Like most mutual funds over the last couple of years, many share save and share incentive plans are underwater. Unlike mutual funds, however, employees in the plans are not stuck with these losses unless they hang onto them after maturity.
For the 5 million employees in some form of plan, and around 10,000 companies offering them, collapsing equity prices change the rules of engagement.
But as those advocating the plans or giving advice to employers are quick to point out, share save plans are uniquely safe until options are exercised. Now may well be arguably the best time to offer, and to participate in, such schemes.
The reasons for this are threefold. The likelihood is that most share values – depressed by the downturn – will rise, particularly given the usual time period for such plans. The cash-saving part of the scheme may also offer better interest than that offered by banks. And options may be offered where firms cannot afford pay rises for staff, but believe long term prospects for the business remain good.
But in the banking sector in particular, many employees have had it brought home not just that what goes up can go down, but that shares in banks (that have risen for decades) can become worthless as they go bust or are nationalised.
Many financial company shares have fallen far below the level at which options are worth exercising. Some of the worst stories from the personal finance message boards have HBOS employees putting each year’s bonus in the share kicker plan to the point where some had accumulated hundreds of thousands of pounds’ worth of shares. They are now getting around 0.6 shares in the merged Lloyds Banking Group for each HBOS share, and have seen their savings all but wiped out.
Indeed, in the case of many struggling banks, management have faced accusations from some employees that they were guilty of over-promoting the schemes when they knew the business was in peril. To date, however, it is about the only mud that hasn’t stuck to the former bank chiefs.
In the case of HBOS, staff union Accord investigated taking legal action, suggesting that the bank’s senior management should have been aware of the firm’s corporate difficulties and stopped promoting the schemes. But general secretary Ged Nichols says the legal advice is that there are no grounds for action. It now appears that any legal remedies are the same as those open to all shareholders rather than employees as a distinct group.
But is any of this the fault of save-as-you-earn (SAYE) schemes and share incentive plans and do they represent bad value now? Corporate and wealth advisers say the answer is an emphatic no, with the proviso that good communication is essential.
They say SAYE in particular represents a very good way to save without taking stock market risk particularly when valuations are very likely to rise over the time period of any scheme of three, five or seven years.
Those already taken out have not fared so well. Research carried out at the end of last year by lawyer Norton Rose showed that a majority of schemes for FTSE 100 firms were underwater. It also found that the most recently set up schemes were less likely to get above the surface without huge increases in share values, despite government tax breaks. Partner David Cohen, who heads the firm’s employee benefits team, says the picture remains much the same four months later given recent stock market performance.
He says that although some people, particularly bank employees, have suffered losses, most who use the plans either have not taken up the shares or have exercised them and then sold them almost immediately. He also believes that many of those banking employees will have other resources, so those in real financial trouble are a “minority of a minority”. Cohen says new SAYE plans remain good value.
Yorkshire Building Society head of share plans Jill Evans says that both employers and employees are now changing tack because of where share prices are. She says some employers are bringing forward plans for new tranches, while employees are choosing not to cash in options to take advantage of the discounting cycle in the next plan.
However, Smith & Williamson’s director of employment taxes and incentives group Nick Wallis cautions that for options in general, some firms may find it difficult to convince investors nursing losses themselves of the merits of restructuring existing underwater options. “Employers will have to think long and hard about how they restructure these awards,” he says.
Wallis acknowledges that, in some cases, the alignment of employee and employer interest has proved to be a double edged sword for those lower down the ranks, but that those still in the saving stage of SAYE have still got their funds. He believes it is entirely appropriate that senior management have lost out, in the banks’ case, to the tune of multi-millions and that in many ways the self-harm of senior executives may eventually prove useful in bringing some sense back to the sector. He also suggests that employees further down the scale may not appreciate that share options still have value despite low share prices particularly where shares have also been distributed free.
Head of employee share ownership at ifs ProShare Julie Richardson says: “There’s no point denying the fundamental problems affecting the markets, or that 2009 will be a tough year for many. However, employee share plans are actually showing remarkable resilience to the current economic turbulence. What we are seeing is very much business as usual, with employees having the opportunity to join plans at some of the lowest prices seen in years. Some companies are even doing an additional SAYE invitation to enable employees to take advantage of current low share prices.”
Richardson also makes the argument that the plans actually diversify many households away from their existing over-reliance on cash and property.
Even those who have warned in the past about the perils of double jeopardy – including horror stories such as Enron, where some US employees holding almost all their 401k pension plans in their employer’s shares – believe that this does not apply in the UK this time.
Pensions expert Stewart Ritchie, who consults for insurer Aegon UK, says: “Is the employer offering something that is going to cost you money to take up? If the answer is no, then don’t look a gift horse in the mouth. Plans are good if you are guaranteed to get your money back. But when people own shares in their employer, they have to understand it is not about being a loyal employee. It is their look out. I know people in Scotland who have lost out heavily having accumulated a lot of shares and having not diversified. But it is difficult to have sympathy when they could have followed some simple rules.”
Employee Share Ownership Centre chairman Malcolm Hurlston says that shop floor and office workers should not be solely rewarded on performance but also on length of service and seniority, with the goal of encouraging company loyalty. This should contrast with traders, where any bonuses should face the possibility of clawback for five years.
Policy makers and regulators are already moving in this direction. But Hurlston stresses that those who retain the equity are currently only facing a paper loss. “Any investor knows you only actually lose money when you sell, otherwise they remain paper losses. If an employee pulls out of a SAYE plan they get their money back and interest. It is the same for a company share option plan because if the maturing option is priced above the current market price then the option lapses and the employee pays nothing. Employees only lose money if they buy partnership shares in a SIP – but normally employers match purchases with free shares – and in any case SIP shares are meant to be kept for five years to get the full tax advantages.
“Now is arguably a good time to participate as an employee or launch a share/option plan as an employer. The longer-term ‘upside’ possibilities of gain in share plan participation are very high.”
Hargreaves Lansdown head of pension research Tom McPhail says that where firms get the alignment right then the results can be spectacular for the firm and the staff, with John Lewis probably the most obvious success. But he acknowledges that some people will need to look again at how much they have invested with their employer, consider how much risk they will tolerate, and if holdings are too high mitigate those risks.
Alison Paul, tax and trust partner at Edinburgh solicitor and asset manager Turcan Connell, says share schemes are of benefit to both employees and employers, but that diversification remains key. She says: “With these schemes, employees have an opportunity to invest in a tax-efficient way and have a stake in the company for which they work. Employers benefit from the sense of loyalty and involvement that a stake in the business confers. But each employee must make a decision based on their personal circumstances and needs.”
Origen technical manager Bob Perkins points out one problem is that advisers may be reluctant to offer advice on selling shares. Technically, if an adviser believes that someone has too much invested in the shares of one company, he should refer that person to a stockbroker. But IFAs can tell employees not to buy any more shares with their own money, he says. Perkins adds that those nursing losses can benefit from an in specie transfer into a Sipp, and see a 20 per cent uplift which could help make up any losses.
Perkins acknowledges there have been some unfortunate cases in the banking sector, but believes share save remains a safe way of getting people to save, who might not do so in any other way.
Investment cliché or not, the phrase ‘not putting all your eggs in one basket’ still applies.
Alan Milburn joins in calls for wider role for share ownership
ESOC and ifs ProShare are arguing for the amount that can be saved to be increased at least in line with inflation. It has not increased since they were set up in 1991.
Ifs ProShare says this means allowable contributions should rise to £400, a call that was backed by former cabinet minister Alan Milburn in a speech to an ifs ProShare conference just last month. The former cabinet minister suggested that employee share ownership sits comfortably with progressive politics.
“I believe that one of the biggest contributions to social mobility is to give individuals and families a stake in the future by establishing Britain as an asset-owning democracy.
Financial asset holding improves individual and social outcomes over and above factors such as educational attainment. Evidence from the National Child Development Survey of a cohort of children born in 1958 demonstrates a positive link between asset holding at age 23 and welfare outcomes later in life. Those with assets tend to spend less time unemployed and enjoy better health. Ownership works.” he said.
Of course, it is not a given that this Blairite former minister’s views hold weight with Chancellor Alistair Darling’s Treasury.
ifs ProShare would also like to see the scheme extended to companies owned by private equity, and argues that more than a million private sector employees are not covered by the plans. It also wants the time period on Share Incentive Plans to be cut to three years in line with other Revenue approved plans.
ESOC is also calling on the Government to consider increasing the time period over which contributions can lapse because employees are feeling the pinch with perhaps their partner losing their job.
Sharesave or save as you earn scheme (SAYE)
Employees have the option to buy company shares in the future at a price set when joining the scheme. Employees can save between £5 and £250 a month for three, five or seven years. At the end of the period, the company offers the choice of either using the saved money and the interest gained to buy shares in the business, or have the contributions returned.
Share incentive plan (SIP)
Employees buy shares directly from their employer (known as partnership shares) that the employer can then match (matching shares). Employers can give their staff up to £3,000 worth of free shares per year, and staff can buy a further £1,500 of shares from their gross salary, or up to 10 per cent of gross salary, depending on which is less. Employers can then give up to two matching shares for every share the employee buys. No income tax or National Insurance contributions (NICs) are payable if the shares are held in the SIP for five years. Shares held for over five years in the trust are free of Capital Gains Tax (CGT).
Company share option plan
Staff can be granted options at a price not less than their market value at the date of the grant. The option to purchase shares at a fixed price exists for ten years, but cannot be exercised for the first three. Participation in the scheme is not open to people who own more than 10 per cent of the company.