Tag Archives: SARs

Part 2: I Know Market Timing is for Suckers, so Why Am I Trying to Time the Market?

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Part 1 I explained what Stock Appreciation Rights are and why companies sometimes use them as performance incentives or employee bonuses. I also mentioned how SARs can backfire: they are based on the assumption that the underlying stock price will rise. Ha! Obviously my upper management fell for that one. (Or else they were very cunning at devising an apparent bonus which actually costs them nothing….Hmmm….) Which is why I’m now stuck trying to time the market, even though market timing is a losing game.

Stock Appreciation Rights: Use Them or Lose Them

Most SARs come with an expiry date. This can make it very tricky if a stock is underwater near the time the options will expire.

For example, say stock options in Goldcorp were awarded with a stock price of $40 in 2012 with an expiry date of December 31, 2013. Here it is September of 2013 and the stock is trying to break the $33 barrier. Not the best time to have options expiring!

If the employee exercises the option to use the stock appreciation rights today, nothing will happen. There is no increase in value of the underlying stock so no money will be received by the employee. While a stock is trading for less than the award price, the decision to do nothing and just wait is simple.

What to Do When SARs are Just Breaking the Surface

Now let’s imagine there’s an employee of another big Canadian company: Bank of Nova Scotia. Say he was awarded 1000 stock appreciation rights at $59 in February 2011. They expire December 31, 2013.

As you may know if you track BNS, it behaves a lot like a Blue Whale. It rises to the surface to breathe, then sounds deep and long searching the bottom for some mysterious object. So since February 2011, BNS has been above $59 for 20 days in 2011, 0 days in 2012, and 44 days in 2013 to the end of August. Its high this year was $61.84, with a highest daily close of $61.43 which is more relevant to SARs. (Many SARs can be exercised only at the price at the close of the last trading day.)

Last week the price for a share of BNS climbed to $60. What should our employee do? Should he exercise his stock appreciation rights now, to lock in an amazing $1000 (before tax) profit? Or should he wait and hope it goes up a bit more. Remember, if the stock price rises to $61, the employee makes a $2000 (before tax) bonus. That’s a big difference for a small change in the stock price.

Of course, if the stock dips to $59, the employee makes nothing. Zip. Nada. Even the tax man gets nothing.

Why Exercising SARs Reminds Me of a Radio Game Show

My own situation is pretty similar to the BNS example. I could exercise all of my stock appreciation rights today and make about $1 a piece (before tax) for each unit. Or I could wait one more day and see if I make more than $1 a piece. But I could lose everything if the stock drifts down again.

It’s like one of those radio shows where the caller can keep what’s in the first envelope, or open a second. They could find more money in the second, or they could find it’s empty. I hate those shows! I don’t like suspense and I don’t like gambling. I’m always shouting at the radio telling them to be happy with what they’ve won and not risk losing it all.

You can bet I’m not thrilled trying to choose when to exercise my SARs. But time is running out so some kind of decision has to be made.

Why and How I’m Trying to Time the Market: the Wishy-Washy Approach to Stock Appreciation Rights

Being essentially greedy and also nervous and conservative is a bad combination. It’s led me to a wishy-washy approach to exercising my stock appreciation rights.

I’ve mentally divided the number of units I can exercise into several bundles. Each bundle gets exercised immediately if the price reaches a certain point, or it gets exercised by a deadline, providing it will at least make anything.

It’s risky though. Like BNS, the underlying stock has a bad habit of going down and staying down for lengthy amounts of time. And there’s only a few months left before the SARs expire. I could deeply regret not exercising today and getting the $1 per share.

Wish me luck. I have a feeling I’m going to need it.

P.S. Yes, I also own shares in BNS. I think I’ve mentioned before that you don’t want to copy my investing decisions!

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Do you think I should stop waffling and exercise the whole lot for $1 each before tax? Do you think a multiple exercise scheme is a good idea? What would you do? Please share your experiences and expertise with a comment.

Part 1: SARs: Not Just a Disease, Also a Worrying Financial Decision to be Made

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Do you ever wonder if people consider the acronyms they are making when they name things? Of course sometimes the name pre-dates the widespread use of acronyms. Look at the Bank of Montreal who have had to very thoroughly and carefully blast into our consciousness that their acronym is BMO. That’s because if you shortened their name the way it should be condensed, it’s synonymous with something that no right-thinking bank wants you to imagine when you think of them. So whoever named Stock Appreciation Rights better have done it before 2002. That’s when Sudden Acute Respiratory Syndrome began killing people. Thankfully right now the only SARs I have to worry about are a fancy type of stock option but they still need me to make an important financial decision.

The Creation of Stock Appreciation Rights

Corporations, governments and regulatory agencies love tinkering with mechanisms to reward “executives” and even lesser mortals like us regular employees. They are searching for some way to provide a carrot to their business leaders. They want to reward those people if the work they do and the decisions they make enhance the company’s earnings and position in the industry.

One common way to do that in the olden days of the game was to provide Stock Options. Then, for a variety of reasons, those fell out of favour.

Next up to bat was Stock Appreciation Rights or SARs.

What are Stock Appreciation Rights, SARs?

SARs are a bit different than Stock Options but are not totally unique.

Like an option, an appreciation right is usually awarded one year but cannot be exercised right away. Often the person receiving the SARs has to wait one or more years before they can use the award to make money. A grant of SARs may even be awarded where a fraction of the total units vests each year over 2-5 years.

Also like options, usually workers lose their SARs if they quit or are fired for cause before they can use them.

The value of a SAR unit is based on the value of a single share of stock in a specified company. This is similar to a stock option but it’s handled differently.

Unlike stock options, no real shares are involved in a SARs bonus. The employee cannot buy shares or sell shares. The stock market is not suddenly flooded with shares when an employee sells their SARs.

Instead, an employee receives a cash payment equal to the number of SAR units times the increase in price between the deemed price of the stock on the day the SAR was awarded and the actual price of the stock on the day the SAR was exercised. The cash is fully taxable.

For example, Ms. Syed may be awarded 1000 SARs as part of her annual compensation review in February 28, 2013. The SARs may be awarded with a price of $10 per unit. They may vest, so she can use them, on December 31, 2014. They may expire December 31, 2017.

If the price of shares in Ms. Syed’s company increases to $13 in March, 2015, she may decide to exercise all of her stock appreciation rights. If she does, she will receive 1000 x ($13-10) = $3000 before tax.

Are SARs an Appropriate Way to Reward Good Performance?

If the company is doing well, in theory its stock price will go up making SARs more valuable. If the company does poorly and the stock price plummets the value of the SARs will also drop. Still in theory this is where the SAR is supposed to provide incentive for the worker to do a great job. If they exceed work expectations, then the company as a whole should prosper, and the share price should rise, and the bonus they will earn by exercising their stock appreciation rights should increase.

There’s a lot of “theory” in that paragraph.

In reality, of course, many companies prosper or founder based on factors which are totally beyond the control of the company or its employees.

  • A gold mining company, for example, cannot control whether a huge new easily-accessible source of gold is suddenly found and brought into the market by a competitor diluting the price of gold.
  • A newspaper company can do little to prevent its market from shifting from reading newspapers to watching cute kitten videos on YouTube.
  • A company selling luxury dog-treats can’t control the international economy that can cost its buyers their jobs and their ability to spend thousands of dollars on their pets.

SARs have actually fallen out of favour with many companies. That doesn’t mean there aren’t some rights still hanging around waiting to be executed though. I know because I still have some.

Related Reading

  • Part 2: I Know Market Timing is for Suckers, so Why Am I Trying to Time the Market?

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Have you ever been issued SARs? Did the value of your company promptly sink beneath the waves leaving you with a negative bonus? Please share your sad experiences with a sympathetic listener (or make me wildly jealous by explaining how your company’s value actually increased!) by contributing a comment.