Giving employees equity: what entrepreneurs must consider

Until robots replace workers, entrepreneurs will need to think about how to keep their employees happy. But there’s no one-size-fits-all solution. While some are best inspired by cold, hard cash, others may react better to beanbags and PlayStations.

Most entrepreneurs use a variety of incentives. The first step is to work out what’s valuable to the owners and employees. Without doing this, entrepreneurs may well be trying to solve a problem that doesn’t exist or offer an incentive for which there is no demand.

Coming out of the financial crisis, we saw growing interest in employee incentives and equity. Large firms wanted to ensure that the incentives of the workforce were better aligned with the long-term success of the company. Alongside the rise of entrepreneurship in the UK, we have seen a lot more interest in employee ownership, particularly among growing companies.

There has also been a drive to improve the legislation around employee incentives and equity. It’s always a balance for the Treasury – after all, tax benefits may also mean a loss of revenue. Employee Shareholder Status (ESS) is an example of when things haven’t worked out. The understandably popular arrangement had to be scrapped, as the ability for tax free gains was used in unintended ways.

However, successive governments have been open to consultation and have tried to support and encourage employee ownership, and we have seen some helpful legislative changes to facilitate demand. There was a drive around 2010 from the industry to reform and provide more opportunity for equity based incentives – sometimes in subtle ways, but ways that have been helpful to allowing entrepreneurs to give equity in a more tax-effective way.

These schemes fall into two broad categories: those that deliver shares and equity immediately, and those where employees receive them in the future under an “option” arrangement. The former helps to provide more immediate alignment with management while the latter is more forward looking – it’s a promise that if certain things happen, employees will receive equity. Under these circumstances, it’s important for both sides to think about exactly when the value can be realised. It shouldn’t just be a dangling carrot that’s always out of reach; and it should be tied to the success of the company.

Read the full article here and view a PDF of this month’s The Leap 100 supplement here.