Is an ESOP only possible in joint-stock companies?

Implementing an option program in a limited liability company is possible, but more complex than in joint stock companies. An ESOP in its typical form is unattainable for limited liability companies, but entrepreneurs can opt for, among other things, a program based on a commitment to deliver the company’s shares to a beneficiary in the future, as well as less common variants, such as an ESOP based on phantom shares. In connection with the ESOP, the company may also consider using tokenization.

Legal limitations of limited liability companies.

The implementation of an ESOP in a company (in English – Employee Stock Option Plan) brings many benefits to both the company and the beneficiaries of the option program. Among its benefits are increased employee motivation and loyalty. The option program in its traditional form cannot be implemented in limited liability companies. This is due to legal restrictions – for a limited liability company, it is not possible to introduce conditional capital or issue subscription warrants. This does not mean, however, that limited liability companies cannot implement an incentive program under slightly different, legally permissible rules.

How to implement ESOPs in limited liability companies.

A common variant of ESOPs used by limited liability companies is to grant beneficiaries the power to obligate the company to deliver its shares to the beneficiary in the future. ESOPs in limited liability companies can also be implemented by providing its employees and associates with phantom shares, which, on the one hand, do not grant them the role of a shareholder of the company, as in the case of shares in joint-stock companies, but, on the other hand, confirm the granting of certain rights under the ESOP to beneficiaries. Most often, these are the right to convert virtual shares into real ones upon meeting certain conditions, and less often – also bonuses mimicking dividends in an amount that depends on the phantom shares held in the company.

ESOPs in limited liability companies. – what it looks like in practice

The beneficiary of a virtual ESOP implemented in a limited liability company receives either immediately upon joining the program or after a fixed period of time a certain number of phantom shares, which are in fact contractual entitlements of ESOP beneficiaries, which to a full or limited extent can mimic the entitlements associated with holding classic shares. As a rule, the condition for the payment of cash bonuses to beneficiaries is that they remain in the company’s ranks for a contractually specified period of time. However, it should be noted that the contract between the limited liability company and the ESOP beneficiary is one of the unnamed contracts. It is based on the principle of freedom of contract, so the terms of the program can be flexible and tailored to the needs of the company and ESOP beneficiaries.

Tokenization

Another solution that limited liability companies interested in an option program may consider is tokenization of shares in the company. Then the equivalent of a token would be, for example, the right of an ESOP beneficiary to share in the profits of the company. Such a solution can operationally streamline the ESOP, particularly for option programs with a larger number of company employees and associates eligible to participate.

Karolina Krawczyk Of Counsel

karolina.krawczyk@theheart.legal