Equity Compensation: End-to-End Strategies for Private Companies. May 30, 2013 Sponsored by:

Transcription

1 Equity Compensation: End-to-End Strategies for Private Companies May 30, 2013 Sponsored by:

2 Agenda Introduction Kathy Roadmap & Philosophy Kyle Equity Basics Kathy Equity Compensation Vehicles Kyle Avoiding Stock Compensation Issues Kathy Q & A

3 Speaker Bio: Kathy Ryan About RoseRyan Financial and accounting consulting 20 years in business; Bay Area regional focus; 700 clients Focus on life sciences & high tech Partner with QB3 for Accelerator Kathy Ryan Founder and CEO Interim CFO of 50+ start up companies

4 Speaker Bio: Kyle Holm About Radford Leading provider of compensation intelligence and consulting services Focus on HR & benefits for technology and life sciences clients An Aon Hewitt company Kyle Holm Associate Partner 15+ years experience with all compensation elements (salary, annual incentives, long term incentives) Previously with Hay Group and Presidio Pay Advisors Published author & lecturer

5 Roadmap & Philosophy

6 Compensation Roadmap Radford IPO Compensation Roadmap Consider Creating Systems to Level/ Job Match Employees Startup First Time Salary and Bonus Benchmarking Salary Administration System Development Annual Bonus Assessment/ Design Equity Grant Guideline Development and Total Dilution Planning Acquisition Ready Comprehensive Executive Compensation Review > Peer group selection > Compensation Philosophy > Total pay Competitiveness Ongoing Cash/Equity Program Review and Incorporation of New Roles/Incumbents Board of Directors Compensation Program Equity Award Valuation Assessment for ASC Topic 718 Accounting Go Forward Equity Strategy (Share Reserves and ESPP) Equity Holdings Retention and Refresh Assessment Go-Forward Public Company Compensation Maintenance IPO Event Public Disclosure and Regulatory Preparation > Executive compensation SEC disclosure drafting > Equity plan terms audit and funding needs projections > Tax & regulatory compliance > Executive severance/ change-in-control policies and contracts

7 Compensation Philosophy Comparative Framework Pay Targets Pay Mix Strategy Allocation Strategy Determine which companies to compare yourself against within the market Differentiation of comparators generally exists between executives and the broader employee population Determine targeted position for pay within the market (i.e. 50th, 60th, 75th percentiles), which can differ for base salary, incentives and equity Determine the weighting of cash, incentives and equity in terms of overall pay strategy Egalitarian approach All employees are eligible and participate in the various aspects of compensation programs, supporting an all inclusive company culture Targeted performance-based approach Eligibility for participation in certain compensation programs varies by level or function within the organization, supporting a company culture that targets and rewards top performers and key talent

8 Core Elements of Pay At A Glance Base Salary Fixed, or guaranteed, cash compensation intended to reward employees for performing the core duties of their job Bonus Variable cash compensation, typically expressed as a percentage of base salary and provided on an annual basis - to reward employees for performing above core expectations based on the achievement of personal or corporate goals Long-Term Incentives Additional compensation, typically provided via equity, designed to facilitate employee retention and to align employee interests with long-term shareholder interests The most common long-term incentives include stock options and restricted stock/units; stock options are generally considered to incentivize growth, while restricted stock/units facilitate retention Other common long-term incentives, especially for executive officers, include performance stock/units and long-term cash plans Long-term incentives typically have multi-year service-based vesting provisions to induce employee retention

9 Defining A Founder Founder refers to the individual who founded, created and established a company. Some criteria to apply to founders: Founder Criteria Checklist Actually founded or established the company/organization Generated the ideas and innovation and/or created the product or concept to create the foundation on which the company is built Has the most equity; owns the largest piece of the company Is oftentimes the Chief Technology Officer or top development engineer (for Technology companies) Is oftentimes the Chief Medical Officer or top research executive (for Life Sciences companies)

10 Equity Basics

11 Common Terms Common stock Family and friends Founders stock Restricted stock with vesting provisions Preferred stock Family and friends Angel investors and VC Stock options Incentive Stock Option (ISO) & Non-qualified Stock Option (NSO) Early exercise provisions Restricted stock unit (RSU)

12 Common Terms (continued) Warrants Convertible debt Cap Table Section 83(b) election Section 409A valuation Stock-based compensation expense

13 Equity Compensation Vehicles

14 Total Rewards: right sizing pay problems The mix and weighting of pay elements typically aligns with company stage of development; however, some companies will deviate from this model based on cultural or competitive motives Growth Retention Mode Fixed Pay Medium to High Annual Bonus Medium Long-Term Incentive Medium Maturity Maintenance Mode Fixed Pay Medium to High Annual Bonus High Long-Term Incentive Low Decline Control Mode Renewal Start-Up Attraction Mode Fixed Pay Low Annual Bonus Low Long-Term Incentive High Fixed Pay Low to Medium Annual Bonus Medium Long-Term Incentive High For Illustration Only Time

15 Equity Vehicle Overview Company Profile Long-Term Incentive Vehicles Stock Options Only Restricted Stock or RSUs Only Mix of Options and Restricted Stock or RSUs Performance Shares Long-Term Cash Relative Total Shareholder Return Equity Mid-Cap/ Vehicle Mid-Cap/ Overview Cap/ Growth Mature Mature Startup Market Market Large Market Objectives/Implications Focus is absolute stock price growth and future upside potential Supports retention Combines stock price growth with retention Allows performance-based contingencies in equity awards Requires maturity and cash reserves; long-term metrics Reflects Institutional investor perspective (portfolio performance) Most Common Practice Emerging Practice Least Common Practice

16 Private vs. Public Equity Practices Typical Private Firm Typical Public Firm Peer Group Cash Approach Equity Approach Pay for Performance Usually, no specific identified peer list Focus is placed on comparative companies similar in size and stage of development Base salary must be competitive Annual bonuses a definite maybe these days Aggressive award sizes Vehicles: Stock options dominate Award sizing metric: Ownership percentage Egalitarian: we re all in this together Usually, a specific group of 15 to 20 identified public peer companies Base salary: 50th percentile Annual bonus: 50th percentile or above, emphasizing the at-risk nature of compensation 50th percentile and up to 75th based on performance Vehicles: Options, RSUs, performance shares Award sizing metric: Value Pay is targeted to key roles and high performers

17 Private vs. Public Equity Practices Award Sizing New-Hire vs. Ongoing Vehicle Mix Participation Typical Private Firm Targeting specific ownership percentages; conversion into shares based on TCSO Large new-hire grants Ongoing grants delayed until IPO approaches, or 3-4 years after hire Ongoing guidelines set anywhere from 25% to 33% of new-hire awards Stock options dominate New hire awards: nearly 100% Ongoing awards: targeted at key performers and employees greater than 50% vested Typical Public Firm Targeting specific values; conversion into shares based on stock price New-hire awards are typically 2x ongoing award sizes Most employees eligible for ongoing awards after one year of service Mix of stock options and RSUs, emphasis on RSUs as the firm matures Rising prevalence of performance shares for executives New hire awards: participation drops as companies increases in size Ongoing awards: broad eligibility is maintained

18 Founder vs. Non-Founder Equity Ownership In both the Life Science and Technology industries, Founder CEOs own more equity as a percent of company than Non-Founder CEOs at IPO Life Sciences Equity Ownership As A Percent Of Company Avg. 25 th 50 th 75 th Founder CEO 8.7% 4.2% 6.0% 11.4% Non-Founder CEO 4.3% 3.1% 4.4% 5.1% Technology Equity Ownership As A Percent Of Company Avg. 25 th 50 th 75 th Founder CEO 12.9% 5.4% 10.0% 16.9% Non-Founder CEO 4.8% 3.0% 4.6% 5.6%

19 Avoiding Stock Compensation Issues

20 Avoiding Cheap Stock Issues Cheap stock charges Results from the issuance of private company share-based payment awards with exercise prices below the fair value of the stock Potential consequences Employee tax penalties Higher stock-based compensation expense Disqualified ISO status SEC scrutiny during IPO process Recommendations Obtain 409A valuations Document estimates of FV at each major grant date Limit the number of grant dates in a given year Stock Price Exercise Price

21 Caution: Modifications Modification by definition A modification of the terms or conditions of an equity award shall be treated as an exchange of the original award for a new award. Recognizing modifications Repricings Exchange of equity awards (e.g. options for RSUs) Extension of time to exercise post termination Acceleration of vesting Changes in employment status (e.g. consultant to employee) Adding change of control provisions Modification implications Additional stock-based compensation expense Possible tax consequences Potential loss of ISO status

22 Priority #1 Data Integrity Key Questions 1. Are awards granted reconciled to board minutes at least once per quarter? 2. Have all recipients been properly identified in the system as either employee or non-employee? 3. Are employees notified of their awards on a timely basis? 4. Is the paperwork kept in a single location and is it complete? 5. Has the accounting department been notified of all award modifications? 6. Are taxes withheld for all exercises of non-qualified stock options? 7. What process is in place to ensure that employee terminations are entered into the system promptly? 8. Have 409A valuations been completed on a timely basis?

23 Questions? Kyle Holm Associate Partner, Radford (415) Contact info: Kathy Ryan CEO, RoseRyan (510) x102