Is Your Employee Stock Purchase Plan Worth It?

Are you trying to see if your employee stock purchase plan is worth it?

Many publicly traded companies offer their employees stock purchase plans, better known as ESPPs. ESPPs enable you to buy stock in the company you work for at a discount.

At first glance, these plans sound like promising investments. Let’s take a closer look and see if ESPPs are the right fit for you.

A Typical ESPP

The typical employee stock purchase plan consists of a discount to the current market price and a vesting period. These discounts can be up to 15% on the market price on the day, and vesting differs from 1-3 years. Some attractive offers might be even greater than 15% and can vest immediately, but these are rare.

Why Do Company’s Have Stock Purchase Plans?

There is one big reason why employers offer stock purchase plans, and it isn’t based on the employee’s best interest. In fact, most of these plans are targeted to increase capital and save the company money in the long run.

So, you might be wondering, how do employers’ benefit from employee stock purchase plans? After all, they are providing stock in their company at a significant discount to market price.

The Answer: Free Capital

The funds that are provided go right back into the business. Your employer uses these to invest in new assets, pay for additional marketing or go right back to paying your salary.

After your shares are bought through an ESPP and vest 3-5 years after your purchase, they dilute the value of other existing shares. The other existing shareholders are the ones paying for your discounted shares, and the company doesn’t pay out a dime.

Below is an example of how this works:

The above example demonstrates that your fellow shareholders are paying for your stocks, not your employer. This is why there is a cap to the number of shares you can purchase in your plan, so the dilution isn’t this extreme.

A pretty good deal for your employer. They get additional capital from their employees to fund growth where the only cost is the dilution of value for existing shareholders.

Benefits to You

Before we get into the negative aspects of an ESPP, let’s talk about a few ways you can benefit by taking part in your company’s stock purchase plan. After all, there are is a reason why so many people take part in ESPPs.

Discounted Share Price

As we mentioned earlier, the discount can be up to 15% on shares. 15% may not seem like a lot, but this is huge when it comes to investing. If you work for a company that happens to be doing well, this can easily add up to be an annual 25 – 35% return.

Contributing a portion of your salary to an asset that is returning 25% is close to what Warren Buffet averages a year! Not bad for someone that doesn’t dedicate their life’s work to investing.

Savings & Budgeting Opportunity

Are you one of those people who can’t seem to maintain a savings account? Bills and life events can eat at that account until there’s nothing left. Having savings and assets that are tucked away somewhere where you can’t touch them might be a good option.

The funds you use to allocate to your ESPP program are taken directly from your paycheck and held in an account separate from your main retirement accounts allowing for you to “set it and forget it”. This allows those that lack the ability to maintain a budget or savings account to build wealth and invest their hard-earned dollars.

No surprise here that there are a few benefits from participating in ESPPs, but you probably don’t hear much about the drawbacks of participating in these plans.

Drawbacks

We went through earlier what employers get out of these stock purchase plans. Keep in mind that your employer will encourage you to join these programs because of what was mentioned earlier. So let’s take a look at the other side of the coin and why you should think twice before shelling out your hard-earned cash into your employer’s stock.

Opportunity Cost

There is an opportunity cost with investing in your own company’s stock instead of allocating that capital elsewhere. Sure, you can make up to 15% on the purchase of the stock, but what good does that do if your company is not keeping up with the broader market, or even goes down in value over time.

A 15% one-time discount can’t compete with the power of continuous compound interest year over year. If the stock you can purchase through your ESPP isn’t something you wouldn’t buy on the open market, you may want to think twice before participating.

Vesting

Often there is a vesting period that takes place for the shares to fully become yours. This can present a lot of challenges if you need to access the funds immediately. During the vesting period, you won’t be able to access the assets. You have to be prepared to go without cashing these stocks in for years before allocating funds.

If you plan on jumping ship you likely won’t reach the full vesting period of the ESPP. You’ll leave the company with no shares to show for your contributions. Your money could have been hard at work in the S&P 500 instead, so make sure to know what your plan is ahead of allocating funds to your ESPP.

Lack of Diversification

As the old saying goes, never put all your eggs in one basket. This goes for those who plan on having their employer’s stock purchase plan be their only vehicle for investing.

If you don’t have a large net worth or assets outside of what you would like to put in your ESPP, you become vulnerable to your company’s stock fluctuation. One company scandal or piece of bad press could flatten your entire savings.

Diversify your investments outside of your company’s stock purchase plan. This will keep your net worth more secure and also help you sleep at night.

So Is Your Employee Stock Purchase Plan Worth It?

The answer here is most likely not. Unless you have the benefit of working for a company that is doing extremely well and has a promising future. You are likely to lose money in the long run due to the power of continuous compound interest.

Everyone’s situation is different, and this is not a broad recommendation to not participate in your company’s ESPP. The story here is to let you know why employers have stock purchase plans, and how they can benefit or hurt your finances.

So is your employee stock purchase plan worth it? Use some of these benefits and drawbacks and conduct your own analysis and you’ll find that answer out for yourself.