Henry Catchpole explains how you can help clients manage share options.
Introducing a share option scheme for a new start-up or existing business can bring a range of benefits for both company and employee. Advising clients on what’s available – or helping to set up and monitor a scheme – can also deliver added value.
What do share options entail?
Share options granted by a company give the holder the right to buy shares from that company at some time in the future. That might be on a particular date, before or after a named date, or within a pre-defined exercise ‘window’. In the meantime, the holder of the options has no voting rights or entitlement to dividends.
The options give the holder the right to decide whether or not to take up the options, meaning they are not forced to buy the shares if they do not want to. The price at which the shares are to be purchased – often called the ‘exercise price’ – is usually set when the options are granted.
Whether it makes financial sense to exercise the option will in large part depend on the exercise price compared to the current market value of the shares when the option can be exercised. However, this is more complicated for small private companies, for which the market value might be difficult to ascertain – with no guarantee the shares can easily be sold.
What are the benefits?
For a business, offering share options can help to attract, recruit and retain good people, including those with the skillsets to take an enterprise forward. It provides a means of offering people a potential financial reward, often in a tax-efficient way.
This can be particularly useful to early stage businesses that aren’t yet generating sufficient revenue to pay a more competitive salary. For more established companies, it might just be an additional incentive to attract the best people and keep them motivated.
Such benefits can engender a real sense of ownership and loyalty among staff, giving them a feeling that they share in the company’s success. In some cases, the grant or exercise of options can be tied to meeting particular performance targets, further helping to align the interests of the individual employee with the business.
How do you set up a share option scheme?
Before granting options, the company normally needs to get approval from its shareholders. That’s because any shares issued when the options are exercised will dilute the existing shareholders’ interests in the company.
Shareholders will typically approve the terms of the options to be granted, often set out in an agreement between the company and the option holder. The main items to record in an agreement include the number of options, the exercise price, the period when exercisable and any conditions that must be met, alongside whether the options are transferable or lost if the employee leaves or the company is taken over.
What are the different types of scheme?
There several types of scheme available, but the main schemes offering tax incentives for employees are:
- Enterprise Management Incentives (EMIs): Available to companies not carrying out excluded activities with gross assets of less than £30 million and fewer than 250 employees.
- Company Share Option Plan (CSOP): On offer to companies of any size unless they are carrying out certain excluded activities.
- Save As You Earn (SAYE): Most often used by listed companies but can also be offered by other companies not under the control of another company.
In addition, companies may set up unapproved share option schemes for employees but these will not provide tax breaks for them. Companies can also grant share options to investors who are not employees of the company.
How do you choose?
There are a number of factors to consider when advising a company on which type of scheme is most appropriate, for example:
- The number and value of shares that can be granted to each individual and in total under the scheme.
- Restrictions on the option exercise price that can be used.
- The rate of tax relief available to the individual and company.
- Tax consequences for the company/individual upon grant/exercise of options.
- Allowable timing and duration of vesting period.
- Who is eligible to join such a scheme (for example, can it be restricted to certain staff or must it be available more widely).
- Whether performance and other conditions can be attached to options.
- Other flexibility available in scheme design.
How can you help clients to run the scheme?
Clients will often benefit from assistance in setting up option schemes, including the task of liaison with HMRC where appropriate. Depending on the scheme, there can also be ongoing reporting requirements on an annual basis or when particular events occur.
Business owners will also benefit where their professional advisers help them to keep on top of deadlines such as when different options potentially vest and producing compliant paperwork at that point.
The details of basic schemes can be recorded in spreadsheets, documenting the names of employees, the dates options are issued and exercisable, the number of shares and so on. There are, however, advantages to recording details in a dedicated system – such as the feature included in Inform Direct’s company secretarial package. This can make it easier to keep track of various grants under different schemes and important dates, as well as to create and maintain a comprehensive capitalisation (‘cap’) table, which details the full company share ownership position if all the share options currently granted were to be exercised.
• Henry Catchpole, CEO, Inform Direct. Call 01473 226482 or go to www.informdirect.co.uk.