Pre-IPO? Consider a New Equity Plan

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By Kateryna Kyryllova. When privately held companies prepare for an IPO, they have to consider many areas that will be undergoing substantial transformation, such as accounting, legal, corporate governance, and equity incentive programs. The latter is especially important as equity compensation is a key element in the creation of shareholder value.

Radford, a trusted provider of compensation and benefits data and partner of Certent, recently published an article highlighting findings from their five-year study examining key shifts in compensation strategy occurring just before and after IPO events. According to Radford, the strategic changes in compensation plans usually occur at the time of the IPO and involve the adoption of a new equity incentive plan (EIP) or a new employee stock purchase plan (ESPP): EIP Radford names two of the biggest advantages private companies will see from introducing new employee pay plans prior to going public as (1) the ability to add a variety of equity award types that will allow companies to be more nimble after going public and (2) approvals for an equity plan are much more contained and easier when a company is private vs. public. By designing a new equity plan, companies will have the opportunity to include the option to grant additional award types, including performance shares. Also, developing a new equity plan while still private can be more cost effective and less complex, as approvals will likely only need to come from founders and investors.

Whether introducing a new equity compensation plan or redesigning existing plan, there are a few legal and compliance considerations you need to examine before going public:

  • Compliance with Section 409A: the underwriters will scrutinize your company searching for 409A issues; the violation of this regulation will result in additional income taxes for your employees.
  • Section 162(m) sets a $1M limitation for executive compensation for public companies; however, qualified performance-based awards are exempt from this rule – consider these types of awards in your plan.
  • Section 10(a) requires proxy statement disclosure of the material features of a compensation plan. Evaluate whether prospectus supplements describing non-U.S. tax consequences are required.
  • Section 16 imposes restrictions on when and how corporate “insiders” (corporate officers, directors and greater than 10% shareholders) may buy and sell shares of company stock. Following an IPO, the directors and officers of the company before it became public may be required to report certain pre-IPO transactions to the SEC.

Preparing for an IPO is a lengthy and laborious process, and re-designing or creating a new equity plan requires a lot of groundwork and coordination with the board, legal, taxation, and accounting departments. But, doing so prior to the IPO is a best practice that can save companies time and money. Private companies rely on Certent’s Equity Management solution as our platform supports companies through the transition from private to public.

Learn more about the key changes required for your equity compensation program and how to manage them in Certent’s Getting IPO Ready on-demand workshop.

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