Jargon buster: Equity compensation explained

We’ve all been there – you’re in a meeting, whether that’s online or sitting in a room with other professionals, when someone uses an acronym or phrase you’re not familiar with. Before you get a chance to ask what it means they’ve moved on, with everyone else present seeming to have understood, so you find yourself thinking “it’s too late to ask for clarification now”. For the rest of the session rather than being engaged, you have to make sure you’ve got your ‘interested face’ on, all while secretly trying to figure out what it meant.

The whole thing can truly feel like a nightmare situation. Worst of all it might even leave you with an undeserved and nasty case of imposter syndrome.

Since share plans come with a whole range of specialized language education is extremely important. When it comes to equity compensation if your staff don’t understand what’s being talked about it can leave them feeling uninspired, disengaged from their rewards and less likely to buy-in or complete any actions. From an employer’s perspective there is little point in having a plan or investing in a strategy if it’s not being utilized fully.

When speaking to one of our equity specialists, whether that’s to help find the right plan for your company, or to uncover ways of enhancing your existing offering, we’ll always strive to use clear language, with any technical terms explained, meaning you won’t be left in the dark. After all, employee ownership, simplified – it’s what we do.

In the meantime we hope you find this jargon buster useful.

Definitions

Capital Gains Tax (CGT) – Tax due on any capital gain or profit made when you dispose of an asset. How it’s calculated depends on a number of factors, including the length of time the shares were held for.

Cliff Vesting – When a plan becomes fully vested on a specified date rather than partially vesting in increasing amounts over an extended period. Plans typically have a four-year vesting schedule plan with a one-year cliff, so after the cliff period, which comes at the end, the employee receives their full benefit. Read more about Cliff Vesting.

Deferred Stock – A form of LTIP. This is stock on which no dividend is payable until some other contingent event, e.g. after the paying of a dividend on preferred stock.

Employee Share/Stock Ownership Plan (ESOP) – A type of employee ownership plan where employees can purchase and own shares in that company. Often facilitated through deductions made from the employee’s salary.

Employee Share/Stock Ownership Trust (ESOT) – A program through which a company can sell shares to employees.

Employee Stock Purchase Plan (ESPP) – In the United States this is a means by which employees of a corporation can purchase stock, often at a discount. Employees contribute to the plan through payroll deductions, which build up between the offering date and the purchase date. Read more about ESPP.

Environmental, Social and Governance (ESG) strategy – Standards used by companies and socially conscious investors when screening potential investments or plans to determine what factors are considered intrinsically important.

Equity – Equity represents the value that would be returned to a company’s shareholders if all assets were liquidated and all of the company’s debts were paid off. It is the degree of residual ownership in a firm or asset after subtracting all associated debts.

Equity Compensation – Also known as share-based compensation, is a type of non-cash compensation that a company might offer to employees. It allows participants to partake in ownership of the firm and can include options, restricted stock and performance shares. Read more about Equity Compensation.

Exercise – No, not going to the gym. In the context of equity compensation this is an activity carried out for a specific purpose, e.g. selling shares.

Fair Market Value (FMV) – The price an asset would change hands for on the open market where all parties involved are aware of all the facts, acting in their own interest, free of any pressure to buy or sell, and have ample time to make the decision.

Grants – An award, typically financial, given by one entity to another to facilitate or incentivize a goal or performance.

Incentive Stock Options (ISO) – A form of LTIP. These are more valuable than non-qualified stock options because, at the time they are exercised, they are not taxed as earnings. Read more about ISO.

Initial Public Offering (IPO) – Also called a stock launch, this is the first public offering in which shares of a company are sold to institutional investors and retail investors. It will typically involve the shares being listed on one or more stock exchanges.

Long Term Incentive Plan (LTIP) – Usually awarded to executives to encourage them to remain with the company. This plan type rewards employees for reaching specific goals that often lead to increased shareholder value. Typically granted as performance shares or matching shares of the company. Read more about LTIP.

Non-Qualified Stock Options (NSO) – A form of LTIP. Provided as an alternative form of compensation the price of the options is often similar to the market value of the shares. Requires payment of income tax of the grant price minus the price of the exercised option. Read more about NSO.

Options/Stock Options – Gives the holder the right, but not the obligation, at a specified date, to buy or sell a stock at an agreed-upon price. There are two types of options: Puts, where it is hoped the price of the stock will fall, or Calls, where it is hoped the price will rise. Read more about Stock Options.

Performance Shares – Often granted in the form of bonuses and/or stock options these are an incentive-based form of stock compensation usually paid to corporate managers or executives if certain benchmarks or targets are met.

Performance Share Plan (PSP) – A form of LTIP. Participants are allocated shares or the right to acquire shares, the vesting of which is subject to the satisfaction of performance conditions. Typically measured over a period of at least three years.

Performance Stock Units (PSU) – A form of LTIP. Usually paid to corporate managers or executives where certain benchmarks are met. These help align the goals of managers and other employees with that of shareholders. Often granted in the form of bonuses and/or stock options. Read more about PSU.

Phantom Stocks – A form of LTIP. Also known as Shadow Stocks these plans don’t use actual stock but still reward employees with compensation that is tied to the company’s stock performance. Participants are not shareholders and don’t have voting rights. Read more about Phantom Stocks.

Restricted Stock Awards (RSA) – A form of LTIP. An RSA grants the employee the right to buy shares at a fair market value, at either no cost or at a discount. Generally the participant is restricted from selling the stocks onwards until they vest.

Restricted Stock Units (RSU) – This is a grant valued in terms of company stock where the participant receives a number of shares or cash to the value of such shares, once any restrictions have lapsed or the vesting period has passed. Under an RSA plan participants may need to pay for the grants, while they typically receive the grants for free under RSU plans. Read more about RSU.

Save As You Earn (SAYE) – A scheme which allows employees to buy shares in the company at a fixed price. This type of plan can sometimes qualify as a tax-free bonus. Read more about SAYE.

Share Incentive Plan (SIP) – UK only. A tax-advantaged all-employee plan that offers companies the ability to award equity to employees. Shares awarded under a SIP need to be held in a trust for at least five years for the plan to qualify as tax-efficient for both employer and employees. Read more about SIP.

Share Plan – Any stock option or equity incentive plan adopted by a company in relation to the granting or issuing of shares, stock options or any other securities to its employees, directors, consultants or other eligible persons.

Stock Appreciation Rights (SAR) – A form of LTIP. Compensation is tied to the company’s stock performance, participants are not shareholders and don’t have voting rights, but once the vesting period is over they can get actual stock or a cash equivalent. Read more about SAR.

Stock Option Plans (SOP) – A form of LITP that gives the participant the opportunity to purchase a certain number of shares of the company’s common stock at a pre-established price (i.e. grant price) over a specified timeframe.

Units – A unit is a combination of assets or types of assets packaged together and sold as one. In equity compensation a unit could be made up of a combination of ordinary shares, preferred shares or warrants.

Unvested Stock – Stock that the participant has not yet earned in full. Read more about Unvested Stock.

Vesting Period – The process of gaining 100% ownership of an equity asset, usually linked to a condition such as a performance target or length of employment. Read more about Vesting Period.

Vested Stock – Stock that has been earned in full at the conclusion of the vesting period.

Warrants – A form of LTIP. These are derivatives that give the right, but not the obligation, to buy or sell a security at a certain price before expiration. The price at which it can be bought or sold is referred to as the exercise price or strike price. An American warrant can be exercised at any time on or before the expiration date, while European warrants can only be exercised on the expiration date.

Find out more:

Regardless of whether equity awards are new to your company, you already have a plan in place or are even considering switching providers we want to hear from you. Get in touch and find out how you too can begin reaping the benefits of equity compensation.

Employee ownership, simplified. It’s what we do.