Stock appreciation rights: Overview, definition, and example
What are stock appreciation rights?
Stock appreciation rights (SARs) are a type of employee compensation that provides the employee with the right to receive a payment equivalent to the increase in the value of the company’s stock over a specified period. Unlike stock options, SARs do not require employees to purchase stock. Instead, they allow employees to receive cash or stock equal to the appreciation in the company’s stock price from the time the rights are granted to when they are exercised. SARs are often used as a way to incentivize employees without requiring them to invest their own money in the company’s shares.
Why are stock appreciation rights important?
Stock appreciation rights are important because they align the interests of employees with the performance of the company. By tying compensation to the company’s stock performance, SARs motivate employees to work towards increasing the value of the company, as the value of their SARs will increase with the company’s stock price. For companies, SARs are a valuable tool for attracting and retaining talent, offering a way to compensate employees without needing to provide immediate cash payments. Additionally, SARs are often structured to avoid diluting the company’s stock, as no new shares are issued.
Understanding stock appreciation rights through an example
Imagine an employee who is granted SARs as part of their compensation package. The employee is given the right to receive a payment equal to the appreciation in the company's stock price over the next five years. If the company’s stock is valued at $50 per share when the SARs are granted, and the stock price rises to $80 per share over five years, the employee is entitled to receive the difference of $30 per share (the appreciation in the stock price) for the number of SARs they hold. If the employee holds 1,000 SARs, they would receive a payment of $30,000 (1,000 SARs × $30 per share).
In another example, a company grants 500 SARs to an employee at the start of the year when the company’s stock is worth $100 per share. By the end of the year, the stock price has increased to $120 per share. The employee can then exercise their SARs and receive a payment of $20,000 (500 SARs × $20 appreciation per share).
An example of a stock appreciation rights clause
Here’s how a clause about stock appreciation rights might appear in a contract:
“The Company hereby grants to the Employee 1,000 stock appreciation rights, which entitle the Employee to receive a cash payment equal to the appreciation in the Company’s stock price from the date of grant, provided that the rights are exercised within 5 years of the grant date. The payment shall be based on the difference between the stock price at the time of exercise and the grant price of $50 per share.”
Conclusion
Stock appreciation rights (SARs) are a popular form of compensation that rewards employees based on the increase in the company’s stock price. They help align the interests of employees with the company's performance, motivate employees to contribute to the company’s success, and can be a cost-effective way for businesses to offer performance-based incentives. SARs can also be more flexible than stock options, as they don’t require employees to purchase shares, making them an attractive option for both companies and employees.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.