Stock Appreciation Right
Stock appreciation rights (SARs) are a type of employee compensation linked to the company's stock price during a predetermined period. SARs are profitable for employees when the company's stock price rises, which makes them similar to employee stock options (ESOs). However, employees do not have to pay the exercise price with SARs. Instead, they receive the sum of the increase in stock or cash.The primary benefit of stock appreciation rights is that employees can receive proceeds from stock price increases without having to buy stock.
Stock Appreciation Rights (SAR)
Definition
Stock Appreciation Rights (SAR) are a type of employee compensation linked to the company's stock price over a predetermined period. When the company's stock price rises, SARs become profitable for employees, making them similar to Employee Stock Options (ESO). However, unlike ESOs, employees do not need to pay an exercise price with SARs. Instead, they receive the amount of the increase in stock or cash. The main benefit of SARs is that employees can gain from the stock price increase without purchasing the stock.
Origin
The concept of Stock Appreciation Rights originated in the mid-20th century as a way to incentivize employees and tie their compensation to the company's performance. Over time, SARs have become widely used in various companies, especially in high-tech and startup firms, to attract and retain talent.
Categories and Characteristics
SARs are mainly divided into two categories: cash-settled SARs and stock-settled SARs.
- Cash-Settled SARs: Employees receive cash upon exercise, equal to the difference between the stock price at exercise and the stock price at grant.
- Stock-Settled SARs: Employees receive company stock upon exercise, with the number of shares equal to the difference between the stock price at exercise and the stock price at grant divided by the stock price at exercise.
- No exercise price: Employees do not need to pay any fee to exercise.
- Flexibility: Companies can choose to pay in cash or stock.
- Incentive effect: Tied to the company's stock price, motivating employees to work towards improving company performance.
Specific Cases
Case 1: A tech company grants Employee A 1,000 SARs with a grant price of $10 per share. Two years later, the stock price rises to $20 per share. Employee A chooses to exercise and receives a profit of ($20 - $10) * 1,000 shares = $10,000. The company can choose to pay $10,000 in cash or equivalent stock.
Case 2: A startup grants Employee B 500 SARs with a grant price of $5 per share. Three years later, the stock price rises to $15 per share. Employee B chooses to exercise and receives a profit of ($15 - $5) * 500 shares = $5,000. The company chooses to pay $5,000 in cash.
Common Questions
1. How do SARs differ from ESOs?
SARs do not require an exercise price, while ESOs do. SARs can be paid in cash or stock, whereas ESOs are typically stock.
2. How are SARs taxed?
Upon exercise, SARs are usually treated as ordinary income and subject to income tax.
3. Are there any risks with SARs?
The main risk is a decline in the company's stock price, which can reduce or eliminate the potential gains from SARs.
