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The lecture discusses the international aspects of equity incentives.
It lays out the most common types of equity incentives (and the respective characteristics) and
discusses:
(i) When which instrument is used
(ii) What the Dutch tax consequences are
(iii) Which international tax complexities arise
What are equity incentives?
o It is reward/remuneration based on shares
Equity compensation is non-cash pay that represents ownership in the firm. This type
of compensation can take many forms, including options, restricted stock, and
performance shares.
Key objectives of equity incentives:
1) Alignment
- To align the interests of employees and shareholders to ensure that employees take
decisions in the interests of the company’s shareholders
2) Motivation
- To motivate employees to maximise their effort and contribution to deliver high company
performance
3) Retention
- To help ensure that the service of key talent is retained
4) Cost effective
- To ensure the employee costs are in tune with company performance and can be used to
manage P&L impact or cash outflow
The most common type of equity incentives are:
1) Performance shares
2) Restricted shares/restricted shares units
3) Shares options and share appreciation rights
4) Sweet equity and ratchet shares1
1
Typical in private equity situations
, 1. Performance shares
Characteristics:
- The target group: senior executives (includes senior management levels, vice president,
senior vice president, head of staff departments (HR, legal, IT, finance))
- Objective of the incentive: performance, long term commitment, retention, share ownership
- The instrument of incentive is: shares
Functioning:
- The employee receives an award at T=0 -> the award is the right to receive shares for free if
performance criteria are met
Most common performance criteria: ‘relative total shareholder return’ (RTSR) 2 or mix
of financial and non-financial criteria
- If at t=3 the performance criteria are met, the reward vests (ie it becomes unconditional)
and there is a transfer of legal and beneficial ownership
- Vesting (ie performance period) is generally 3 years
- Holding period: after vesting there might be transfer restrictions (ie the employee must wait
a ‘holding period’ before being able to sell the shares)
Taxation in the NL:
- Taxed when legal and beneficial ownership is transferred, i.e. at vesting
- Taxable benefit/tax base is fair market value of the shares on the date of vesting
- If sales restrictions apply after vesting (such as a holding period) it is possible to negotiate
discounts with the tax authorities -> tax ruling
International tax complexities:
- No specific guidance, dependent on facts and circumstances
- If possible, follow approach as laid out in the Dutch Decree (discussed below) for Conditional
options. This, however, also depends on contractual agreements, transfer of legal title and
corporate tax deduction most important facts for allocation
-
2. Restricted shares3
Characteristics:
- The target group: all employees (from top management to workforce)
- Objective of the incentive: long term commitment, retention, share ownership
- The instrument of incentive: shares (not cash)
Functioning:
- The employee receives an award at the date of grant (T=0)
- At T=0 the ownership of the share is transferred to the employee
- Subsequently, there is a vesting AND holding period (es 3 years)
2
Total shareholder return -> the financial gain that results from a change in the stock's price plus any dividends paid
by the company during the measured interval divided by the initial purchase price of the stock.
Relative total shareholder return -> the Total Shareholder Return of the Company compared to the Total Shareholder
Return of the Peer Group
3
Common in the USA.
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