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Given tech volatility, 'new economy' employees may rue the way they're paid
NEW YORK (CNNfn) - Every employee at L90 gets stock options. The Santa Monica, Calif.-based company, which develops Internet-ad-tracking software, went public in January at $15, and most of the options are priced at the offering price.
Amidst the carnage suffered by tech stocks in April, L90 (LNTY: Research, Estimates) L90 closed a little over $11.50 Monday afternoon. Even after a rebound, that means those options aren't worth the virtual paper they're printed on.
"In situations like this, if you're completely financially centered, your world goes away," President and CEO John Bohan said.
Money better come second
Any employee who didn't know it before knows it now -- at tech companies, work has to come first and compensation second, Bohan said. The tech boom of late last year and early 2000 couldn't go on forever, he explained.
But many 20-somethings hoped it would go on forever, or at least for them. That left many with unreasonable expectations of getting rich quick, Bohan said. Now reality is setting in.
L90 doubled its staff over the last eight months, and it uses options as a recruiting tool. That leaves Bohan with a lot of expectations to manage now.
On Friday, amid Nasdaq's 10 percent decline, he held a conference call to boost morale and reassure employees about L90's long-term prospects. He pointed out the drop-off had nothing to do with the company itself.
"Your average employee may be looking at our particular stock, and not looking at the whole picture," he explained. He hoped to shift their focus. Like many a tech company CEO, he says he is confident his company will end up a winner, as dollars flow into the Internet advertising industry.
Will workers change their ways?
But the collapse of L90's stock is a temporary disaster for employees. They have to wait four years for all their options to vest, and most haven't recouped any gains. Each year, 25 percent of the options L90 grants them are exercisable. So all those employees who have been with the company less than a year haven't been able to convert any options to stock whatsoever.
Bohan looks at the bright side of the tech collapse. "The good companies were not differentiated from the moderate companies," he said. "Now there's going to be a lot of analysis from the shareholders and the employees."
From that perspective the selloff is positive, he said. L90 pays competitive wages anyway, he added. "The way we look at options is upside to their current salaries," he said. "Most of the people at L90 aren't money-centered anyway."
L90's story far from unique
L90's story is far from unique. Around 8 percent of the American work force gets stock options, according to Brent Longnecker, executive vice president with Resources Connection, a Santa Ana, Calif.-based company that consults on compensation. That's up from 1 percent in 1990, he said.
For high-tech jobs, options are virtually obligatory. Many companies have started giving options, the right to purchase a company's stock in the future for a "strike price" that is set today, all the way down the payroll as far as janitors and receptionists.
The idea is to give employees an incentive to work hard and stay with the company, profiting if it does well. Ideally, Company XYZ sets the strike price -- the price at which the options can be converted into stock -- at today's price. Employees hope the stock rises in value while the option "vests." Eventually the employee can exercise the options for a substantial profit down the road, converting an option with a strike price of $5 for a share trading at $10, say.
But options create a problem when tech stocks collapse. If XYZ's stock takes a turn for the worse and in fact falls below $5, the option is worthless. Options have a set lifespan, so if the price doesn't rebound, the employee has to let the option expire. The employee ends up with nothing.
High-level executives tend to understand options, Longnecker said. They know they are a long-term form of compensation and not without risk, he said. They've often been paid with options before, and they have often weathered both up and down markets.
Founding employees often have options at such low strike prices -- pennies per share -- that they're guaranteed to make money on them. The question is how much. And given Nasdaq's 86 percent run up last year, many long-time tech employees still find their options "in the money," or worth converting. Even after the April mayhem, the stock is still likely above any options strike price set this time last year or before.
At New York-based InfoRocket, employees get "paid" options, too. But because the company has yet to go public, the shares are hard to price.
So InfoRocket's employees, who run a Web site where people looking for information pay other customers to answer questions, "aren't really affected," said Michael Fox, director of acquisition marketing. They know there's a potential payoff but it doesn't seem that important right now.
InfoRocket tries to avoid hiring workers who seem to be after options, Fox said. "Everybody here is hoping we do well and get rewarded. It would be foolish to say we're not," he said. "But you want those people who are willing to take a risk and say, 'Yeah, this could not work out, or maybe the options will not pan out for us,' " he said.
Workers who like risk the least hurt the most
The employees who are hurt the most by the market's recent decline work at companies that just went public, or are the employees who jumped ship from a conventional, "old economy" company to a dot.com in the last year. Because they got a package of options when they joined or the company went public, they now find themselves with options that are worthless.
Ironically they may well be the most risk-averse employees at tech startups, Fox said.
"The people that came over [to tech startups] in the early days, two or three years ago, were just excited about the potential. And they've done very well," Fox said. "But the people coming over now aren't risk takers. They're worried everybody else is making a lot of money. And they don't want to not make a lot of money."
They're the ones that are hurting. Many cash-strapped startups continue to pay employees with options, too, because they require no immediate expense. Shareholders ultimately pick up the cost.
Though most start-ups say they still pay competitive wages, academics point out it's highly unlikely that companies willingly overpay employees with full salaries AND options. You'd have to worry about being a shareholder of a company that did, they say.
Instead many employees take pay cuts to work at startups. So if employees were counting on options compensation to make up for lost wages -- and despite the warning that they shouldn't, many do -- they're not likely to be particularly happy right now.
For people who have never had options before, "the rank and file or middle management, the people that are going to these technology companies with the hopes of making millions ... I think reality has set in," Longnecker said. "Maybe last week served as a wakeup call for a lot of people who were riding this nice wave for the last two years."
Traditional brick-and-mortar companies are busy contacting their former employees who have defected to dot.com startups, using the market meltdown as a selling point, he continued. And the current volatility probably encourages employees who might have held onto options in the past to exercise what they can now.
Employees who were lured to tech companies in the past few months by the promise of wealth and options are probably considering getting out again, he said. "You're going to have a lot of people rethinking decisions about whether it was wise," Longnecker said.
Options not the best way of pay
Some experts have long argued that options aren't an effective way of motivating employees precisely because of markets like now.
If employees were paid cash bonuses, they wouldn't get as upbeat in an good market, admitted Mark Lang, a business professor at the University of North Carolina at Chapel Hill's Kenan-Flagler Business School. But they also wouldn't be as down in a down market, when options prove worthless.
Employees rightly feel the current meltdown had nothing to do with them, Lang said. Yet they have lost part of their compensation, at least temporarily and until the stock rebounds. That causes resentment and ultimately serves as a disincentive for employees.
"It was a bet, and it was a bad bet. And it was not a bet you made," Lang said. "It was made for you."
A few options for options companies
Companies who have issued options that are now "out of the money" have several choices. They can create new strike prices for existing options, based on today's prices. But that's rare.
Under accounting rules, the value of any options repricing affects the bottom line directly. And that hurts current shareholders. As a result, "you can almost guarantee you're going to be sued," Longnecker said. "It's hard to defend."
Not surprisingly, then, such moves are unusual. "Every now and then a company is in such a tight position for talent that they may in fact feel forced to do it," Longnecker said.
A more likely route is for a company to issue new options at today's prices. "Effectively there's no difference," said Cam Harvey, a finance professor at Duke University's Fuqua School of Business. This too is problematic, he said -- options lose their effectiveness as an incentive if they are taken for granted.
Companies can also leave extant options as they are and tell employees to count on and work toward a rebound, which is what L90 is doing.
But that leaves disgruntled employees with a third option. Since many high-tech companies issue options packages to new hires, "I can essentially reprice my options myself by switching companies," Lang pointed out. So for employees chasing options packages, options become a disincentive to sticking around when they're worthless.
"A lot of these people tend to move around every two years anyway. And once it [an option] gets deeply out of the money, it becomes less and less relevant," Lang said. The stock has to recover substantially just for them to break even, and they were hoping for a big payday anyway.
So they move onto another employer willing to dangle a new carrot. Though options are meant to keep employees around, Lang thinks they may now have the opposite effect if tech stocks remain depressed.
"If anything, it makes the incentive to switch employers even greater," he said.
-- Tim (firstname.lastname@example.org), April 18, 2000
False wealth for the "instant gratification" generation.
Those who believed themselves financially well off, living off of credit with which they made major purchases-new vehecles, homes etc, having a paycheck that only covers them from month to month with no realistic money in savings for situations like this, is going to send more than a few people into poverty who only two months ago were living the good life.
They would do well to learn from those who prepared for possible Y2K disruptions.
Many who prepared have stated the sentiment that they would never go back to living off of credit again, and are living with the comfort of knowing they have what they need to survive any short to medium financial shortfall.
Fridays stock fall must be hitting a lot of people in much the same way as learning about Y2K and fearing TEOTWAWKI did to a lot of people within the past few years.
-- Cherri (email@example.com), April 18, 2000.