Rewards Management: The Role of Stock Options as Incentives

The Universal Use of Stock Options

By now, it has become common for companies all over the world to use stock options to incentivize employees to perform better. The rationale behind using stock options is that employees are goaded to perform better because if they perform better, the company does well, which in turn raises the stock price of the company. In this way, the assumption is that employees would have a stake in the performance of the company rather than being merely salaried employees who would otherwise benefit only from bonuses and pay hikes.

By making employees part owners of the company, managements all over the world believe that it would create a professional class of employees who would perform better since they stand to gain directly from the performance of the company.

Stock Options Alone are Not Enough

However, in recent years, there have been studies done to assess the impact that the practice of doling out stock options has had on employee performance. The studies point to the fact that share price movements are dictated by a host of factors including market movements, sectoral adjustments, and speculative frenzies. Hence, it is concluded that stock price movements are not entirely driven by the company’s performance especially over the short term and the medium term. Because of this, outstanding performers in companies that are doing well but whose stock prices have not priced in the stellar performance might find themselves poorly rewarded and on the other hand, poor performers in companies that are doing ok might find themselves over rewarded, as the valuation of the company might be more than the actual performance.

Need for a New Compensation Model

The studies cited above make the case for a new form of compensation model that takes into account a holistic appraisal of employee and company performance and includes other measures of rewarding employees for their performance.

The point here is that financial measures are important more so because money is one of the primary motivators of employee performance. However, the measures have to be such that they are based on how the employee has performed instead of on how the market thinks the company has performed. Hence, the need for profit sharing and dividend accumulation in addition to stock options can be thought of as an alternative. In any case, stock options are usually given with a lock-in period ranging from two to five years and hence, the employees stand to gain only in the longer term as opposed to the shorter term.

Final Thoughts

Finally, it is better for the rewards to include financial and non-financial incentives in the form of other perquisites and benefits like vacation sponsorship, memberships to exclusive clubs, and other perquisites that go beyond mere monetary incentives and instead, create a sense of belonging and ownership with the company. In conclusion, the field of rewards management is undergoing dramatic changes in the recent past and the future portends more changes in the way companies assess and reward performance.

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