Module 5: Exec Share Plans Flashcards
What is the FRC’s UK Corporate Governance Code?
From 1 January 2019: Rem policies should promote long-term sustainable success; Exec rem should be aligned with company values/ purpose and be clearly linked to company’s long term strategy; LSE Premium Listed companies have to comply with the UK Corp. Governance Code.
What are the IA’s principles on remuneration?
Long term incentives need to reward the creation of shareholder value over a period appropriate to the strategic objections of the company; Equity based long-term incentives are the most effective way to align the interests of participants and shareholders.
Executive Plans: Who is eligible?
Usually all group employees are eligible but the actual participation is discretionary and usually determined by the RemCo (sometimes also needs board approval).
- Usually excludes: Non-employees, JV employees, self-employed contractors
- Also sometimes does not include Exec Directors (if company wants to avoid needing shareholder approval)
Exec Plans: Why shouldn’t non-employees be granted awards?
- The purpose of share plans is often to align employees with shareholders so view is often that non-employees wouldn’t have the same incentive.
- Many of the share plan exemptions are based on employees only so non-employee participants could cause a problem
- Issues of financial assistance, Trust law and tax issues, Financial promotion rules, Market Abuse, Insider Dealing
Exec Plans: Do companies have “absolute discretion” over their share plans?
No, there is case law and implied law that is clear that the discretion must not be capricious or discriminatory (age, race, sex, religion, etc). CASE: Watson v Watchfinder: “Absolute Discretion” is not absolute and you need to take note of relevant factors.
Exec Plans: What was the takeaway of Braganza v BP?
Remco cannot make decisions on a whim or irrationally; need adequate evidence
Exec Plans: What was the takeaway of Simpkin v Berkeley Group?
Need accurate record of decision making and reasoning for these decisions; This case involved inadequate info and poor meeting minutes.
Exec Plans: When does an employee have the contractual right to an award?
- They are discretionary awards and it is important that the employee only has the right to the award at grant;
- Important when drafting an offer letter that the right is not given then (phrasing usually make recommendation to Remco for future award);
- You need to make sure that discretion is used EVERY year and is recorded so that someone cannot claim ‘custom and practice’ if they do not get an award one year
Exec Plans: Can a participant sell or transfer their awards?
Rules normally say no, unless it is to a personal representative (PR) on death; there are many reasons for this: loss of incentive effect; shareholders wouldn’t view favorably; legal difficulties eg non-employees; global securities laws; and difficult to administer
Exec Plans: What are the different ways of providing shares?
- New Issue
- Trust/ Market Purchase
- Treasury
What are the key characteristics of newly issued shares?
- Simple (but need to pay the nominal value if they are free shares)
- Opportunity cost as they would have likely made more if they were sold at market (but usually no actual cost to company)
- Subject to institutional shareholder limits (10% in 10 years, 5% in 10 years for discretionary plans)
What are the key characteristics of trust/ market purchase shares?
- With a trust, the company is the settlor and the discretionary trust is created to benefit the group employees
- It is set up and funded by the company (either by gift or by loan)
- Market purchase shares are the ONLY shares that do not count towards dilution limits
- Trust can help pay the nominal value for free shares
You can avoid the need to get shareholder approval if you just use market purchase shares - Trust can help with the hedging and holding of shares
What are the key characteristics of treasury shares?
- Regulated by the Company Act and also UK listing rules for some
- No need to pay nominal value because the shares already exist
- They however DO count towards dilution limits
- Shares are held in treasury and then transferred to the employee on vesting
- No requirement to pay nominal value
What is net settlement?
Where you only pay out the shares (or cash) actually owed to the participant, less any tax or exercise price in the case for options; can pay out shares for the actual award and cash for the tax amount; it looks the same for the participant but means the company uses less shares
When does a company need to get shareholder approval?
All premium listed companies which want to establish a new plan, except when the plan:
- does not allow for the issue of new shares or the transfer of treasury shares, and
- is not a long term incentive plan in which directors can participate
What is a LTIP?
Defined in listing rules; there is a broad definition but there are three main characteristics:
- has service/performance conditions over more than 1 financial year
- will incur cost/liability
- is not a deferred bonus plan (often don’t have performance conditions)
Exec Plans: What are performance conditions and who requires them?
- A target that must be satisfied before an award vests; designed to incentivise employees (usually execs) to achieve a particular goal over the perf period
- Required by the Corporate Governance Code and IA guidelines
- Reflect shareholders wishes
- Standard is 3 year performance period (now usually have an additional 2 year holding period)
What types of performance conditions are there?
Four Types:
- Absolute v Comparative
- Financial v Non-Financial
Going to be one of each of the above…
Absolute (ex EPS) looks at the company itself and whether it’s improving whereas Comparative (ex Relative TSR) looks at the company against its competitors
Financial factors include the companies share price, profitability, etc whereas non-financial conditions would look at customer satisfaction, health & safety, etc
How do performance conditions work in practice?
They used to be “win or lose” but are now often done with a sliding scale or with rankings; might rank against a comparative group or on a scale with a min threshold
- This can cause problems when calculation is needed early (good leaver, takeover, etc) so it is important to consider and then record how you plan to measure things if something happens at an odd time.
What are Financial Non-Market based performance conditions?
- Not based on the stock market but instead usually based on the company’s profit & loss account
- Formulas to determine
- Include EPS, EBITDA, ROCE, Earnings, Revenue
What are Financial Market based performance conditions?
- The most common is TSR = share price change + dividends (there are diff ways to calculate the start and end prices) - can either be the first/last day or an average
- Share price is not common as shareholders don’t like that someone could benefit just by the market going up
What performance conditions are usually used for an Annual Bonus Plan?
- Conditions are usually personal, internal and financial measures (not usually market conditions)
- Often based on EPS and personal targets
- Usually quite detailed and often not disclosed because of market-sensitive information
What performance conditions are usually used for a LTIP?
Very common: TSR
Sometimes: EPS
Or: both of the above (can have multiple conditions)
There is usually a three year performance period although the IA would prefer 5 years
