It takes a while for expectations that build up during a long bull market to unwind. Things develop an air of inevitability, like a law of financial nature, and it becomes hard to remember that conditions were ever different.
In the tech world, stock-based pay has come to play that role. It is a little-discussed but important part of the financial background with mutual benefits for companies, workers and investors. That has made it easy for the stock market to turn a blind eye to the effects of issuing so much stock. Until, that is, the music stops and things go into reverse.
Stock-based pay has long played a key role in the collective self-mythologising of an industry that likes to revere its own seat-of-the-pants risk taking. Stock options were seen as a lottery ticket, the chance to strike rich if you were lucky enough to join the next hot start-up.
Yet over the past decade, as the industry has matured, stock compensation has become more like a gravy train. Companies these days mostly give out restricted stock rather than options, meaning that workers only need to serve out their time — typically four years — to cash in the shares. The strong secular growth seen by many tech companies, along with the long bull market, has come to make stock pay as reliable as cash, and the numbers have soared.
Alphabet handed its workers restricted stock worth $20.6bn last year, more than twice as much as it did five years before. At Meta, the awards soared from $3.4bn to $18.1bn in the same period. Much of the increase was down to rising headcount, but there has also been some pay inflation: the average stock award at Meta rose by a fifth, to $277,000.
The long bull market made it easy for tech investors to ignore the impact of stock-based pay. Their attention was fixed on revenue growth rather than earnings per share.
For many companies, meanwhile, it became a way to conserve cash, particularly in the early years, while workers have enjoyed big gains while waiting for their stock benefits to vest. The Facebook awards from five years ago more than doubled in value — that is, until the company’s shares fell hard after last summer.
Similar hits to other tech stocks, particularly those of high-growth companies, has jeopardised the previous comfortable status quo. With competition for tech talent fiercer than ever, companies will need to offer much larger amounts of restricted stock, or make cash a larger part of their pay. And as investors turned their attention from growth to earnings, the impact will be harder to ignore.
There is at least one piece of good news: turning away from options has made it easier to manage a high-growth tech company in a stock market downturn. When lower share prices leave options underwater they lose their value as tools for retention, leaving companies with a difficult decision to make.
Google was one of the companies in this position after the 2008 financial crisis. Its answer: replace workers’ old options with new ones at the lower share price. It was not welcome news to other shareholders — and it left workers with a big windfall when the stock price rebounded.
Not everyone has escaped this predicament. Peloton handed its workers options over stock with an aggregate value of nearly $500mn last year, as its share price was already heading south. The stock covered by those options is now worth only $91mn.
Owning restricted stock lessens the pain for workers, though it doesn’t remove it entirely. Video conferencing app Zoom, stopped issuing options in 2020 in favour of restricted shares. But the crash in the share prices of high-growth software companies in recent months means workers are far from insulated. At Zoom, $850mn in restricted stock given to workers last year is now worth only some $325mn.
If the sharp tech stock retreat forces companies to turn more to cash as a form of compensation, the effects on profit margins could be significant. At database group Snowflake, the stock given to employees last year accounted for nearly a third of the company’s total costs.
Cash has already started to assume a greater role in tech pay. After a year in which its share price went sideways, making stock awards less enticing, Amazon earlier this year said it was doubling the ceiling on the cash salaries it was prepared to offer workers. And Alphabet adopted a new bonus plan late last year that removes the caps on its cash bonuses.
For many others, competing for talent with some of the world’s richest companies is about to get a lot more expensive.
richard.waters@ft.com
