2019 saw a wave of UK publicly listed companies being acquired by private equity houses and taken into private ownership. Examples include Sophos, Merlin Entertainments, Inmarsat and Ei Group. A key challenge in a post-listed environment is how to appropriately incentivise the management team and wider employee population. Senior leadership will have been used to receiving annual grants of share options, restricted stock and deferred bonus share awards whilst employees at all levels are likely to have been able to participate in share ownership plans such as Save As You Earn or a type of share purchase plan. Employees will then have been able to trade their shares on the stock market and crystallise gains on a regular basis.
The profile of a private-equity backed company, or indeed any company that is in private ownership, is clearly very different to a public one and the ability to have a plan that enables a broad range of participation in its equity, is likely to be limited. Yet it still remains an incredibly important principle to be able to offer a sufficiently attractive incentive package which will help drive the success of the business.
In a private equity context, this will often take the form of a Management Incentive Plan (MIP), limited to the executive team and (depending on the profile of the business) other key employees. A MIP will usually require the executive team to roll over a proportion of their sale proceeds received on the buyout for their shares and share options (40% - 60% on an after-tax basis is quite usual) and reinvest this in shares in the new group structure alongside and on the same basis as the private equity house (often referred to as "institutional strip"). In addition the MIP will create a special class of incentive share that enables the MIP participants to share in the growth in the business above a minimum hurdle. These shares (known as "sweet equity") will generally have limited rights, so they may not be able to vote or receive dividends and will be entirely focussed on providing an economic benefit linked to the business plan and a successful exit for the private equity house.
In founder or other privately owned businesses, the sweet equity structure may also be an appropriate mechanism which helps to align and promote the objectives of the business as a whole. However, as an alternative, there may be some ability to create more flexible and bespoke arrangements. This may include a type of tax-advantaged employee share plan (for example Enterprise Management Incentives) or in circumstances where the founders want to create a wide ranging employee ownership culture, they could put the business into the hands of an Employee Ownership Trust. This will hold the business on trust for all employees, whilst providing tax breaks both for the shareholders (who can sell their shares tax free into the EOT) and employees (who can receive tax-free bonuses up to £3,600 per year).
Naturally, with any type of incentive structure and ownership profiles, there will need to be proper consideration of the impact of certain events in the lifecycle of the plan, such as what happens if someone leaves (do they lose all their shares or do they get to keep some), what vesting requirements are appropriate, how should certain types of corporate events be dealt with and tax planning.
The Mishcon Incentives team have significant experience of guiding companies and management teams through all of these issues and can help create the plan that is right for the particular type of business within their specific circumstances. For an initial conversation, please contact Stephen Diosi.