The growth of management and employee ownership in recent years has been recognised as a force for good in the success of such businesses in Scotland in recent years. The benefits are obvious for both management and Private Equity (PE). Those with an ownership stake are much more likely to be incentivised to drive a business forward, thus increasing the size of the ‘pie’ for the investors.
The word is well and truly out! In recent years we have seen management teams increasingly demand equity based management reward plans to form part of their reward structure and, unsurprisingly, the PE community is generally receptive.
Mainly relevant for smaller growth companies, Enterprise Management Incentive (EMI) plans will allow for management to receive capital proceeds and claim Entrepreneurs’ Relief without having to make a cash outlay when options are granted. For companies not able to benefit from EMI, other approved option plans, growth shares or ‘sweet equity’ will often be the way to incentivise management with what could be a lucrative capital based future return.
These rarely produce anything but good news stories when companies are meeting their profit growth plans but things can of course change, and quickly turn bad. With the oil and gas industry suffering perhaps its worst downturn in a generation, in the Aberdeen market we have seen many management incentive plans ending up so far down the equity return waterfall that they lose their purpose as both an incentive and retention tool.
Recognising this, incumbent PE houses have in some cases introduced management reset plans to allow management to receive interests in securities further up the capital waterfall, thus ‘resetting’ them to drive future growth. Timing is everything and companies in such positions will often aim to issue new securities at the bottom of the value curve.
However, the cost of getting the implementation wrong can get ugly. It will often mean the difference between paying full income tax/NIC rates at 48% versus capital gains tax at 10%. Getting the structure implemented correctly from the start and ensuring the compliance and reporting are watertight throughout are therefore key to implementing a successful plan.