Building a business is hard work, and building a successful business is even harder. It requires a dedicated team of motivated people who want it to succeed.
Every small or mid-sized business owner can point to one or more employees who have gone the extra mile for the good of the business. These people are the backbone of your team, and their efforts, dedication and loyalty should be rewarded with something more than an extra couple hundred bucks in the Christmas card. That's where the concept of sweat equity comes in.
How Sweat Equity Works
Sweat equity shares are a means by which business owners can reward employees' contributions in the company's success by issuing them shares of stock as a bonus and an incentive to help retain key personnel. Think of these shares as rewards points for the employee being such an asset to the business.
Buying a stake in the business might be beyond the financial means of most employees, but they can still acquire part of the business through the issuance of fully paid-up sweat equity shares as an incentive.
The Benefits of Sweat Equity Shares to Your Business
If your employees are stakeholders in the business, they have a more personal interest in its success, above and beyond the consideration of their continued employment. The more profitable the company, the higher the value of their shares.
An employee can earn sweat equity by receiving part of their salary in shares instead of cash. The market value for the shares would be calculated by determining the difference between the market rate compensation for the employee's services and the compensation being paid by the company for those same services. This is an attractive arrangement for start-ups, to help keep initial costs down while building the groundwork of the business.
Alternatively, instead of paid-up shares, the company can offer key employees an option to acquire shares at a discounted price under an employee stock option plan (commonly called an ESOP). Stock options are typically used as a means to attract and retain the best people, because many option plans require employees to work a pre-determined number of years with the company before the options fully vest.
Important Factors to Consider When Developing a Sweat Equity Earn-In Plan
- How will the sweat equity be earned?
- Should the shares be a different class of shares from those held by the principals who invested the start-up capital?
- Will the shares be voting or non-voting?
- Are these shares eligible for dividends at the same times and the same rate as the common shares?
- Are the shares subject to transfer restrictions and hold periods?
- What are the tax implications to the employee?
- What are the responsibilities of the employee shareholders?
- What are the company's buy-back rights if the employee leaves?
These questions should all be addressed in your Sweat Equity Agreement or Employee Stock Option Plan.
Image by Gerd Altmann from Pixabay
