Loan backed share plans not common – the data, but not the reason.
09/04/2018
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Two decades ago, loan-backed share plans were not uncommon, with many companies offering all-employee share plans and/or executive LTIs by way of a loan to the employee or executive at the time of grant.  This structure not only aligns employee interests with investor interests (any increase in share price will be a net gain to the employee after repayment of the loan) but is also tax-effective for the employee.

Loans are limited recourse to the value of the underlying shares with the maximum amount to be repaid limited to the initial loan value.  Since the shares are acquired at the point of issue rather than at vesting, then any increase in share price will be treated as a capital gain rather than an income gain. As such, an individual employee can benefit from the concessional CGT discount of 50%,

Another benefit of the shares being acquired at the point of issue, is that dividends will be paid from that point. The employee can either receive dividends or have the after-tax amount being directed to the repayment of the loan. It provides good alignment with other shareholders.

Conversely, with share rights plans, any difference between the share rights’ exercise price and market price on exercise of the right will be taxed at the employee’s marginal rate of tax.

Unlike the loan share plan, the employee will not derive dividend income until the vesting point as the shares from exercise of the share rights are not acquired until the exercise date.

There are two disadvantages with loan plans:

  • They are more complex to understand, and more costly to administer. Forfeiture of loan shares when performance measures are not met needs to be carefully administered to avoid adverse outcomes.
  • In addition, for publicly listed companies, one of the three main proxy advisers is not keen on loan plans.

However, given their alignment with shareholder interests, and tax-effectiveness for employees, they should be popular. They are not.

We found 10 companies in the ASX 300 that have issued loan shares.  Seven companies used loan-backed share plans as an LTI vehicle in their executive remuneration framework.  Three companies offer either executive-only or all-employee share purchase plans, whereby employees can voluntarily purchase shares in the company with the use of a loan.

We note that at least five companies have discontinued their loan share plans within the last 2 years.

© Guerdon Associates 2021
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