This LawFlash discusses awarding equity grants to newly hired employees as “inducement grants” outside the shareholder approved plan and the pros and cons of making inducement grants.
The coronavirus (COVID-19) pandemic has been adversely impacting companies and their employees in numerous ways. Public companies have been experiencing reductions in their available cash resources and the value of their shares. In addition to the impact on the value of the shareholdings of key service providers, the reduction in value of a company’s equity can deprive a company of an important resource for executive and director compensation.
Decreases in stock prices of many public companies as a result of the COVID-19 pandemic have required them to issue more shares in order to provide the same intended value of equity compensation that they would have granted in the absence of such price declines. As a result, many public companies face a potential shortfall in the number of shares that will be available under their equity compensation plans.
Public companies whose shares are listed on national stock exchanges are required to obtain shareholder approval prior to adopting equity compensation plans or increasing the number of shares available under equity plans. As a result, listed companies facing potential shortfalls in the number of available shares are considering various alternatives. Such alternatives include:
This LawFlash addresses the NYSE, NYSE American, and NASDAQ rules for “inducement grants.” While each of the other alternatives listed above requires various tradeoffs for the company or the employee, such as the expenditure of limited cash resources, delays in providing compensation, adverse financial accounting consequences, or reductions in compensation, “inducement grants” permit the issuance of shares without depleting the company’s shares available for grants under the equity compensation plan.
For more information on considerations facing Compensation Committees due to the COVID-19 pandemic, please read our LawFlash, The COVID-19 Test for Compensation Committees.
Inducement grants are a type of equity award to newly hired personnel. Although the NYSE, NYSE American, and NASDAQ require shareholder approval of all equity compensation plans and any material revisions, which include a material increase in the number of shares available under the plan, a company may make inducement grants without shareholder approval if the requirements described below are met.
Inducement grants may only be made to newly hired employees and must be disclosed in a press release.
Inducement grants can be made to new hires without using shares reserved under equity compensation plans. Inducement grants need not be subject to individual share limits in an equity plan.
Inducement grants are dilutive and subject to scrutiny by proxy advisory firms. For example, proxy advisory firms consider inducement grants when assessing plan cost, share usage, burn rate, overhang, and future equity plan proposals. Shareholders and shareholder advisory firms will take inducement grants into account as outstanding awards when determining the number of shares to be available for future equity plan proposals.
Inducement grants can result in additional administrative burdens. For example, the company must administer separate share pools, file a separate Form S-8 and listing application or notice for the shares covered by inducement grants, memorialize the inducement grant as part of the hiring process through employment agreements or offer letters and communications with the newly hired employees, and provide disclosure through a required press release as more fully described below.
The exemption for inducement grants is limited to the initial inducement for employment. As a result, shareholder approval of a material amendment to an inducement grant is required, even if the initial grant did not require approval.
Inducement grants must be:
Yes. Promptly following an award of an inducement grant, the company must issue a press release disclosing the material terms of the inducement grant, including the recipient and the number of shares.
Companies must provide their applicable listing exchanges with notice of the use of the inducement grant exemption to the shareholder approval requirements.
The company must also register the issuance of the shares under the Securities Act and obtain the listing of the shares on the applicable exchange, as described below.
Yes. An immediate press release is required for individually negotiated inducement grants or inducement grants made to executive officers.
However, routine inducement grants to new hires under a program in which equity grants are made to new hires without individual negotiation can be aggregated in a press release no less frequently than every two weeks. Each of NASDAQ, NYSE, and NYSE American permits aggregated disclosure when inducement grants are made to employees of a target company in connection with a merger or acquisition, other than grants made to executive officers of the post-merger company.
For individually negotiated inducement grants and inducement grants made to executive officers, aggregated disclosure of multiple grants is not permitted. Otherwise, aggregation is permitted: (i) over a period up to two weeks for a company that typically awards inducement grants to new employees, and (ii) when a company makes inducement grants to employees of a target company in connection with a merger or acquisition. Aggregated disclosure must include the material terms of the inducement grants, including the number of employees and the number of shares involved. Such aggregated disclosure does not need to identify specific employees.
Companies have the following alternatives for making inducement grants:
Companies should follow a process for making inducement grants to new employees. To demonstrate that the grant is an inducement to hiring, there should be written communication of the inducement grant prior to the new employee’s acceptance of the job offer and commencement of employment (or prior to closing if in connection with a merger/acquisition). The specific terms of the inducement grant should be in the new employee’s offer letter or employment agreement.
The company must also register the issuance of the shares under the Securities Act and obtain the listing of the shares on the applicable exchange. Issuances of shares outside of existing equity compensation plans will not be covered by the registration statement on Form S-8 already filed with the US Securities and Exchange Commission (SEC) and will require filing of a new registration statement on Form S-8. Although a registration statement on Form S-8 is a very simple document that incorporates most of the substantive information from prior SEC filings and is effective immediately upon filing, the company will need to pay the filing fee and obtain the consent of the company’s auditors for the incorporation of their most recent audit report and an opinion of legal counsel with respect to the due authorization of the shares.
The listing of the shares on the NYSE or NYSE American requires the submission of a listing application no later than the public announcement and prior to the issuance of the shares. The listing of the shares on NASDAQ requires the submission of a notice of listing of additional shares by the earlier of five days after entry into the agreement to issue the shares or the date of public announcement.
***
The foregoing discussion is not intended as an exhaustive list of the considerations that a company will need to consider in connection with inducement grants. Any decisions that a company makes relating to inducement grants will need to be carefully considered and should take into account the various tax, contractual, accounting, and disclosure implications that may result.
If you have any questions or would like more information on the issues discussed in this LawFlash, please contact any of the following Morgan Lewis lawyers:
Boston
Laurie Cerveny
Michael Conza
Bryan Keighery
Carl Valenstein
Julio Vega
New York
Mary (Handy) Hevener
Gina Lauriero
Gary Rothstein
Thomas P. Giblin, Jr.
Howard A. Kenny
Christina Melendi
Kimberly M. Reisler
Palo Alto
Albert Lung
Philadelphia
Amy Pocino Kelly
Robert Lichtenstein
Erin Randolph-Williams
Mims Maynard Zabriskie
David Zelikoff
Justin W. Chairman
James W. McKenzie
Joanne R. Soslow
Pittsburgh
Randall (Randy) McGeorge
Celia Soehner
Princeton
Carley Clark
David C. Schwartz
Washington, DC
Rosina Barker
Althea Day
Patrick Rehfield
Jonathan Zimmerman