Growth shares and the owner managed business

Beating the hurdle – Growth shares and the owner managed business

Popularity with ‘growth’ shares has significantly increased in recent times as it requires little upfront investment from the employees where the employer may otherwise not have the liquid cash available to provide remuneration packages to attract and retain the calibre of employees they want to grow their business.

Background

Any company can issue growth shares. It can be issued directly to shareholders or options over the shares can be granted. Usually, a company will issue a new class of shares and the rights attached to these shares will detail that the shareholders are only entitled to share capital value once the valuation of the company exceeds a certain, pre-determined amount, i.e. the ‘hurdle’ amount.

How it works

Let’s take an example.

• A company has a current valuation of £2 million.
• Growth shares are created with a hurdle amount of £3 million.
• The growth shares are issued to employees when the company valuation is £2 million.
• The value of the shares at issue are therefore negligible so no tax charge arises
• In 18 months, the valuation of the company has increased to £3.5 million. At this point, the holders of the growth shares are entitled to their share of the capital value above £3 million – i.e. their share of £500k (£3.5m valuation less £3m hurdle amount).

Generally, these shares do not have dividend or voting rights. It is possible for these shares to have these rights but their inclusion could hinder the low valuation at issue. 

The Tax Benefits

The Employee/successor(s)

Issue of shares – No income tax or National Insurance on the issue of shares on the basis the shares are of negligible value due to only having “hope” value. 

Sale of Shares – CGT will be payable on a proportion of gain above the hurdle amount upon disposal of the shares based on the proceeds / market value at disposal.

Other Practical Considerations 

Valuation 

A valuation of the company should be prepared ahead of the issue of growth shares to ensure the hurdle amount is set at an appropriate level.

Having experienced advisors prepare the valuation should assist in any future HMRC enquiry into the matter. 

Leaver provisions 

As with other classes of shares, restrictions can be attached to the shares to ensure:

• Shares can only be disposed of by employees to existing shareholder, or returned to the company
• Exiting employees classed as “bad leavers” are only able to realise a certain value for the shares

How we can help

Growth shares can be a very powerful tool for companies who are looking to enhance shareholder value, possibly in advance of an exit event.  They can be used in a very tailored and flexible way to achieve the specific objectives of each company.  

For further information please contact ETC Tax on either 0161 711 1320 or by email to enquiries@etctax.co.uk.