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4 Points to Consider When Setting Up An Employee Share Ownership Plan (ESOP)

An Employee Share Ownership Plan (ESOP) allows SMEs and Start-ups to award shares or share options to key employees and members of their team. This is a creative tool used by many companies who are struggling to keep up with the counterpart corporate salaries being offered and struggling to attract and retain top talent.

 

This blog post looks at some of the most commonly found components to consider when setting up an ESOP and making these awards to your team.

 

 

  1. Ownership Percentage and Shares

 

What percentage of the shares in the company of your company are you comfortable in awarding to your employees? Further, will the employees be receiving ordinary shares or a different class of shares?

 

It is important that you understand how the award will effect the control aspects of the company. Will these employees now have the right to appoint board members? What effect will their vote as shareholders have on the day to day control of the business?

 

 

  1. Eligibility

 

Who will be eligible to be awarded shares or options? Full time-employees only? How about part-time employees and/or independent contractors? You may want to incentivise and attract specific and strategic advisors – will these individuals fall within the scope of the scheme.

 

To avoid confusion, disputes and claims of unfair discrimination, a well-defined eligibility assessment should be conducted and incorporated in your scheme rules.

 

 

  1. Exercise Price

 

Your staff may not have the funds to pay fair market value for the shares and or options and you may want to award the shares at a reduced and or nominal rate. The purchase price they eventually end up paying will have a significant impact on the ultimate tax treatment of each employee and the business itself. Working with specialist legal professionals and tax advisors who can explain and advise on what the consequences of awarding shares at below market related prices will have, will help you avoid future tax surprises.

 

 

  1. Vesting

 

Generally, ESOP shares and/or options only become exercisable after a certain period has passed (based on the length of your service to the company).

 

Vesting refers to the time period after which you can exercise the full benefit, i.e. sell your shares. A typical vesting schedule is 4 years with shares vesting 25% each annual year.

 

For example, shares vest at 25% for each year that you are employed, you will be able to sell 100% of your shares after four years:

 

  • 25% after one year;
  • 50% after two years;
  • 75% after three years; and
  • 100% after four years.

 

A participant will then be able to exercise his or her options once all options have vested. If they leave prior to any of the vesting dates, the options will lapse (or the shares have to be sold back for same price it was purchased)

 

Closing

 

We’ve seen an increase in companies, particularly start-ups and SMEs, opting to implement ESOP schemes with their key employees in order to retain top talent.

 

If you are interested in finding out more about Employee Share Ownership Plans and/or how to offer your key employee’s options or shares in your company, get in touch.

 

 

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