View Full Version : Hypothetical work compensation question
Your annual compensation is some number n. Assume that you can survive with no problems on a smaller number than n, say 0.5*n. Assume that your company is large, stable and has publicly traded equity. You are offered equity to replace 20% of your annual compensation. The stock vests 25% per year starting in 2 years and that, at vesting, you can sell. The cash value and the stock value at payment are equivalent. How much does n have to increase to make this worthwhile?
schwza
10-17-2005, 05:11 PM
[ QUOTE ]
The cash value and the stock value at payment are equivalent.
[/ QUOTE ]
i don't get it. it sounds you get the same amount of money in expectation. do you have some reason to believe your company's stock is going to go up? if you really want to invest, invest somewhere else so that if your company goes bust you're not unemployed with a worthless stock portfolio.
samjjones
10-17-2005, 05:14 PM
Many Enron employees thought this was a good idea.
[ QUOTE ]
[ QUOTE ]
The cash value and the stock value at payment are equivalent.
[/ QUOTE ]
i don't get it. it sounds you get the same amount of money in expectation. do you have some reason to believe your company's stock is going to go up? if you really want to invest, invest somewhere else so that if your company goes bust you're not unemployed with a worthless stock portfolio.
[/ QUOTE ]
Discounting for one. Two, the typical structure of these arrangements is that you forfeit your remaining shares if your employment is terminated by yourself or your employer.
[ QUOTE ]
Many Enron employees thought this was a good idea.
[/ QUOTE ]
Assume this is not an issue. Reread if you are unclear.
dtbog
10-17-2005, 05:33 PM
[ QUOTE ]
How much does n have to increase to make this worthwhile?
[/ QUOTE ]
Well, if you have faith in the company.. n doesn't have to increase at all, right?
If you don't have faith in the company, then it's just math based on how soon you can sell the shares and how much you think they will depreciate.... but you should also be looking for another job /images/graemlins/smile.gif
[ QUOTE ]
[ QUOTE ]
How much does n have to increase to make this worthwhile?
[/ QUOTE ]
Well, if you have faith in the company.. n doesn't have to increase at all, right?
If you don't have faith in the company, then it's just math based on how soon you can sell the shares and how much you think they will depreciate.... but you should also be looking for another job /images/graemlins/smile.gif
[/ QUOTE ]
So you're saying you are indifferent between $20,000 today and $20,000 in two years?
BoogerFace
10-17-2005, 05:39 PM
[ QUOTE ]
Your annual compensation is some number n. Assume that you can survive with no problems on a smaller number than n, say 0.5*n. Assume that your company is large, stable and has publicly traded equity. You are offered equity to replace 20% of your annual compensation. The stock vests 25% per year starting in 2 years and that, at vesting, you can sell. The cash value and the stock value at payment are equivalent. How much does n have to increase to make this worthwhile?
[/ QUOTE ]
Why not just take 25% of your salary and buy the stock?
Without some kind of really heavy discount on stock, you're just defering 20% of your income for several years. Which you'll lose in the event of a layoff/you quit.
sean c
10-17-2005, 05:53 PM
I would diversify putting all your eggs in one basket is risky and stressful. Sometimes it isn't just about ROI. Just something else to consider.
daveymck
10-17-2005, 05:54 PM
I am a bit unclear on this probably the term vesting is throwing me off, you give up % of salary to get stock options I assume maturing in 2 years, is the stock price as of now or as of the time it vests? Why is the 0.5*n relevant? In two years circumstances can change dramatically.
I am not 100% clear on the final question, but based on what I think you are asking n would have to increase at a level greater than inflation otherwise your $20k today could be worth $18-19k in real terms in the future.
There would be tax implications as well which may mean adjustments but as it has been phrased I dont see any benefit of switching.
Blarg
10-17-2005, 06:10 PM
Realize there will always be pressure and significant profit incentive to fire employees who must vest to earn their benefits, right before their yearly vesting date.
I'd advise giving any company that much power over your finances. It's basically a weapon pointed at you.
JohnnyHumongous
10-17-2005, 06:15 PM
Typically large, publicly traded companies allow you to purchase equity in the firm at a discount of roughly 20%. In this way, you are incented for giving up the time value of your cash.
No one in their right mind would give up cash for less-liquid and more risky equities at par in a deal like this, because if they thought the company's shares were worth more than cash then they could have bought them at any point, in the stock market, they didn't have to wait for the company to propose the offer.
TheWorstPlayer
10-17-2005, 06:37 PM
I work for MMC. They offer some stock purchase plans. Many people enrolled in them because the stock has done very very well over the last ten years. This year, the stock lost 50% of its value in 2 days when Elliot Spitzer investigated and the CEO was forced to resign. Many people were sad. Stick with the diversification, IMO. Unless n increases dramatically (in MMC's case it was 15% IIRC - and I think that is not enough) don't do it.
Klepton
10-17-2005, 06:43 PM
my head exploded.
[ QUOTE ]
I am a bit unclear on this probably the term vesting is throwing me off, you give up % of salary to get stock options I assume maturing in 2 years, is the stock price as of now or as of the time it vests? Why is the 0.5*n relevant? In two years circumstances can change dramatically.
[/ QUOTE ]
0.5*n is important because the it is less tha 0.8*n, or, the new cash only component of the compensation. At vesting you can less the stock at the current spot price, not a price retroactive to two or whatever years prior.
[ QUOTE ]
I am not 100% clear on the final question, but based on what I think you are asking n would have to increase at a level greater than inflation otherwise your $20k today could be worth $18-19k in real terms in the future.
There would be tax implications as well which may mean adjustments but as it has been phrased I dont see any benefit of switching.
[/ QUOTE ]
That's basically the question. Assuming you presume the stock risk is minimal, what is the two years worth. You can further assume that the tax implications between the choices are minimal.
[ QUOTE ]
I work for MMC. They offer some stock purchase plans. Many people enrolled in them because the stock has done very very well over the last ten years. This year, the stock lost 50% of its value in 2 days when Elliot Spitzer investigated and the CEO was forced to resign. Many people were sad. Stick with the diversification, IMO. Unless n increases dramatically (in MMC's case it was 15% IIRC - and I think that is not enough) don't do it.
[/ QUOTE ]
Diversification isn't an option. The question is really around what additional comp I need to be indifferent given that I give up some amount of time value. Put another way, let's say I have no choice but to accept part of my comp in the form of stock. It is reasonable for me to demand more since my payment are extended out to the future. The question is how much more is fair to someone.
[ QUOTE ]
my head exploded.
[/ QUOTE ]
Give me my bike back.
Cancer Merchant
10-17-2005, 08:42 PM
If I remember first year econ, you should think in terms of
http://en.wikipedia.org/math/7ca006f8d27f321f6e00d6849bf535cf.png
Plug in the interest rate you think you could get on a current investment, or inflation if you want to tread water.
Present Value @Wikipedia (http://en.wikipedia.org/wiki/Present_value)
edtost
10-17-2005, 09:00 PM
this sounds like a simpler version of an employee stock option pricing thing i did last semester....if i had interest rate/volatility/etc numbers, i'm sure i could modify the matlab script to give you a more concrete answer.
edtost
10-18-2005, 01:58 AM
ok, after thinking about this farther, i think i came up with a better way to analyze it, though i'm probably too tired to come up with the "right" answer....
assume the current stock price is S, at-the-money 2-year calls sell at C_2, 3-year at C_3, 2-year puts at P_2, etc., and your current annual salary is A.
to hedge [(A*.2)/S]*.25 shares of stock that you would recieve in 2 years, you would have to pay
[(A*.2)/S]*.25*[P_2-C_2]
by a similar argument, the cost to hedge the entire vesting period is
[(A*.2)/S]*.25 * [P_2-C_2+P_3-C_3+P_4-C_4+P_5-C_5]
which will henceforth be referred to as HC.
assume farther that the probability of your getting fired in the next 2 years is pf2, in the year after pf3, etc; and of your quitting or finding a new job pq2, pq3, etc respectively.
you total cost then becomes:
HC + (.25*.2*A)*(pf2+pf3+pf4+pf5+pq2+pq3+pq4+pq5)
while the exact options specified probably do not all exist, i'm pretty sure you're smart and knowledgeable enough to price them. pf2-pq5, however, are much more difficult to quantify, and i have ignored the possibility of the stock being delisted before your shares vest, but i think that is likely covered by the option pricing. i could be wrong though, its late and i'm tired.
vBulletin® v3.8.11, Copyright ©2000-2024, vBulletin Solutions Inc.