Employee share options - an introductory guide
The success and growth of a business is generally linked to its people. Employee remuneration packages should therefore be structured in such a way as to reward, motivate and retain employees – whilst taking into consideration shareholders’ interests. PwC’s latest research “Making executive pay work: The psychology of incentives” looks at the views of 1,106 senior executives in 43 countries, within a wide range of senior roles, companies and industries.
The results reveal a number of common behavioural traits, which show clearly that executives don’t necessarily think in the way that many incentive schemes assume. The key design recommendations emerging from the study are:
- Performance pay has a cost – be sure you’re getting value;
- Keep it short, sweet and simple;
- One size does not fit all – know your people and pay them accordingly;
- Money is only part of the deal – and recognition matters as much as financial incentives;
- Be realistic about how variable pay can be from year to year.
Long-term incentive-based pay for employees has gained prominence over past two decades, largely driven by desire to align interests of management and shareholders on the on the assumption that executives will perform better if they are heavily incentivised. Share incentive schemes are one of such long-term incentive plans that are being used by companies to attract and retain talent, and to ensure sustained performance over the long-term.
Motives and objectives for launching share incentive schemes include:
- Aligning the interests of the company/group’s key employees with those of the shareholders;
- Introducing (at least in part) a performance orientated pay;
- Structuring employee remuneration packages, including long-term incentive plans;
- Remunerating employees in a tax efficient way.
A share incentive scheme may take various forms. These include:
- Share Options
- Share Award
- Phantom Share Plan
Share Options
An employee is granted the right (but not the obligation) to acquire a specified number of shares in the company at a future specified date/ period and at a specified price:
a. Less than market value option: the option price represents a nominal consideration or a consideration which is less than the market value of the shares as at the date of grant
b. Market value option: the option price is set by reference to the market value of the shares as at grant date. The actual cost to the company’s shareholders will be the difference between the option price and the market value of the shares at the time of exercise. However employees may not have cash to exercise the option.
Share Award
The right for an employee to be issued shares for no consideration on vesting day. A variant of this is to give the employee immediate ownership of the award shares, but the shares would then be forfeitable if employment and performance conditions are not met.
Phantom Share Plan
This is a cash bonus plan under which the amount of the bonus is determined by reference to the increase in value of the ‘award shares’. No shares are actually issued or transferred to the employee. There is no dilution of the shareholders’ issued share capital. The amount of bonus is linked to the increase in price, aligning shareholders’ and employees’ interest. Employees may however feel that they have no real stake in the company.
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