What it means
A SAR is granted with three key details: a base price (normally the share price on the grant date), a number of rights, and a vesting schedule saying when the holder is allowed to cash them in. Once vested, the employee exercises the right and the company works out how much the share price has grown since the grant date.
That growth, multiplied by the number of rights, is the payout. SARs matter because they give staff a stake in the share price without asking them to put money on the table first.
An ordinary share option holder has to find the cash to buy the shares before selling them, which is a genuine barrier for junior or mid-level employees. A SAR removes that step entirely, so the reward is pure upside with no purchase to fund.
Finance teams like SARs for a second reason: when they are settled in cash, no new shares are issued and existing shareholders are not diluted. Cash settlement does mean the company needs real money available when people exercise, which can be uncomfortable if the share price has run up sharply in a single year.
Share-settled SARs solve that cash problem but reintroduce a modest amount of dilution. The accounting treatment catches people out, so it is worth understanding.
Cash-settled SARs are treated as a liability that is remeasured at fair value at every reporting date, so the charge running through profit and loss moves up and down with the share price. Share-settled SARs are treated more like options, with the cost fixed at grant-date fair value and spread across the vesting period.
One caution on the abbreviation itself: the same three letters are used for a suspicious activity report filed by a bank, and as the currency code for the Saudi riyal. Context almost always makes the meaning obvious, but it is worth confirming which sense a document intends before you respond to it.
In practice
Real-world examples.
Example
A listed software firm grants its regional sales director 15,000 cash-settled SARs at a base price of $42 per share. Three years later the shares trade at $61 and the director exercises, receiving $285,000 before tax. The company records the cost as a payroll expense and pays it out of operating cash.
Example
A family-owned engineering business wants to reward its plant manager without adding a new shareholder to the register. It grants share-price-linked SARs settled entirely in cash, so the family retains 100% ownership while the manager still shares in growth in the business valuation.
Example
A retail chain grants SARs at $25 just before a difficult trading year. The share price sits at $21 when the rights vest, so every SAR is worth nothing and no payout is made. The scheme costs the company nothing in cash, though an accounting charge was already recognised during the vesting period.
Think of it
“SAR is the abbreviation for Suspicious Activity Report-reporting suspicious transactions.
Formula
Calculation
Payout = (Share price at exercise - Grant price) x Number of SARs
A mid-sized manufacturer grants an operations director 20,000 SARs with a grant price of $18.00 per share, vesting evenly over four years. Five years later the shares trade at $30.00 and the director exercises all 20,000 rights. The appreciation per right is $30.00 - $18.00 = $12.00. The total payout is therefore 20,000 x $12.00 = $240,000, paid in cash. Had the award been settled in shares instead, the company would have issued $240,000 / $30.00 = 8,000 shares, and the director would hold stock rather than receive a bank transfer.Case study
Seen in the real world.
The following is an illustrative, entirely fictional scenario. Northvale Instruments, an invented maker of laboratory equipment, wanted to retain twelve senior engineers after a failed acquisition attempt left morale low. Issuing more share options felt wrong, because several engineers had told the chief financial officer they could not afford the exercise cost on top of a mortgage.
Northvale granted each engineer 8,000 cash-settled SARs at the then-current price of $22.50, vesting one third a year over three years. The board liked that nothing left the bank account unless the share price actually improved, and the register stayed unchanged. The finance team modelled a range of exit prices so the audit committee understood the potential liability before approving the scheme.
By year three the price had reached $34.50, giving each engineer an appreciation of $12.00 a right and a payout of $96,000. All twelve stayed through the vesting period. The illustrative lesson is that Northvale traded a variable, price-linked cash cost for retention it could not have bought with a fixed bonus of the same expected value.
Watch out
Common mistakes.
- Treating a SAR as if it were an actual share. Holders own no equity, receive no dividends and get no vote; they hold a contractual claim on a price increase and nothing more.
- Forgetting that cash-settled SARs create a moving liability. Because the obligation is remeasured every reporting period, a strong share price can produce a large and unbudgeted expense.
- Assuming the payout is tax-free or taxed as a capital gain. In most systems the gain on exercise is taxed as employment income and is subject to payroll withholding.
Questions
People also ask.
Do SARs dilute existing shareholders?
Cash-settled SARs do not, because no shares are issued; share-settled SARs cause modest dilution equal to the shares handed over at exercise.
What happens to a SAR if an employee leaves?
Vested rights usually remain exercisable for a short window set out in the plan, while unvested rights are normally forfeited on the leaving date.
Can a private company grant SARs?
Yes, and many do, using an agreed valuation formula or an independent annual valuation in place of a traded market price.
From the founder's library
Take it further with the book.
Build your financial confidence beyond this definition. Shihan's full-length guide, Accounting Fundamentals, takes the same plain-English approach and turns it into a complete, practical playbook for non-finance managers, business owners and students - with chapter-end quiz answers and presentation slides included.
25% off with code MMHQ25, applied at checkout. Priced in USD - checkout may show the equivalent in your local currency.
View the book and save 25%Related