Stock-Based Compensation and Performance Awards

In addition to stock options and warrants, Appraisal Economics has extensive experience in the valuation of alternative equity-based compensation instruments and performance awards, including:

  • Long term incentive plans (LTIPs or LTIP Units)
  • Restricted stock units (RSUs) and restricted stock
  • Outperformance plans (OPPs) or outperformance units
  • Performance awards with market conditions (options, SARs, LTIPs, RSUs)
  • Profits units

We perform our equity-based compensation valuations to fit a variety of different purposes, including:

  • Financial reporting, principally under ASC 718 (formerly SFAS 123R), IFRS2, and
    ASC 505-50
  • Gift and estate tax valuations
  • Section 409A and other tax-related purposes

As the financial and regulatory environment surrounding employee compensation and derivatives has continued to evolve, there has been a marked shift from plain vanilla stock options to alternative equity-based compensation. Many companies have found that the rigid structure of stock options can be limiting, and may not adequately align the goals of the option recipients (often executives or other employees) with those of the shareholders. As stock options are not entitled to receive the dividends paid on the underlying common stock, and dividends comprise a substantial portion of real estate investment trusts’ (REITs) total stockholder return (TSR), common stock options are not well-suited for REITs’ performance based compensation plans.

Accordingly, instead of granting stock options, many real estate investment trusts (REITs) and other companies have shifted more heavily towards alternative stock-based compensation instruments and performance awards including long term incentive plan units (LTIPs or LTIP Units), restricted stock units (RSUs), and outperformance plans (OPPs) or outperformance units. These complex derivative instruments often have time-based vesting conditions, performance-based vesting conditions, and market-based vesting conditions.

Time-based vesting conditions require the grantee to fulfill a service requirement (that is, remain employed at the company) for the equity award to vest. The award may vest completely on a single future date (“cliff” vesting) or in tranches, on multiple future dates (“ratable” vesting). If a grantee of time-based vesting awards ceases to be employed with the company before the awards vest, they are often forfeited.

Performance-based vesting conditions require the satisfaction of performance conditions for the equity award to vest. These performance conditions generally involve the company’s achievement of certain financial metrics such as specified levels of funds from operation (FFO) or earnings before interest, taxes, depreciation, and amortization (EBITDA). If these targets are not met, the awards do not vest.

Market-based vesting conditions require the achievement of a market condition, generally based on the company’s common stock performance, for the equity award to vest. Market-based vesting conditions can include share price targets (which do not adjust for dividends) and total return targets (which add back or assume the reinvestment of the company’s dividends). The targets (or hurdles) can be “absolute targets”, based on a given company’s individual performance, or “relative targets”, based on the company’s performance compared to that of an index or a peer group, sometimes comprised of hundreds of other companies. Many long term incentive plan units (LTIPs), restricted stock units (RSUs), and outperformance plans (OPPs), contain both absolute targets and relative targets. The ability of these market-based vesting targets to adjust for dividends (unlike plain vanilla stock options) makes certain alternative stock-based compensation instruments particularly attractive to real estate investment trusts (REITs).

ASC 718 requires that valuation models for performance awards and stock-based compensation must: (i) be applied in a manner consistent with the fair value measurement objective and other requirements of ASC 718, (ii) be based on established principles of financial economic theory as generally applied in that field, and (iii) reflect all substantive characteristics of the grant instrument. Due to the sophisticated nature of these instruments, we apply a wide range of techniques in our valuations of these instruments, including:

  • Closed form models such as Black-Scholes-Merton
  • Lattice models, such as a binomial model
  • Synthetic option modeling
  • Monte Carlo simulations

Appraisal Economics can help establish appropriate inputs into the valuation process, such as expected volatility, estimated dividend yield, stock price correlations, exercise behavior, expected forfeitures, and estimated security lives. This information is fully supported by a detailed narrative report suitable for review by independent auditors, the Securities and Exchange Commission, and the Internal Revenue Service.

We also offer other valuation related services for performance awards and stock based compensation. These services include pre-award planning and “what if” analyses of alternative plan designs and future scenarios, plan award computations, valuations and award computations under plan modifications, and many other services.

Whether you need a valuation of tradition stock options, other complex securities, or performance awards such as long-term incentive plan units (LTIPs), restricted stock units (RSUs), and outperformance plans (OPPs), Appraisal Economics can provide fully supported high quality work in a timely and reliable manner.

Appraisal Economics has an experienced team of highly qualified professionals with decades of valuation experience. We provide a full range of valuation services, including purchase price allocations, solvency opinions, portfolio valuations, and business valuations. To learn more about how our team of experts can meet your stock-based compensation and other valuation needs, please Contact Us.