Phantom Shares Agreement: What it is and How it Works
A phantom shares agreement is a type of compensation plan used by companies to incentivize employees. This agreement grants employees a theoretical ownership stake in the company, without actually transferring any shares. It’s a way for employees to benefit from the growth of the company without having to purchase actual shares.
How it works
Under a phantom shares agreement, a company promises to pay an employee a certain amount of money based on the performance of the company. The amount paid to the employee is calculated based on the increase in the company’s value, as measured by a specific metric, such as revenue or net income. The employee does not actually own any of the company’s shares, so there is no dilution of ownership or voting rights.
Phantom shares agreements are typically structured over a set period of time, such as five years. If the company’s performance meets or exceeds the agreed-upon metric during this period, the employee will receive a payout. The payout is usually a percentage of the increase in the company’s value, and can be quite substantial if the company performs well.
Advantages of phantom shares agreements
Phantom shares agreements have several advantages over traditional equity compensation plans that involve the transfer of actual shares. First, phantom shares agreements do not dilute the ownership of the company, which can be a concern for existing shareholders. Second, phantom shares agreements are a more flexible form of compensation, as they can be structured in a variety of ways to fit the needs of the company and its employees. Third, phantom shares agreements can be a tax-efficient way to compensate employees, as they do not trigger taxable events until the payout is made.
Disadvantages of phantom shares agreements
While phantom shares agreements offer many advantages, they also come with some disadvantages. One potential drawback is the lack of actual ownership. Employees may feel less invested in the success of the company if they do not have a tangible stake in it. Additionally, because phantom shares agreements are based on theoretical value, they can be difficult to understand and explain to employees.
Final thoughts
Phantom shares agreements can be a valuable tool for companies looking to incentivize employees without diluting ownership or triggering taxable events. However, it’s important to carefully consider the advantages and disadvantages, and to structure the agreement in a way that makes sense for the company and its individual employees. Talk to an experienced attorney or financial advisor to learn more about whether a phantom shares agreement is right for your organization.