Phantom shares are a nowadays popular type of stock commonly incorporated into employment contracts. Many companies offer their employees phantom stock ownership of any form, as a part of their compensation.
Their name “phantom” attempts to explain their composition. These shares allow employees to have a symbolic and economic right over the stock, but not actual equity ownership. As such, employees are given units of phantom stock which are equal in value to one share of common stock. Hence, they are awarded with profits from the appreciation of the company’s common stock. It is common that the higher the employee’s position within the firm, the larger the phantom stock plan given. This payment tied to the market value of the actual shares is given through a delay mechanism. It implies that the financial payouts are made after some time, usually a period of two to five years.
Why do businesses use them?
Firms attempt to use phantom stock to align their employee’s interests with those of the company. The more prosperous the company, the higher the value of its shares and therefore a great monetary incentive for the members of staff. Moreover, phantom equity does not hold many of the conditions of actual equity, such as giving actual voting rights to the share owners or eligibility for dividends. Hence, many potential issues are avoided, such as tensions and distortions of the corporate structure as well as risk of abuse of political shareholder rights.
These shares are also strategically used to increase employee fidelity through the implementation of a vesting period. Throughout this period, the number of shares given to a particular employee increase and incur a condition of permanence in order to receive the benefits at a certain point in time, thus making it the employee’s best interest to stay in the company.
How to incorporate them into employment contracts?
When implementing phantom stock plans as compensation, companies tend to choose between two types. The first is based on appreciation only stocks, whereby beneficiaries are prevented from profiting from the current value of the stock. Instead, they only earn a profit when the phantom stock appreciates over a specific period of time. Otherwise, the second option consists of a full value deal. Under such, the beneficiary can earn the current value of the stock as well as any appreciation once the due date lapses.
Moreover, if it wishes to, the company can designate the employee beneficiaries the accumulated value of the dividends they would have been able to receive had they been real shareholders, given as phantom dividends.
Therefore, phantom shares provide a highly valuable financial instrument that ensures employee retentiveness with very few drawbacks, as if there is no stock price appreciation, no money is directly lost by either party. Further benefits arise from the freedom and flexibility surrounding phantom shares, through which companies are able to formulate and execute their phantom stock plans in whatever way suits them best.