Are restricted shares right for your company
07/03/2022
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Some companies embraced the use of restricted shares (generically also known as long-term equity or LTE). These vest based on service requirements and/or the passage of time, and not specific performance hurdles. Prominent Australian examples include equity plans in place at CBA and Origin Energy, although there are now many others. They have long been in place in US listed companies, whereby Restricted Share Units (RSUs) and unhurdled option plans coexist with performance contingent Performance Share Units (PSUs). They have also been gaining traction in the UK with the initial plan pioneered by  the Weir Group in 2018, and supported by various UK agencies (see, for example, HERE), although with some backward steps (see HERE for example).

But these plans are not for everyone. Here is a checklist that can assist to determine if they are right for your company:

  1. Is the company highly regulated, in a mature market, and/or has highly oligopolistic market share such that there is limited scope for growth, and investors are primarily concerned with maintenance of dividends?
  2. Is the low growth company in the market for generic talent that can seek out alternative jobs with a higher prospect of traditional incentives paying out?
  3. Is the external environment so uncertain that it is difficult to set performance targets 12 months ahead, much less 3 or more years required by a traditional long term incentive (LTI)? This could be in industries impacted by an unpredictable pandemic, commodity price swings, climate change, fickle government regulation (or the lack of it) in, say banking or energy, European wars, and politically motivated trade disputes.
  4. Does company strategy, positioning and markets require significant capital investment with a 20+ year IRR investment horizon, but may produce low or negative returns in the first 3 or 4 years on each investment?
  5. Is the company subject to a long economic cycle such that it needs to time investments from cash reserves and cash flow only at the bottom of a cycle to optimise long term returns? Traditional incentive plans would not reward disciplined management for “standing still” over long periods.
  6. Has management any skin in the game? If not, is it likely under a traditional LTI plan and the current market positioning and investment cycle that executives will see any equity vest?
  7. Is there difficulty attracting or retaining executives with the right skills and experience? For many executives a bird in the hand (restricted shares) is worth more than 2 (or twice the value in LTI) in the bush (sometime in the unknowable, unpredictable, and unreliable future).
  8. Do you need to get executives to more fully consider applications of capital such that not all eggs are in shorter term, riskier returns basket, that may have a quicker pay-off?
  9. Is capital investment required to shore up resilience and sustainability over the long term? That is, investments in carbon abatement, energy independence, product safety or risk management, customer satisfaction, reputation, community and social license, compliance systems, or other requirements to at least survive and maintain value over the long term?
  10. If there is a sound rationale, would your investors support your restricted share plan? Are they local or international (see HERE, for example)? Where and who they are may determine their openness to engagement. Who are their proxy advisers, given one proxy adviser is unlikely to support any restricted share plans? Are investors active or passive, value funds or growth funds? Knowing their investment strategy assists evaluate the extent that your rational and messaging will have resonance. Are you vulnerable, when combined with other factors, to the machinations of hedge funds and short sellers wanting to make a quick dollar?
© Guerdon Associates 2022
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