Construction is a competitive industry. Every business owner knows and prepares for the fact that they will be competing for projects when they enter the industry. The competition for top talent, however, may not have been a consideration. The industry has seen a definite dwindling supply of new management talent and other skilled workers. To combat this problem, consider incentives that can help you attract, retain and motivate quality employees.
A powerful tool
Among the most powerful tools for engaging employees and verifying that employee interests are aligned with those of your business is equity-based compensation. Sharing ownership — by granting stock options or restricted stock awards, for example — is a time-tested strategy for motivating and maintaining long-term relationships with employees.
Utilizing stock options or stock awards, however, may not be a viable option for closely held construction companies for a variety of reasons:
- Owners may be unwilling to dilute their ownership and control of the business.
- Many privately held companies have buy-sell agreements and other restrictions on their ability to transfer shares or issue new stock.
- Family-owned construction companies may also restrict ownership to family members.
Fortunately, there are ways to leverage the economic benefits and motivational power of equity without transferring shares to employees.
Phantom stock
Phantom stock is designed to mimic the economic benefits of a restricted stock award. Employees receive bonuses (usually in cash, though stock can be used) based on the value of a specified number of shares of the company’s common stock (or other ownership unit). Some plans are designed to provide dividends or other benefits of ownership to employees.
Typically, payments are made at a specified point in time or upon a specified event, such as termination of employment or sale of the business.
Stock appreciation rights
Stock appreciation rights (SARs) are similar to phantom stock, but they’re designed to mimic the economic benefits of stock options rather than stock awards — with one significant advantage: Employees do not have to actually purchase shares of stock through cash payouts or financing options.
Rather than tie bonuses to the value of the firm’s stock, SARs pay out cash awards (or, in some cases, stock) based on the appreciation in value of a set number of shares. As occurs with phantom stock, payouts are usually made at a specific time or a specified event.
Flexible planning tools
Phantom stock and SARs offer flexibility in designing incentive compensation plans to meet a construction company’s needs. Although both tools use the term “stock,” they aren’t just for corporations Partnerships and LLCs can take advantage of similar tools tied to ownership “units.” And unlike profit-sharing, 401(k) and employee stock ownership plans which are restrictive in that they cannot be discriminatory to a certain level or type of employee, phantom stock and SAR plans can limit participation to key employees. In fact, if phantom stock and SAR plans are offered broadly to employees, the plans could fall subject to federal retirement plan rules.
You can also build in features designed to tie employees to the company long term and motivate them to improve business performance. For example, you can establish vesting schedules for phantom stock rights or SARs, or tie payouts to performance goals, such as reaching certain revenue or earnings targets or increasing gross profit margins. It’s even possible to vary vesting schedules and performance targets on an employee-by-employee basis.
Downsides exist
Phantom stock and SARs aren’t without downsides. The largest drawback is that awards are usually paid in cash, which can put a strain on a construction company’s cash flow for operations. In addition, awards are usually taxed at ordinary-income tax rates, whereas stock options and restricted stock may offer certain tax advantages for employees.
If you’re interested in equity-based compensation, be sure to discuss the idea with your MarksNelson professional. The design of the equity-based compensation plan is essential to ensure that the plan is set up to achieve the company objectives while remaining as beneficial as possible for all participating parties. Click here to contact us today.
