Business owners and C-level executives may consider whether it is more profitable and effective to issue real equity or phantom stock to employees. The answer to this question varies based on a company’s culture and structure.
the differences between real equity and phantom stock
Both real equity and phantom stock incentivize employees to innovate and stay with a company longer because they benefit directly from their company’s growth at a deferred date in the future. Where the major difference lies is whether employees are issued actual stock or shares of the company.
With real equity, employees are issued actual shares of the firm as securities or stock. Employees become shareholders, which means they gain voting rights in the company, dividend rights, and capital gains once their shares complete a vesting period.
Phantom stock plans provide deferred compensation to employees in an amount equal to a certain number of shares of the company’s stock. However, no actual stock is given to the employee, so they do not have equity ownership in the company.
In cases involving closely held family businesses or charities, issuing real equity could be detrimental. Minority shareholders could seriously disrupt the operations and practices of family businesses that do not want such interruptions. For example, minority shareholders could exercise their voting rights to vote in dissenting ways, sue for dissolution, or demand inspections of records. Closely held businesses may want to consider issuing phantom stock instead, so that they can improve long-term loyalty without dealing with additional shareholders.
Both phantom and equity stock further the goal of long-term employee loyalty. However, where they differ is in their shareholder structure. Companies that do not want to add additional minority shareholders may want to issue phantom stock. Contact your trusted Chugh, LLP attorney for help choosing and implementing employee stock options.