Another way to compensate employees of a corporation is to issue them Stock Appreciation Rights (“SARs” – not “sars – severe acute respiratory syndrome”, that’s something else). SARs grant employees, usually higher level executives, the right to receive stock and/or cash at a future date in an amount pegged to the increase in value of the corporation’s shares of stock over a certain time period. If the company’s share value increases, so to does the value of the SARs. SARs often are offered along with traditional stock options, although they are granted seperately (if done with stock options, sometimes you will see them called “Tandem SARs”).
SARs are very similar to Phantom Stock Grants, both provide for a payment of cash or stock based upon the increase in value of a certain amount of shares over a certain time period. Although the receipt of the cash or stock from a Phantom Stock award can be conditioned upon the company or employee meeting certain objectives (and therefore more closely aligned with individual, as opposed to overal company, performance). SARs can be
SARs, like stock options and Phantom Stock can be vested, and the right to excercize can be conditioned on an individual performance condition, or a company wide performance condition (usually the case, especially when given with stock options).
SARs are beneficial to employees becuase they can, but generally do not have an expiration date (unlike qualified stock options which can only last ten years), and the employee does not have to make any payments to receive the cash or stock awarded under the SAR (compare to having to pay the exercise price of a stock option).
You usually see SARs granted along with stock options. It is convenient for employees that want to exercise their stock options to be able to exercise their SARs to pay the exercise price of their stock options, or to pay the tax hit that the exercise of either can cause. In this respect, SARs are kind of like the appetizer or dessert where the stock options are the main course.
SARs are treated as non-qualified deferred compensation so our friend Section 409A does apply, except if these three conditions are met:
1. the award under the SAR is less than the excess of the FMV of the stock on the award date over the SAR exercise price;
2. the SAR exercise price is not less than the FMV of the underlying stock on the date the SAR is granted; and
3. the SAR does not provide for deferral of compensation, except for allowing for the deferral of the income from the excercised SAR.
To pass an equity plan under which SARs may be granted, will usually require shareholder approval if the SARs are settled in stock, but generally not shareholder approval is required if the SARs are settled only in cash. Even if the SARs are to be settled only in cash, shareholder approval of the plan is a good idea to have the SAR grants qualify for “performance based” compensation under IRC section 162(m).