In November 2013, ASIC announced a review of its regulatory guide and class order for employee incentive schemes in the form of ASIC consultation paper CP 218. This review was long overdue given the practical problems associated with the former ASIC relief for employee shares schemes in ASIC class order CO 03/184. ASIC has now delivered an updated regulatory guide (new RG49) and two new class orders – one for listed bodies (CO 14/1000) and one for non-listed bodies (CO 14/1001). This update focuses mainly on the new relief for listed bodies because that relief is the most relevant to our clients, but does briefly cover the new relief for unlisted bodies.
Although there remain some issues with the class orders, the class orders represent a significant step forward in the regulation of employee incentive schemes. We will mention some of the benefits of the new class orders and some of the remaining problems below, but first it is useful to consider transition issues after some brief general comments on the updated regulatory guide and new class orders.
What do the updated regulatory guide and new class orders allow?
ASIC's relief for employee incentive schemes allow entities to offer equity interests (including shares and, in the case of listed entities, stapled securities) in the entity to employees and some contractors of the corporate group without the need for a prospectus (or product disclosure statement) in circumstances where other exceptions to the need for a prospectus (or product disclosure statement) do not apply. This relief has been used extensively in the past and is essential if broadly based equity offers are to be made (as is necessary to secure some of the taxation benefits available for employee incentive schemes).
The ASIC relief is subject to a number of conditions, but generally speaking those conditions are not onerous where listed entities are involved. The key policy justification for the relief is that the employee incentive scheme be designed to support interdependence between the entity and relevant participants for their mutual long-term benefit.
Transition to the new class order
The first good news is that ASIC has included a very useful transitional provision in the new class orders – entities that have previously made employee incentive scheme offers under CO 03/184 (and certain similar relief) may continue to make offers under the terms of that relief. This means that no change need be made to plan rules or offer documents if an entity just wants to continue to make offers in the same form as previously (assuming, of course, that those offers previously complied with CO 03/184 or the similar relief). Naturally, such offers will not benefit from any of the changes in the new class orders.
The new class order for listed entities
Benefits of the new class order for listed entities
ASIC has plainly put a lot of effort into the new class order. It is much easier to read than CO 03/184 and it addresses a lot of perennial problems with CO 03/184. Some of the improvements include:
- Removing the requirement to lodge offer documents with ASIC within 7 days of an offer being made. Instead, ASIC will now only require a once-off reliance notice to be lodged with ASIC within a month after the first offers are made under an employee incentive scheme (but the notice may, and should in practice, be given before first offers are made). Additionally, ASIC is given the power to require a person relying on the new class order to provide it with copies of offer documents on request.
- Extending the instruments covered by the class order so that they now clearly include performance rights which do not need to be exercised whether the shares provided on vesting of the performance rights are provided by issue or transfer. This change is particularly helpful given the increased reliance on non-exercise based performance rights after the 2009 tax changes.
- Allowing offers of 'phantom equity' and cash alternatives to be made under the class order.
- Allowing offers of interests in registered schemes where those interests are quoted on an eligible financial market.
- Allowing offers to be made to contractors, casual employees and prospective participants (which better reflects the tax laws).
- Clarifying that offers to non-executive directors are permitted.
- The problematic requirement formerly applying to 'offers through a trust' that the beneficiary possess substantially the same rights as a legal owner has been abolished. (However, some additional rules about contribution plans may apply.)
- Facilitating offers of depositary interests (including CHESS Depositary Interests, CREST Depositary Interests and some type of American Depositary Receipts) or underlying financial products where the depositary interests or underlying financial products are quoted on an eligible financial market.
- The class order makes it clear that documents can be given by electronic means, including by making them available on a website.
Additional requirements of the new class order for listed entities
It is not all give in the new class order. ASIC has also imposed some new requirements. In addition to the requirement to lodge a reliance notice (see above), these include:
- A requirement to disclose general information about the risks of acquiring and holding financial products held under employee incentive schemes;
- The rules concerning trusts will apply in all circumstances where financial products are held or will be held by a trustee, not just where there is an 'offer through a trust'.
- A 5% limit on the total number of financial products held under employee incentive scheme trusts.
- The rules imposed on contribution plans apply to a larger class of plans, but the scope of the new definition is not entirely clear. Additionally, participants in contribution plans are required to have voting and dividend rights.
- Interest is not permissible on loans associated with employee incentive schemes. This means that it will not be possible to have loan based plans where dividends are set off against interest.
Problems remaining with the new class order for listed entities
Despite the many advances that have been made with the new class order, ASIC has not addressed all the problems that users of CO 03/184 have experienced in the past. Outstanding issues include:
- Not all existing case-by-case relief that relies on CO 03/184 is covered by the transitional relief. In particular, it is doubtful that relief for 'phantom equity' would be covered.
- There continue to be subtleties in the application of the 5% issue cap.
- Discussions and documents that refer to upcoming offers under an employee incentive plan are still not clearly exempted from the advertising and hawking restrictions in the Corporations Act, although the extent of the new wording is difficult to determine.
- Offer documents still theoretically require a copy or summary of all the rules of an employee incentive scheme even where the offer only relates to a small subset of those rules.
- There continue to be parts of the class order which are difficult to understand.
The new class order for unlisted entities
Benefits of the new class order for unlisted entities
ASIC has also put a lot of effort into this new class order. Some of the same improvements that apply for listed entities also apply to unlisted entities. Together with the proposed tax changes announced 2 weeks ago, there are some significant improvements proposed for unlisted 'start-ups'.
The most significant change is that some offers can now be made without the need for the issue of a prospectus in the future. Some of the other improvements applicable to unlisted entities include:
- Extending the relief to cover offers of instruments other than options over shares – offers of shares and incentive rights (performance rights and cash equivalents) are now permitted. However, offers of shares must not be for more than nominal consideration and offers of incentive rights (as offers of options) and which require more than nominal consideration to be paid on exercise or vesting cannot become exercisable or vest unless shares in the unlisted entity have become quoted on an eligible financial market for at least 3 months without suspension for more than 5 days or an up-to-date valuation document (a prospectus or other disclosure document, an independent expert's report on the value of shares or a third party sale or subscription agreement) is given.
- The 5% issue limit is replaced with a 20% issue limit.
Additional requirements of the new class order for unlisted entities
ASIC has imposed some additional requirements for offers by unlisted entities. In addition to the requirement to lodge a reliance notice (like that applicable to offers by listed entities), these include:
- A $5,000 limit on the value of all offers to any participant in any 12 month period.
- A requirement that the offer be accompanied by a copy of the entity's annual report, an up-to-date solvency resolution and an up-to-date directors' valuation resolution. There is also an on-going requirement to provide annual reports, on request, during the period a relevant person participates in the employee incentive scheme.
- Requirements that the offer document include prominent warning statements including that the eligible products offered may or may not have any value and whether they do will depend on future events that may or may not occur.
- A requirement to disclose general information about the risks of acquiring and holding financial products held under employee incentive schemes.