In a Washington Post op-ed, Intel's Andrew Grove and Reed Hundt explain why Intel is not going to follow Microsoft's lead and switch from stock options to restricted stock grants:
What about restricted stock? Would it not be a better deal for investors? Not at all. With restricted stock it's possible for employees to gain while stockholders lose. Here's an example. An employee may be granted a share of restricted stock when the stock is publicly traded for $10 per share. When the vesting period ends, usually after one to five years, the employee will make money no matter what has happened to the stock price. For example, if during that time, the stock price drops to $9 per share, the employee is ahead by that same $9, but anyone else who bought stock on the open market would have lost $1 per share in value. This is why critics have called restricted stock "pay for pulse." The granting of restricted stock puts greater emphasis on longevity and tenure than on owner-like motivations.
I have seen this argument before, but have never understood it. It seems to assume that the employee got got the restricted stock for free. As one otherwise useful article on the choice between stock options and restricted stock grants put it: "employees granted stock have not paid for it, while shareholders have." This is clearly wrong. The employee and employer exchanged value -- labor for compensation. The total compensation paid logically should not depend on the form of the consideration (ignoring transaction costs and taxes). Assume the employee's labor is fairly compensated at a rate of $100 per day. The employee could elect to work for a company that pays only cash salaries and receive $100 cash. Or the employee could go to work for a company that pays compensation in the form of both cash and restricted stock. This company is not going to pay the employee $100 cash per day. Instead, it will pay the employee $90 cash and give the employee the $10 share of restricted stock. If the employee takes the second job, the employee has an incentive to do whatever is possible to keep the stock price abpve $10. Otherwise, the employee would have been better off working for the all cash employer. Or am I missing something?
Mike O'Sullivan @ Corp Law Blog also weighs in with criticism of Grove and Hundt:
I also think [their] characterization of restricted stock as "pay for pulse" is unfair. By requiring an employee to stay at the company during the vesting period, restricted stock helps the company retain employees. As such, it can have the same beneficial effect as long-term incentive plans, deferred compensation plans and, yes, stock options. Restricted stock vesting doesn't have to be tied just to retention -- Microsoft's new restricted stock program, for instance, requires its top 600 or so executives to meet certain performance goals before their restricted stock vests. Hardly "pay for pulse." At the same time, options can offer "reward for pulse," as macro events such as interest rates, currency values and GDP growth can increase (or decrease) stock prices independent of any improvement (or failures) at an individual company. In other words, a rising tide can lift all boats, even the ones that are about to sink.
My sense is that one size does not fit all. At some firms and in some economic conditions, options may make more sense. At others, especially in the recent market, grants make more sense.
