Services practice. If a company were to reprice employee options during a bear market, they would almost certainly be criticized by the major shareholder advisory firms that recommend how investors should vote in board-director elections and other proxy issues. “They look askance at any efforts by companies to mess with existing long-term grants,” says Lowman.
Companies should also remind employees that options issued three or four years ago are likely still worth a lot of money. And a rising stock market could make options that are currently underwater valuable again in a few years. Experts doubt that there will be a mass exodus of employees whose stock options have become worthless. “If they leave with those underwater options, they were going to leave anyway,” Lowman says. Indeed, a company might not miss executives who voluntarily depart while the stock is faltering. “It’s on the leadership team to drive value,” Gonzalez says. “If you vote with your feet and leave when the value is down, maybe we don’t want you on the leadership team.”