Understanding P&G LTIP or Long-Term Incentive Plan Awards
Updated: Oct 10
Procter & Gamble employees work very hard for their sectors and business units, and it's a proud day when you are offered access to the Company’s LTIP awards: an annual mix of Restricted Stock Units (RSUs) and Non-qualified stock options (NSOs). These are often the levers that turn a great career into an exceptional retirement plan, but integrating them into your financial plan across a decade or more of other income can be a tangled web. Here is a bit of the basic rubric I have used with dozens of P&G employees and retirees over my career. Remember that your situation is unique to you and deserves its own analysis and conversation.
First, the basics. RSUs are shares of company stock that go through a vesting period of three years. So a grant of 100 RSUs on October 1, 2023 will vest on October 1, 2026, which means the shares now belong to you and are taxable income at the share price at vesting.
A grant of stock options also vests at three years, but that only opens the door for you to exercise the option. You have ten years from the original grant date (but after the vesting date) to do so. When you do, your taxable income is the positive difference between the price at exercise and the original grant price, e.g. if you exercise at $150 and the grant price was $100, your taxable income is $50.
So you have two major decisions to make: at the election time of your annual LTIP award, how much do you want to take as RSUs and how much as stock options? Then, once any stock options vest three years later, when should you exercise them before the ten-year expiration deadline?
Both questions are complicated and highly dependent on the individual, which is why financial advisors exist. RSUs hold a near-certain value, because it is very unlikely the price of PG stock will go to zero. When the three years are up, you will get something, and that bird in the hand is very valuable, particularly if you know you will have cash flow needs in the short term (like college expenses, which often occur right around the peak of your career).
Stock options, on the other hand, could expire worthless. It’s not likely, but the same volatility that offers the potential for great gain opens up the possibility you walk away with little to nothing. The price must exceed the grant price for you to exercise them, and P&G’s stock has gone through long down or flat periods. The bottom line? Diversifying your grant election is a great way to reduce regret later, and the exact mix should come down to your cash flow needs and risk tolerance.
The second big decision is when to exercise vested stock options, and this is really a series of decisions over many years. There are three boxes of variables to consider here:
What are your cash needs?
When I work with a P&G client with stock options, I want to understand all major cash needs over the life of each grant. Will you be putting kids through college? Do you have major purchases to fund before expiration? Have you retired or will you retire during this time and need money for living expenses? Separating from the Company may alter your awards schedule, and this should be understood before accepting any retirement package. These are the first questions to answer so a complete income plan may be built, of which stock options can be a powerful tool. You also need to know the risk to these spending goals should the price go down as you approach expiration.
What is a good value for the stock options?
The math value of an NSO can, briefly, be broken into two parts. First, if the current price is above the grant price it is “in the money” and has an intrinsic value you could capture now.
But the reason many upper level P&Gers achieve great wealth is due to the extrinsic value, or the potential future value of the option. This is mostly a combination of the time left before expiration, the volatility of the stock itself, and current interest rates.
Essentially, if you have a lot of a time left and a stock has a high volatility, your extrinsic value goes up. This makes sense because high volatility implies a large number of potential outcomes (prices), many of which could be high. If you have more time, you have a greater chance of realizing those high prices. It also means that as you approach the expiration date you are increasing your risk for less potential growth, because the volatility could go the wrong way without enough time for the stock to recover.
What is the tax impact of exercising stock options?
As with most financial planning, it’s the tax plan that is often most important yet most overlooked. I’ve come to believe that tax planning is probably the most important thing a financial advisor can be doing for their clients, and sadly it’s still a rarity.
Similar to when I try to match exercised options to a client’s cash needs over time, I also try to match these events to your marginal tax bracket and effective tax rate. Some years you may have a huge STAR award or other chunk of income that drives you into a higher bracket, phases out credits or deductions, or triggers additional taxes such as NII. Can we defer the exercise of options to the next year, when we expect your tax plan to have more room? This is year-by-year planning done under the umbrella of a larger tax plan that stretches 5-10 years or more, and you need to getting this level of service if you pay an advisor. I am not a tax professional, but I build sophisticated tax planning for every client and then coordinate with your CPA or tax professional to see it executed properly.
When you put those three mystery boxes together you might notice there are a lot of personal variables to consider. The math side of stock options is very important, but it is still as much art as it is science. Often times the right answer on what to elect and how to take the stock comes down to what allows you to achieve your goals and sleep like a baby at night. That’s why this is all general and should not be construed as individual advice – your answer will be unique to you.
There are very few moments in my career where I told someone, “This is the right thing to do and you need to just do it.” I believe it is the duty of a fiduciary financial advisor to educate you on all your options as well as show you the likely outcomes for each one, but ultimately these are your decisions. I am not here to dictate. I am here to earn your trust and empower you to make the best decisions for you and your family.
