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What Is a Restricted Stock Unit and How Does It Differ from Stock Options?

GOBankingRates
GOBankingRates
 2021-10-16
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Traditionally, companies have used a variety of methods to reward or compensate their employees. One of these methods is offering restricted stock units.

This guide will compare restricted stock units versus stock options and discuss RSUs in detail.

What Are Restricted Stock Units?

Restricted stock units are a way for employers to give employees shares in the company. They are “restricted” because there is a vesting schedule in place, depending on the length of an employee’s employment and their performance goals.

Why Offer RSUs

By giving RSUs, employers incentivize their employees, offering them a reason to work for the company’s overall benefit, which will ultimately translate to a rise in the value of the stock awarded to employees.

Employees typically receive these shares following the vesting date. Only then do they have the right to dividends and voting.

With restricted stock units, the holders are committed to “receive the value of a certain number of shares” in the coming years without the need for an upfront payment.

An Example of RSUs

Suppose you get a job offer from a company and your employers believe your skillset will be of great value. They’ll, naturally, want you to stay with the company for a long time.

Along with your salary, they give you 1,000 RSUs. At that time, the company’s stock price is $10 per unit. With the 1,000 RSUs, you’d have $10,000 worth of stock units.

The company will put a vesting schedule on the RSUs, such as five years. You will get 200 stock units after each year until you receive all 1,000 RSUs at the end of five years.

Depending on how well the company performs, you may have more than $10,000 worth of stock units when the vesting period ends.

What Are the Benefits and Drawbacks of RSUs?

Take a look at some of the pros and cons of this type of investment.

Pros

  • RSUs give employees an incentive to stick with the company and perform well
  • RSUs have low administrative costs
  • Employees get a capital gain after eliminating the value or share withheld for income taxes

Cons

  • No dividends unless the company decides to give a bonus equivalent to the dividend amount
  • No voting rights
  • Since RSUs are not tangible property, employees cannot pay taxes on them before the vesting period elapses

Restricted Stock Units vs. Stock Options

Besides restricted stocks, companies can also give stock options to their employees. Here is how stock options and RSUs compare to each other:

  • Exercise Price : Restricted stock options do not have an exercise price, while the price of stock options is based on full market value.
  • Payment : The payment for RSUs is usually available in either stock or cash, while stock options are exclusively paid in stock.
  • Voting Rights : You get voting rights upon exercise in stock options. Meanwhile, you do not get voting rights in RSUs.
  • Company Type : RSUs are popular in companies that are in later stages of development or are more mature, whereas high-growth startups and early-stage companies give other stock options.

Part of the reason that companies choose to give RSUs is that they are a less risky option. The employees do not have to pay upfront to get the stock. Instead, the company can provide the employee with an equity incentive.

As an employee, you can benefit from stock options if the market value of the company’s stock goes above the grant price during the vesting period. Otherwise, you are practically paying more for the stocks than they would sell for.

On the other hand, RSUs are purely beneficial since you do not pay for them but still reap the reward after the vesting period.

Final Take

While both stock options and RSUs are suitable for your portfolio , restricted stock units are a less risky approach and do not require you to spend money in order to obtain them.

However, you should only consider them if you intend on spending your vesting term at the company offering you the RSUs. Otherwise, you are just sitting on an unfunded promise that breaks as soon as you leave your job.

Restricted Stock Unit FAQs

Here are some common questions employees have about RSUs.
  • What is the vesting period?
    • The vesting period is a predetermined time period for which you have to hold the shares to gain their ownership. For instance, if your employer grants you restricted stock units with a vesting period of five years, you can take ownership of the RSUs at the end of the vesting period.
  • What if you leave your employer before the vesting period ends?
    • If you leave your place of employment before the vesting period ends, you may lose your restricted stock units. However, you should check the RSU plan of your company to confirm this.

This article originally appeared on GOBankingRates.com : What Is a Restricted Stock Unit and How Does It Differ from Stock Options?

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