New York, December 20, 2011
After peaking in 2009, share utilization rates – the proportion of a company’s outstanding common shares that are designated for grants to employees – have returned to steadier levels in 2010 as economic conditions improved. According to a new study by Mercer, shares awarded to employees as compensation fell to 0.95% of outstanding shares in 2010 from 1.25% in 2009 and 1.02% in 2008. In terms of economic value transfer – the Black-Scholes value of the shares conferred – the percentage of market capitalization used to compensate employees remained fairly constant during this period, hovering at 0.5%.
Mercer’s 2010 US Share Utilization Study measured the effect of equity-based grants to employees from the perspective of both share usage and economic value transfer. The study was based on the most recent proxy filings and annual reports from 350 publicly-traded companies in the US.
“With respect to share utilization, this last fiscal year can be called a ‘return to normalcy’ as the economy improves,” said Ted Jarvis, Leader of Mercer’s Data Research and Publications team. “The fact that the economic value transferred to employees during this time stayed consistent suggests that companies increased the number of shares awarded to employees during 2009 to adjust for falling share prices, then reverted to a more sustainable granting level in 2010. Of course, the highly volatile equity markets in 2011 suggest this stability may be transitory and our definition of what is ‘normal’ needs to change.”
Continued shift to full-value shares
The composition of equity awards has continued to shift away from option awards towards full-value shares (restricted shares or performance shares) over the last three years. In 2010, more than half of equity awards (52%) were granted in full-value shares, up from 44% in 2008.
While this trend applies to companies of various revenue sizes, Mercer’s study found a slightly greater proportion of full-value share awards among smaller companies – 55% among the smallest 150 companies surveyed compared to 50% among the largest 50 companies in the study.
Moreover, this movement towards full-value shares is reflected in the design of equity compensation plans. Virtually all companies surveyed (99%) allow full-value shares as part of their programs, and the use of caps on the number of allowed full-value share awards has decreased slightly from 31% in 2008 to 29% in 2010. Companies are turning to fungible plans which allow for the use of both options and full-value shares as compensation vehicles, yet limit the use of full-value shares by depleting the reserves at a greater than one-to-one ratio. According to Mercer’s study, fungible plans have increased in prevalence, up from 20% of companies surveyed in 2008 to 28% in 2010.
“It’s not surprising that companies continue to move towards full-value shares, but at this point we don’t believe this shift can be attributed to fallout from the change in accounting protocols,” said Mr. Jarvis. “The impact of that change occurred primarily in the years immediately following mandatory expensing of stock options.”
Mr. Jarvis continued, “We also don’t expect options to disappear from the compensation landscape for senior executives. In our study, larger organizations tended to hold on to their option-based programs and, on the whole, companies preferred to retain some flexibility in their equity plans.”
Impact on shareholders
The dilutive impact of all outstanding options and unvested shares from employee awards has also dropped to previous levels, down to 5.5% of common shares outstanding in 2010 after peaking at 6.0% in 2009.
Potential total dilutive impact – which takes into account both shares that remain available for future issuance and any requests to shareholders for additional shares – was 11.2% of common shares outstanding. This figure, which was slightly higher in both 2008 (11.6%) and 2009 (11.5%), may be due in part to a decrease in new share requests, down to 23% in 2010 from 31% in 2008 among the companies studied. However, new share requests as a percentage of common shares outstanding have increased from 3% in 2009 to 4% in 2010.
“Companies that requested more shares in 2010 may have been making up for share depletion from the high share utilization rates in 2009,” explained Gregg Passin, Leader of Mercer’s US Executive Remuneration consulting business.
The new normal
While 2010 patterns closely parallel those prior to 2009, it is difficult to ascertain whether they reflect a steady state. Economic conditions are by some accounts improving, but the improvement has not been consistent and has failed to secure consumer confidence.
According to Mr. Passin, “The ‘new normal’ is likely to be more volatile and, in the midst of more regulation and greater shareholder scrutiny, this will put more pressure on companies to manage their granting practices and equity reserves.”
Mercer is a global leader in human resource consulting and related services. The firm works with clients to solve their most complex human capital issues by designing and helping manage health, retirement and other benefits. Mercer’s 20,000 employees are based in more than 40 countries. Mercer is a wholly owned subsidiary of Marsh & McLennan Companies
(NYSE: MMC), a global team of professional services companies offering clients advice and solutions in the areas of risk, strategy and human capital. With 52,000 employees worldwide and annual revenue exceeding $10 billion, Marsh & McLennan Companies is also the parent company of Marsh
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, a global leader in providing risk and reinsurance intermediary services; and Oliver Wyman
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