However, offering share options involves navigating a complex landscape of legal requirements including, crucially, compliance with the Company’s Articles of Association and Employment law. Share options grant employees the right, but not the obligation, to buy company shares at a fixed price after a specified period or upon meeting certain performance targets. For high growth companies, this means incentivising employees with a stake in the company’s future success without immediate cash outlays.
High growth companies commonly use one of two main structures for share options: Enterprise Management Incentives (EMI) or Unapproved Share Option Plans. Each structure has its own legal requirements and implications.
The EMI scheme is a highly attractive option for smaller businesses due to its flexibility and specific benefits designed for high-growth companies. However, to qualify for EMI, the company must meet several criteria:
EMI schemes are particularly tax advantageous as no income tax or national insurance is payable when EMI options are granted. When option shares are sold the employee will be liable for capital gains tax (CGT), currently at the entrepreneur’s relief rate of only 10%, rather than income tax.
There are a numerous legal requirements associated with EMI schemes which companies planning to offer EMI schemes should be aware of. The company must establish an EMI plan, which includes drafting and adopting a formal plan document that outlines the rules and terms of the options granted. Further, at the time of grant, the market value of the shares must be accurately assessed and documented. This valuation should be carried out independently to avoid disputes.
Options must be formally granted and documented, with detailed option agreements issued to each employee. These agreements should specify the number of shares, exercise price, vesting schedule, and any performance conditions.
Unapproved share options provide more flexibility than EMI schemes. These options can be granted to employees, directors, consultants, or any other individuals the company chooses, without the stringent criteria required for EMI. However, it does not provide any additional tax relief so employees should take specific tax advice and assume that any taxable benefit is subject to income tax.
In either case, extensive documentation is crucial to ensure legal compliance and to protect both the company and its employees. An option agreement is a binding contract between the company and the employee that sets out the terms of the share options. Each agreement should include the price at which the employee can purchase the shares, a timeline over which the employee earns the right to exercise their options, any specific performance targets or service requirements that must be achieved before the options can be exercised and the timeframe during which the employee can exercise their options after they have vested.
The decision to issue share options requires approval from the company’s board of directors. The board must review and approve the terms of the option plan and individual grants to ensure they align with company objectives, comply with legal requirements and remain compliant with the company’s Articles of Association. Depending on the provisions in the company’s Articles of Association, shareholder approval may also be required and the Articles may require to be amended to reflect that employees may be shareholders – i.e. there should be a mechanism to get the shares back if the employee leaves the company for a good or bad reason.
In order to avoid employment claims, the company must ensure that the share option scheme complies with employment law, particularly regarding the treatment of options as part of employee compensation. In order to ensure compliance with the law in this area companies should seek employment advice.
One of the key considerations for high growth companies offering share options is the impact on shareholder equity. Issuing new shares to employees will dilute the existing shareholders’ ownership stakes. Existing shareholders should be aware of how much equity is being allocated to the option pool and the potential effects on their ownership. High growth companies should carefully plan the size of the share option pool to manage dilution. Typically, companies allocate a certain percentage of their equity for options, which should be balanced against the needs of the company and the expectations of current shareholders. Further, regularly updating shareholders on how options are being granted and the impact on overall equity can help manage expectations and reduce potential conflicts.
Offering share options can be a useful strategy for high growth companies to attract and retain talent while conserving funds. However, it is necessary to ensure legal compliance when operating such schemes by establishing clear option agreements, securing necessary approvals, ensuring compliance with employment law and managing the impact on shareholder equity are crucial steps in implementing a successful share option scheme.
By understanding and addressing these legal considerations, high growth companies can effectively use share options to align employee interests with the future success of the company.
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