Providing employees with incentives is a great way to reward performance and give them a reason to push the company forward as a team. Traditionally, cash has been the medium with which businesses incentivize their employees. Nowadays, more companies than ever are getting away from cash incentives to offer equity to employees due to its unique advantages over tried and true cash. Depending on where your business is in its lifecycle, however, these incentives may do more harm than good.
Why Should I Switch to Equity Incentive Plans?
Rewarding employees with equity incentives provides them a rock-solid reason to ensure that the company continues to perform. When employees own equity, they’re heavily incentivized to work together and ensure that the business continues to grow in a way that cash simply cannot provide. To put it simply, when everyone owns equity, everyone has the same goal – raising the value of that equity.
While employees can invest their cash incentives to grow their wealth, most will not. When provided equity, as long as the business continues to grow (and provided there is a liquidity event), so does their wealth. For successful businesses, equity can provide a much larger value to employees, and thus is a substantially more effective incentive. An equity incentive plan can allow small but growing companies with an extra tool with which it can recruit employees who might otherwise be out of reach for their budget.
What Are the Risks of Equity Incentive Plans?
Equity incentive plans aren’t perfect. As you’ve likely garnered, giving away equity means less control over the business in the long run. For some business owners, this isn’t an issue – by the time an employee gains enough equity to own a significant portion of the business, they would be a valuable and long-standing member of the company. For owners who would like more control over the ownership structure, however, equity incentives will likely disrupt this structure as your business grows.
Some employees may simply not be interested in owning equity, and would rather have liquid cash to do with as they please. This can vary depending on your field of business. In technology fields, for example, employees are more frequently given equity incentives and respond to them very positively. In other fields with less growth potential, employees may be deterred by these incentives.
These incentives are also significantly harder to maintain than providing your employees with simple cash. Managing vesting and the differences in tax requirements that come with equity incentives may prove to be too difficult for a small business to manage on its own. You will also likely need to conduct periodic 409A valuations to assure that the stock from any incentive plans are being issued at the appropriate price (and not triggering additional taxes and penalties).
If you do choose to utilize equity incentives in your business, working with an experienced attorney will be a necessity to ensure its successful implementation. For assistance in establishing an effective equity incentive plan for your business, or determining what may work best for you, contact Doida Crow Legal today at (720) 306-1001 or email us at firstname.lastname@example.org.