New Age Employee Compensation Issues: Or, it Used to Be So Simple

• Publication year: 2000
• Pages: 5
• Citation: Vol. 29 No. 6 Pg. 5

29 Colo.Law. 5 Colorado Lawyer 2000.

2000, June, Pg. 5. New Age Employee Compensation Issues: Or, It Used To Be So Simple

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Vol. 29, No. 6, Pg. 5

The Colorado Lawyer
June 2000
Vol. 29, No. 6 [Page 5]

Articles

New Age Employee Compensation Issues: Or, It Used To Be So Simple . . .
by Ed Aro, Madeline Cohen, Lynn Feiger, Joan Bechtold

Today in many industries, and certainly in the high-tech world, the recruitment and retention of employees depend on non-salary compensation?stock, stock options, bonuses long-term incentive plan distributions, and the like. The increasing importance of non-salary compensation has created new legal problems for employers and employees alike. Such problems include the myriad technical legal issues involved in setting up and administering non-cash compensation programs, legal conflicts arising from differing understandings and expectations concerning the terms of such programs, and new good-faith issues relating to employee termination

Left to right: Ed Aro, Madeline Cohen, Joan Bechtold, and Lynn Feiger

This article provides a brief introduction to certain forms of non-salary compensation, describes the litigation risks involved in non-salary compensation programs, offers practical pointers for lawyers representing employees and employers seeking to avoid litigation, and describes some of the unique issues that arise in connection with lawsuits concerning non-salary compensation.

NON-SALARY COMPENSATION BASICS

Increasingly, businesses rely on a combination of six basic forms of non-salary compensation to attract, reward, and retain key employees: stock options, restricted stock, stock appreciation rights ("SARs"), "phantom stock" rights, bonus programs, and non-qualified long-term incentive programs. While each of these mechanisms could be the subject of an article by itself, each may be briefly described as follows.

Stock Options and Restricted Stock

A stock option is a contractual right to purchase stock at a set time and pre-determined price.1 A share of restricted stock is a share of the employer's stock that is subject to restrictions that prevent the employee from selling the stock until certain conditions (such as the attainment of performance objectives or a specified period of employment) are met. Both stock options and restricted stock often are used as retention or performance devices, to allow an individual to obtain an equity position in the company based on his or her length of service, attainment of pre-established performance goals, or other factors. They differ in that the option is simply a contract right to obtain equity that may or may not have current value, depending on the current price of a share of the company's stock, as compared with the exercise price established by the option. They also have different tax ramifications for both the employer and the employee.2

SARs and Phantom Stock

An SAR is a method of paying employees deferred compensation that is measured by the appreciation of the value of the employer's stock between the date of the grant and the date on which the employee receives the distribution. A phantom stock plan allows an employer to give employees what amounts to imaginary stock, in units that track or correlate to the employer's actual equity securities, and which employees hold until a vesting or distribution date. When employees cash out, they receive both the value inherent in the unit at the time of the grant and any appreciation in the unit's value between the grant and distribution.3

"Performance units" or "performance shares" are terms often used to refer to variations on phantom stock in which employees receive a right to future payment of an amount based on the attainment of specified company performance goals. SARs, phantom stock, and performance units and shares are similar in that all are generally tied directly to the performance of an employer's securities, but do not in and of themselves constitute securities.4

Bonus Programs

Many employers today are migrating away from the traditional discretionary year-end bonus model and toward highly structured plans that mandate the payment of specific or arithmetically calculated bonuses on the achievement of pre-established performance objectives. Employers use an infinite variety of such programs, ranging from bonus targets based on straightforward objective factors to complex multifaceted programs under which a bonus may be part subjective and part arithmetic. Bonuses may be based on such factors as sales or net or gross income levels; the trading price of the employer's stock; or the achievement of specified corporate benchmarks, such as closing a particular financing or completing an initial public offering.

Bonus programs, while potentially fraught with the danger of dispute over whether and to what extent a bonus is "earned" as of a given time, have become popular with companies that wish to create specific and individualized performance incentives and those that, while perhaps cash-poor at the beginning of an employment relationship, expect to generate significant cash flow when they achieve the very targets that are themselves the benchmarks for employee bonus entitlements.

Long-Term Incentive Plans

This category of programs includes a virtually infinite number of programs and plans developed by employers to provide a carrot to retain employees over an extended period of time. In its simplest form, such a program might involve nothing more than a promise that if an employee meets Year 1 performance objectives, he or she will receive a specified distribution of cash or stock at the end of Year 2, assuming continued employment. In their more elaborate forms, such plans include distributions over a far longer period (either a lump sum at the end of an extended period or a series of distributions occurring over time), can include individual and company-wide performance benchmarks, and can involve performance measurements taken as frequently as daily or as infrequently as once every three or four years.5

Long-term incentive plans are flexible and allow an employer to tailor them to motivate employees to achieve narrowly drawn goals, as well as to require continued employment as a condition of a distribution. Therefore, these plans are becoming quite popular with employers who are struggling to maintain some continuity in their workforces.

NEW AGE COMPENSATION EMPLOYEE CLAIMS

The increasing use of non-salary compensation programs creates a number of legal land mines for employers. These land mines frequently arise early in the recruiting process, when the employer makes representations or promises to prospective employees to induce them to accept employment. For example, an employee might accept a job based on an employer's representations pertaining to the company's financial status, or the value of stock, stock options, SARs or phantom stock. These representations then resurface when, for example, the employee is discharged before the options or other rights vest, the employer attempts to change vesting requirements, or the options or other rights turn out to have less value than promised or to have no value at all.

Employees in this situation have a number of legal rights and remedies available to them of which both employees and employers should be aware. Existing common law causes of action under which employer promises relating to non-salary compensation may be enforced include claims for breach of contract and promissory estoppel; breach of the covenant of good faith and fair dealing; intentional interference with contract; common law fraud; statutory fraud; and violation of state and federal security statutes. In certain circumstances, an employer's violation of commitments relating to non-salary compensation also may trigger rights under the Colorado Wage Act.6

Breach of Contract/Promissory Estoppel Claims

Offer letters or contracts promising to provide employees with stock options or other non-salary compensation often state that the employee's right to such remuneration will vest in the future. Not only can such letters and contracts give rise to a breach of contract claim with respect to the options or other non-salary compensation, but they also can create a contract for employment that limits the employer's right to discharge the employee in the future. For example, in Dorman v. Petrol Aspen, Inc.,7 the Colorado Supreme Court held that an offer letter could be construed as creating a contract for employment for a specific term when it included provisions concerning long-term compensation and employee participation and provided for a stock option that could be exercised only during a one-year period of time in the future.8

Even if the promises made by the employer during the recruiting process do not rise to the level of a contract, they may still be enforceable by the employee under a theory of promissory estoppel.9 Promissory estoppel claims can be a particularly powerful tool for plaintiff's counsel in employment cases, where promises frequently are made to employees orally and the requisites for formation of a contract may not exist.

The most recent promissory estoppel case decided by the Colorado Supreme Court, Pickell v. Arizona Components Co.,10 involves promises made by an employer during the recruiting process, and illustrates the extent to which some courts will go to enforce promises on equitable grounds. In the Pickell case, the employee's promissory estoppel claim was based on the type of oral assurances frequently made by employers during the recruiting process. For example, Pickell was promised "better future prospects, paid...