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Directors' discretion - handle with care

Posted on March 16, 2017

Flexible share plans

Many private companies are keen to implement a flexible share scheme and will frequently choose a discretionary scheme such as Enterprise Management Incentives (EMI) or Company Share Option Plan (CSOP).
These schemes allow the directors to choose the individuals who will benefit under the plan and vary the value of awards made to individuals. There may also be an element of discretion about whether to treat departing employees as “good” leavers or “bad” leavers. This element of flexibility can, of course, be invaluable for a private company which will often need to adapt rapidly to meet the changing requirements of its business.

Discretion

Of course, with great power comes great responsibility. If a plan has flexibility, it will also require directors to exercise their discretion when making certain decisions about their share plan.

It should not be assumed that “discretion” means that directors have carte blanche to make decisions – it is important for the board to exercise due care when making decisions so as to avoid potential actions from disgruntled share scheme participants.

There are numerous examples of discretion being exercised carelessly which have resulted in challenges (some successful) by disgruntled employees. Whether or not an action is successful, no company wishes to be involved in grievances or court battles if it can be avoided. 

The five “C”s

Directors making decisions about share plans (or any other remuneration linked matter) might start with thinking about the five “C”s – criteria, clarity, contemporaneous records, conflict and consistency:

  • Criteria: When selecting participants, ensure that only objective criteria are used both to identify participants and the value of awards to be made. Good objective criteria might be the role or position in the company, the number of years worked, or salary. The last two are criteria accepted by HMRC for non-discretionary plans such as the Share Incentive Plan.
  • Clarity: If particular participants are chosen for a higher level of award, the board should be very clear about the reasons for the decisions made. It may be appropriate to take into account objective reports from, for example, the HR department, to ensure that individuals are not being favoured (or excluded) for non-objective reasons.
  • Contemporaneous records: The reasons for decisions should always be recorded at the time of the decision – whether in a board minute or (if there is one in place) at a meeting of the remuneration committee. 
  • Conflict: In smaller companies, or where there may be family members involved in the workforce, directors who are related to potential participants should at the very least record a potential conflict in any board minute and, ideally, the relevant directors should exclude themselves from discussions relating to family members. (Of course, where there are family members there may be other issues to take into account – for example, sons and daughters will not qualify for EMI options if a parent already owns a material interest in the company’s share capital.) 
  • Consistency: Where discretion is exercised on a recurring basis – for example, where annual option awards are made, or where there are a number of participants who cease employment – previous decisions should be taken into account to ensure consistency of decision making. 

If the directors are in any doubt about whether they are exercising their discretion correctly, they should always take specialist employment law advice.
For more information about discretionary share schemes, please contact us on 020 8949 5522 or email enquiries@rm2.co.uk

 
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