Pound-cost-averaging with a cushion
The discounted share purchases were made in its Share Incentive Plan (or SIP, not to be confused with a Sipp or self-invested personal pension). In the plain vanilla version, employees elect to have company shares purchased on their behalf through monthly deductions from their gross pay. That’s where the discount comes in: for every £100 that basic-rate taxpayers are paid, the choice is between investing £100 or receiving £68 in cash (after 20 per cent basic income tax and 12 per cent national insurance contributions).
In investment terms, this is pound-cost-averaging – it gets around the perennial dilemma of deciding when the best time is to buy shares. And that tax-fuelled discount is quite a cushion (or if you like, 'margin of error'), but of course there’s a catch. The shares can be sold at any time, but to receive tax-free proceeds, they have to be held for five years and investments are limited to £1,800 a year.
One-way bet
Discounted share options (often called SAYE or Sharesave) also require monthly savings, but this time from post-tax pay. No shares are bought – it’s purely a savings scheme for either three or five years, at which point the option kicks in. The choice is then either to have back all the savings or to use them to buy shares in the company. The attraction is the cost. It’s set at the share price when the option was granted, less up to 20 per cent.
You might think this is a no-brainer. Supposing you save £100 a month for five years and that the company share price ends up where it was at the outset. If you buy the shares at their 20 per cent discount and sell them immediately, your savings of £6,000 become £7,500 – an increase not of 20 per cent, but 25 per cent. True, you’ll be charged brokers’ fees, but these will hardly dent your gain, which will be tax-free because it falls within the capital gains annual allowance (currently £11,700). The risk? None at all. But you might do better by keeping the shares instead.
A floor but no ceiling
What happens when the share price moves dramatically? The chart represents Countrywide’s share price (blue line) over three years as it slid out of the FTSE 250. The blue line shows how, if Countrywide had operated just a simple SIP, an initial potential gain of 47 per cent (for basic-rate taxpayers) would have become a 22 per cent loss. The red line illustrates how people in a Sharesave would have been insured against losses. They could forget the option and simply claim their savings back.
Countrywide is hardly in a sweet spot at the moment. Given its current challenges – a stagnant housing market, disruptive challengers such as Purplebricks (PURP) – offering Sharesave makes sense. At the other end of the spectrum, Persimmon’s (PSN) share price more than quadrupled between 2012 and 2017. Each employee who saved the maximum £250 a month in its Sharesave over this period would have gained something approaching £40,000 last year.
Sharesave comes into its own with extreme movements in share prices. SIPs are generally more lucrative in gently rising markets, and pound-cost-averaging works particularly well when share prices fall initially (so that more shares are bought) and then recover.
Never simple
In practice, SIPs are more complicated than this. That five-year waiting time operates from each monthly purchase, so (unlike Sharesave) the shares become eligible for release in dribs and drabs. Dividends ought to be factored in too. There are none in Sharesave, but in SIPs they are normally reinvested in company shares and become tax-free after three years.
Then there are matching shares. Countrywide made its SIPs more attractive by adding one share for every two purchased by its employees until April 2016. After that, the match was raised to two for three. That’s expensive. Sharesave is cheaper.
So there are variations. The over-riding principle is that whatever type of SIP a company has, it must be the same for all employees. That’s fair but, perversely, that means that, because of the deductions from gross pay, higher-rate taxpayers enjoy a larger investment cushion (42 per cent) than basic-rate taxpayers (32 per cent).
Shares for free
As well as all this, companies can award all employees shares worth up to £3,600 a year within a SIP. Five years ago, when the government privatised Royal Mail (RMG), it wanted to give 725 free shares to each of its 150,000 employees. At the flotation price of 330p, these would have been worth £2,400, but the share price soared before the administrators had a chance to buy them. To stay within the SIP limits, they were bought in two tranches over adjacent tax years and since then, Royal Mail has given away more shares. By the time of its last annual report, its eligible full-time employees had each received a maximum of 913 shares and £863 in tax-free dividends.
Collectively, employees now own 12 per cent of the company, but this could reduce when that first tranche of 613 shares reaches its fifth anniversary in mid-October and employees are able to sell the shares tax-free for the first time. And that raises the question: does employee ownership matter?
Consensus
Employee share plans originated in the Lib-Lab pact of 1978-79, were expanded by the Conservative government (1980-97) and broadened with SIPs under Labour (1997-2010). Behind this rare three-party political consensus lies a meeting of values: appreciation of the benefits that employee ownership brings to companies, blended with a belief in a share-owning democracy.
The view is that an increased stake encourages employees to have a greater awareness of the company as a whole, its strategy and how they can make it work better. It helps boost engagement, and engaged employees become better team players. They go the extra mile, are more supportive of management initiatives and customer relationships improve. The company becomes 'us' rather than 'they' and energised employees become its unpaid ambassadors. Employee turnover is said to reduce, too. Royal Mail claims that its rate at 7.2 per cent is less than a third of the national average.
But is it actual ownership that drives this? One view is that participation in employee share plans achieves a similar inclusive effect. Suppose that Royal Mail employees choose to reduce their risk by selling shares in their SIP but then start a Sharesave option over a similar number of shares. Their ownership of actual shares would reduce but, the argument goes, their stake would stay the same and so would their level of engagement.
Success breeds success
Yet, despite this, few companies make the most of their all-employee share plans. One reason is that in the noise of everything else going on, the rationale for having them gets forgotten. Another is that, like so much in pay, their apparent simplicity is deceptive. Share plan professionals need to understand HR and pay, company law, finance, personal tax and corporate tax, together with having a firm grasp of administrative practicalities. In a silo management structure, a share plan professional is often regarded as a jack-of-all-trades, peripheral to all.
The fixation on pre-tax profits, which is how internal budgets are run, hardly helps. The plans are like any other product: they need marketing and administration. Finance teams baulk at the cost of these, even though the plans also generate cash. A SIP held for full term saves the employer national insurance of 13.8 per cent of the contributions. For a company that creates shares to satisfy its option commitments, Sharesave is like a mini discounted rights issue. A SIP is profit neutral. Sharesave saves corporation tax because accounting conventions require each grant to be charged to profits, even though there is no cash cost. Few of these tangible gains find their ways into departmental budgets. And the intangible benefits of increased engagement slip under the financial radar as well.
Some time ago, companies realised that as they succeed employee engagement tends to increase. So, incidentally, does share plan participation. Nothing markets shares – or employee share plans – better than a rising share price. HR professionals convinced companies that it works the other way: improve employee engagement and company success will follow. They assess engagement by opinion polls but people don’t always say what they really think. Employee share plans are a more tangible measure – they invite employees to put their money where their minds are.
Investor insights
So the number joining their SIP or Sharesave speaks volumes. It indicates both a company’s commitment to its employees and its employees’ commitment to their company. At Countrywide, despite all its efforts, 18 per cent (1,500 employees out of an eligible 8,300) joined that first Sharesave. 6,800 missed out, but that’s not too far out of line with the experience of other companies. The trend in participation could be seen as a measure of morale and cohesion, providing an insight into the confidence that employees have in their company. It deserves greater coverage in director remuneration reports.
There’s now another imperative. The gap between executive pay and employee pay is increasingly being scrutinised. Since executives are mostly paid in shares, high pay correlates with share price rises, so the benefit that other employees receive from shares ought to be factored in as well. Had Persimmon done this, it could have shaved a few percentage points off its embarrassing pay gap. It might be no coincidence that this year, its shareholders renewed its scheme. And raised the maximum that its employees can save each month to £500.
