How widely across a team should equity incentives be spread?
One of the most testing questions the manager of a private equity-backed business faces is how broadly they should distribute equity incentives across the organisation.
The key factors determining the answer include a consideration of which individuals will help to drive the value of the business – and how much the individuals potentially in receipt of those benefits will value them. This will be influenced by the culture of the company, and of the individual employees.
The strongest argument in favour of including team members below the C-suite is that they will feel they have a stake in the business and its future success, which in turn should help to motivate them to perform well and to feel a stronger sense of loyalty to the company.
However, including a wider spread of colleagues in an incentive scheme brings with it a significant administrative burden. You will need to communicate regularly with all those involved, who will most likely expect at least an annual valuation of their potential reward. In many instances, companies set up a nominee arrangement so that the administration of the shares involved becomes more straightforward.
Another complication is added by the situation that arises when people leave the company. There should be a straightforward process in place to deal with their holdings when they depart.
Pros and cons of broad equity incentive distribution
At Liberty, we have experience of dealing with clients who have installed a variety of solutions. We have seen businesses where, as a consequence of a series of acquisitions, equity has been distributed to junior managers across the business.
Many management teams relish the opportunity to distribute more equity to their junior managers. In their eyes, there is an understanding that the equity carries considerable value, and its wider distribution is seen as culturally appropriate to the firm in question.
Equally, there are occasions when the management decides to minimise the spread of the equity. This may happen when the management is concerned by the administrative burden of overseeing the incentives available to junior managers who, their superiors believe, simply will not understand or value the equity.
The type of business can make a difference to the breadth of the spread of incentives. In professional services businesses, for instance, many of the senior and mid level managers are effectively responsible for their own P&L and are rewarded based on their individual fees generated and executed. Having an equity stake means they not only benefit from their own performance but are incentivised to support the whole business; so are more willing to cross refer and operate less as individual silos.
Additionally, many of these professional services businesses are focused on growth through M&A. Spreading the equity widely ensures that the businesses they acquire feel that they are involved in the bigger picture, and often the owners of those acquired businesses will have held equity previously so preserving an ownership culture is important. A broadly distributed equity incentive scheme is an effective way of achieving that buy-in.
How Liberty can advise you on the best way forward for your business
As you can see, there are strong arguments both against and in favour of including colleagues below the C-suite in equity incentive schemes. The experience and know-how of Liberty Corporate Finance means we are ideally placed to assess the wisdom or otherwise of widening the scope of such programmes to embrace junior management teams, and advise accordingly on your next steps.
If this is a question facing your management team, please get in touch so that you can benefit from our insight and expertise.