Good quality and motivated employees are of great importance to a company. To reward and motivate employees, an employer can implement a form of “employee participation”. With employee participation, employees are encouraged and incentivised by getting financially involved in the company. An advantage of using employee participation is that it encourages the employee to stay motivated and committed to the success of the company. In addition, it can ensure that you attract and retain employees. Five different forms of employee participation can be distinguished. In this article, we will take a closer look at each form.
A first option for employees to participate in a company is by issuing shares. By obtaining shares in the company, the employee receives a direct interest in the company. With that, the employee receives, in principle, all the rights associated with share ownership, such as the right to vote in the general meeting and the right to receive dividends. In the situation where the employer only wants to involve the employee financially in the company, the company can also decide to issue shares without voting rights. An advantage of letting employees participate in the company by issuing shares is that the employee becomes a co-owner of the company. The employee will feel more involved and will have a direct interest in its success. A possible disadvantage of issuing shares is that the equity interest of the already existing shareholders is diluted.
Issuing depositary receipts for shares
A second option for employees to participate in the company is by certifying shares. In practice, this will involve setting up a “Trust office foundation” (in Dutch: “Stichting Administratiekantoor” or “STAK”). The STAK then acquires shares in the company and subsequently issues depositary receipts of these shares to the employees. As a result, the employees do not become shareholders but certificate holders. The main difference between a share or a certificate in a share is that a certificate does not carry voting rights. The STAK retains the voting rights on the shares, the certificate holder gets the financial rights on the shares including the right to dividends and profit reserves. It is important, however, that the company’s articles of association allow for the certification of shares.
An advantage of issuing share certificates is that the employee does not gain control in the company, but is only entitled to dividends. This gives the employee financial motivation to commit to maximising the success of the company. A disadvantage of issuing certificates of shares is that there are administrative procedures involved and setting up an STAK will involve certain expenses.
It is also possible to give an employee a stock option. This grants the employee the right to buy shares at a certain time at a pre-determined price. The granting of a stock option is often subject to conditions, such as that the employee must remain in service of the company for a certain number of years. The advantage of granting stock options is that it encourages the employee to remain employed for a long time. This creates value. A disadvantage of the stock option is that stock options are heavily taxed and tax has to be paid in advance, while it is not yet certain that profits will be made.
Fourth, an employer may decide to incentivise its employees by sharing some of the profits among employees. Employee participation through profit sharing is a relatively simple way to financially incentivise employees. An advantage of profit sharing is that the company itself decides when, how much and in what way profits are distributed. For example, it can be stipulated that all employees are entitled to the same percentage of profit, that the percentage of profit depends on the performance of an individual employee or that the percentage of profit is made dependent on the employee’s position within the company. A disadvantage of employee participation through profit sharing is that the profit distribution is considered salary and therefore subject to maximum tax.
Stock Appreciation Rights (SARs)
Under a “Stock Appreciation Right” (also called a “SAR”), the employee does not receive a share or a certificate, but a claim to the value development linked to a certain percentage of shares in the company. At the time the SAR is granted to the employee, the value of the SAR is calculated according to a certain formula. When the SAR is exercised at a later time, the employee receives the predetermined percentage over the total value development over this period.
An advantage of a SAR is that the employee does not become a co-owner and therefore does not gain control. In addition, different agreements can be made on how the SAR will be implemented, so this option offers a lot of flexibility. There is no notary involved as the arrangements can be laid down in a rather simple agreement. A SAR is a flexible and low-threshold way to involve employees financially in the company.
In principle, a distinction can be made between five options for employee participation in the company. Which method of employee participation is most desirable will depend on the company, the desired involvement of the employees and the company’s strategy. If you have any questions about the different possibilities of employee participation, please contact one of our lawyers in the corporate law section.