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HOW HURDLES CAN SAVE THE BONUS

DAVID MARDLE<br />HEAD OF EUROPEAN VENTURE CAPITAL, TAYLOR WESSING<br /><br />THE City&rsquo;s &ldquo;bonus culture&rdquo; has come in for criticism since the onset of the credit crunch. Traditional models of share-based remuneration, while encouraging long-term growth, have lost much of their appeal in an era of shrinking corporate valuations. But skilled people still need to be paid well. How can the circle be squared? One solution could be &ldquo;hurdle share&rdquo; schemes.<br /><br />Hurdle shares are a new class of equity that carry the right to a fixed amount or percentage of proceeds on an exit, at a valuation in excess of a certain threshold. The hurdle to be achieved is typically that the value realised on the liquidity event must be at least equal to or above the value at the time the shares were first allocated. <br /><br />This means that at the time a company is sold or its shares are publicly floated, hurdle shares participate in the growth in value of the company following the time they were first allocated, but only have &ldquo;hope value&rdquo; at the time of creation.<br /><br />They are also highly tax-efficient. With limited market value, hurdle shares can be issued to management at a relatively low price, resulting in minimal or no income tax liabilities for employees upon issue. Gains in value to the point of exit are taxed under the more favourable capital gains regime. From the business&rsquo;s perspective, PAYE and national insurance savings can be expected.<br /><br />Hence, without any of the negative connotations associated with bonuses, hurdle shares provide equity incentives in a much more targeted manner. This will help with the retention of existing employees, but also with respect to attracting the kind of talent that will help companies prosper in the future.<br />