Structuring Employee Option Plans
Structuring and implementing an employee option plan can be complicated, so here are some basic points you should review as part of that process. They may not all be relevant, but each factor is worth
Structuring and implementing an employee option plan can be complicated, so here are some basic points you should review as part of that process. They may not all be relevant, but each factor is worth considering.
What percentage of equity are you willing to set aside to use in the option plan? The effects of dilution (when options are eventually exercised) on existing founders and other shareholders should be carefully reviewed before deciding on the size of your option pool.
What will be the exercise price of the options? Will they be equal to the market value of the underlying shares, or set at a discount or premium to that market value? Zero priced options (or very close to zero) maximise gains available to employees, but giving "free" shares to employees may not be an appropriate incentive, or acceptable to external investors.
Will options be over unissued shares (with an obligation on the company to issue the shares once the options are validly exercised) or will options be granted over already issued shares (perhaps held by an employee benefit trust)? The latter can raise some technical tax issues.
Will options vest over time (say one third every year), or will they only be exercisable on a sale or flotation of the company, or a combination of both?
Will individual performance targets attach to the vesting of options?
Will annual grants to employees be made or will their maximum entitlement be made at the outset (perhaps to lock in a low value and therefore maximise the gains on exercise)?
How will the level of options grants be calculated? By reference to base salary, or some other metric?
Will options be granted immediately an employee joins, or on the next "grant date" (which may be once or twice a year, to reduce the administration of the plan) following the end of the probationary period?
How will leavers be treated? Will their options lapse completely, or will they be entitled to keep options that have vested up to the date of leaving? Will you make a distinction between "good" and "bad" leavers?
Is shareholders' approval or investor consent needed before options can be granted, or is this a matter entirely within the authority of the directors?
How do you wish to deal with shares held by employees if they leave having exercised some or all of their options? Do the provisions of the articles of association of the company, or any shareholders' agreement need amending to include suitable leaver provisions? At what price will shares be purchased from leavers, and how is that purchase to be funded?
This is by no means a comprehensive list of issues you should consider before implementing an option plan, but it provides a good starting point for discussion, whether that's between shareholders, the board of directors or remuneration committee or your advisers.
If you need help or advice in this area, please do contact me
What percentage of equity are you willing to set aside to use in the option plan? The effects of dilution (when options are eventually exercised) on existing founders and other shareholders should be carefully reviewed before deciding on the size of your option pool.
What will be the exercise price of the options? Will they be equal to the market value of the underlying shares, or set at a discount or premium to that market value? Zero priced options (or very close to zero) maximise gains available to employees, but giving "free" shares to employees may not be an appropriate incentive, or acceptable to external investors.
Will options be over unissued shares (with an obligation on the company to issue the shares once the options are validly exercised) or will options be granted over already issued shares (perhaps held by an employee benefit trust)? The latter can raise some technical tax issues.
Will options vest over time (say one third every year), or will they only be exercisable on a sale or flotation of the company, or a combination of both?
Will individual performance targets attach to the vesting of options?
Will annual grants to employees be made or will their maximum entitlement be made at the outset (perhaps to lock in a low value and therefore maximise the gains on exercise)?
How will the level of options grants be calculated? By reference to base salary, or some other metric?
Will options be granted immediately an employee joins, or on the next "grant date" (which may be once or twice a year, to reduce the administration of the plan) following the end of the probationary period?
How will leavers be treated? Will their options lapse completely, or will they be entitled to keep options that have vested up to the date of leaving? Will you make a distinction between "good" and "bad" leavers?
Is shareholders' approval or investor consent needed before options can be granted, or is this a matter entirely within the authority of the directors?
How do you wish to deal with shares held by employees if they leave having exercised some or all of their options? Do the provisions of the articles of association of the company, or any shareholders' agreement need amending to include suitable leaver provisions? At what price will shares be purchased from leavers, and how is that purchase to be funded?
This is by no means a comprehensive list of issues you should consider before implementing an option plan, but it provides a good starting point for discussion, whether that's between shareholders, the board of directors or remuneration committee or your advisers.
If you need help or advice in this area, please do contact me