At the last two companies we’ve worked for, my husband and I have had the opportunity to participate in employee stock purchase plans. For those who aren’t familiar with the concept, in essence, the company allows employees to set aside some portion of their compensation toward the purchase of company stock at a discounted price.
Here’s a simplified description of how these plans have worked in our experience: you elect to set aside, say, up to 10% of your after-tax salary, and every six months, you get to use that money to purchase the company’s stock. At the beginning and end of the six-month period, the closing price of the stock is recorded. (Some companies, like Microsoft, have changed their policies and record the stock price only at either the beginning or ending date, but not both.)
The company takes the lower of the two prices and discounts it by an additional 15%, and that constitutes your strike (buy) price. You then have the option of immediately turning around and selling the stock (thereby usually, but not necessarily, guaranteeing at least a 15% return) or keeping the stock and selling it later at your own volition.
Personally, we’ve always participated in employee stock purchase plans by contributing the maximum allowed and always electing the option to sell immediately. I can’t say that that’s the best option for everyone out there, but this has been our reasoning:
- We’re already maxing out our 401K and other pre-tax benefits, so since we can afford it, we contribute the maximum allowed toward the stock purchase plan
- The plan is essentially “free money”, nearly always allowing at least a 15% return*, nothing to sneeze at. (I’ve noticed that the employees who don’t take advantage of such stock purchase plans tend also not to participate in company-matching 401(k) plans, thereby missing out on two good opportunities.)
- Using the same logic that says you shouldn’t have too much of your own company’s stock in your 401K, we always choose to immediately sell our shares, especially since part of our compensation already comes through (an unrelated) employee stock option plan
Of course, if you work for a company and sincerely have reason to believe that the stock will continue to rise, you might opt to buy and hold the shares instead. Being at the right companies at the right time, some of our friends have managed to do well using this strategy. But it occurred to me recently that a different friend of ours who thought exactly that and who works at Intel must not be benefiting from his buy-and-holds.
Maybe the best way to describe our methodology is to call it a conservative one that attempts to avoid unnecessary losses, opting to capture a “given” 15% upside in lieu of risking that percentage to capture additional gains. It seems to me that you could get similar results to a buy-and-hold, with slightly less risk, by capturing the 15+% from the stock purchase plan with an immediate sell and separately buying additional company stock during the same period, if you were really that bullish about its prospects.
(*) One situation in which it’d be possible to gain less than 15%, or even lose money, would be if the stock price drops lower than the grant price during the (usually short) amount of time it takes to sell the stock on the market. This is an unlikely, but certainly not impossible, occurrence.