Article:

Expanding Enterprise Management Incentives

17 June 2021

In the March 2021 Budget, the government launched a call for evidence on Enterprise Management Incentives (EMI) options to establish if they were still fit for purpose and whether they should be expanded (there is flexibility to do so post-Brexit).

The consultation raises some interesting issues and offers some hope that the current EMI rules may be extended to benefit more UK businesses. BDO has responded to the consultation in detail, and the highlights of topic areas and our response are summarised below.

Does the EMI scheme help SMEs retain employees?

The EMI scheme can be an essential part of the package to make sure that key talent remains with an SME, and this is crucial for growth and development. Our view is that the use of EMI does help to retain employees, because it is invariably the case that EMI options are designed to include leaver clauses such that if an employee leaves employment they lose their option. Furthermore, it is common that EMI options are designed to only be exercisable at ‘exit’, i.e. when a company is sold. The fact that EMI arrangements are designed in this way gives weight to the view that SMEs do feel that EMI fulfils the policy objective of helping to retain employees.

For many clients with EMI schemes it is clear that they have a strong cultural impact - giving the participants a stronger alignment with the shareholders from the sense of ownership that comes from the EMI option.

High growth companies that are no longer eligible for EMI – does this negatively affect their retention of employees?

Yes: we have found that high growth companies that are no longer eligible for EMI are finding it difficult to recruit/retain employees. One of our clients in the Fintech sector has said that now they are ineligible, they struggle in the UK labour market to recruit talent, compared to the labour markets in other countries in which they operate.

There are a number of other examples of clients that have spent a significant amount of time and effort in seeking to find an effective alternative to EMI once they do not qualify for EMI. No alternatives are as effective as EMI, and the suggestion is that those clients are losing a key factor in their efforts to recruit and retain.

The EMI scheme clearly helps those companies that do qualify, so expanding it can only be good for the UK economy.

Alternative options

Other tax-advantaged employee share schemes offered by the government including CSOP, SIP and SAYE could be viewed as an alternative to EMI.

For discretionary share plans, we find that companies use EMI first (if they qualify) and, if they do not qualify, they may use CSOP (but may well not qualify for CSOP either, or find it too inflexible). The CSOP has its own issues in that many companies do not qualify (for other reasons), they are less flexible, and the benefits and limits are far lower compared to EMI. CSOP does not provide the recruitment and retention effect required by the policy objective.

SIP and SAYE are very different arrangements as they are not discretionary and operate on an ‘all employee’ basis. Many of our clients use these plans also (with or without EMI), but they are not really comparable, as they have a different objective.

We believe that, in their current form, the other plans do not provide enough support for companies than no longer qualify for EMI, as they do not provide the focused targeted discretionary incentive available through EMI.

Employee share schemes’ offered in the UK compared with other countries

We find that once an organisation has noticed that it is too large for EMI, it finds it harder to recruit necessary employees in the UK than in other countries.

In particular, one client commented that “compared to other countries, we have not found any share incentive that delivers this alignment of risk and reward. Our ability to attract and retain key talent in the UK has lost this compelling advantage, it is now harder to compete, and as a result, we have expanded our operations to increasingly source talent outside of the UK.”

The UK provides highly skilled labour that is demanding in terms of incentives and other remuneration. Companies that can no longer operate EMI are at a disadvantage to competitors that can and, therefore there is a compelling reason to locate elsewhere once they no longer qualify. The EMI scheme in the UK is favourable compared to other countries but, of course, only if the company qualifies, and that needs to be seen in the context of a highly competitive labour market and a culture where effective incentive plans are expected.

Should the EMI scheme criteria be extended to include more companies?

We would argue that yes, the EMI scheme should be extended to include more companies, and we recommend that the following criteria should be changed:

  1. The gross assets maximum should be increased from £30m. This has remained static for 19 years.
  2. A net asset test may be appropriate to measure suitability. Companies in the finance sector may hold cash balances on behalf of clients that are accounted for as assets with a corresponding liability. At the gross asset level, the liability is not taken into account. Many of our clients feel that the test leads to dysfunctional behaviour if they are raising funds in order to be able to invest and grow.
  3. We wonder if a longer-term look-back average test may be appropriate rather than a snapshot test.
  4. The employee number limit should be removed or increased. For the first 8 years of EMI there was no employee number test, and we feel that it is a crude measure to use and disadvantages labour-intensive businesses, and could hamper the incentive for employment creation.
  5. The independence test is very problematic, because EMI companies cannot be under the control of another company (or arrangements be in the place for the future). Combined with the connection tests, this makes it very hard for private equity-backed businesses to put in place EMI schemes. It is these very companies that are likely to provide growth opportunities and that need to recruit and retain key talent in order to be able to scale themselves up. If they could use EMI options, they would be more likely to recruit and retain the people that they need. There are also distortions if an owner happens to hold his shares through an investment vehicle.
  6. The qualifying subsidiary test should be reviewed, as it currently operates to prevent companies from operating EMI if they participate in joint ventures. This does not seem to be a reasonable reason to deny a company from operating EMI.

For help and advice on EMI or any other share scheme please contact Andy Goodman or Ian Rose.

Read the full call for evidence.