Shares vs options: whatâs the difference?
The important difference is that if someone owns shares, they are a shareholder immediately. With options, they have own...
Share options are typically used to help you attract and retain the employees, consultants and advisors by giving them the right to buy shares in the company in the future at a specified price. For advisors and consultants most times the options are granted with a close-to-zero exercise price, for example ÂŁ0.001 per share. For EMI options, the exercise price will normally be based on the EMI Valuation agreed with HMRC to give the maximum tax benefit.
But, what if you want to give share options to people who arenât employees or advisors? For example, you may want to give equity to early adopter customers to thank them for their loyalty, or to influencers as a reward for helping the company get more customers.
In this article weâll explain the best way to do that, what not to do, and what documents you may want to create to promise share options to customers, influencers, etc.
Yes, you can give share options to customers and influencers, but you need to take care when coming up with customer and influencer reward programmes that involve equity because rules around taxation and securities laws come into play. Thatâs why itâs normally large companies who reward customers with equity (like Dominoâs with its Piece of the Pie Rewards programme and T-Mobile with its Stock Up campaign).Â
In the UK there are Financial Conduct Authority rules regulating how companies and individuals are allowed to make âfinancial promotionsâ, which will impact how you communicate your equity reward programme â more on that here.
If youâve checked that you have all the necessary authorisations and safeguards in place, read on to learn how you can give equity to your customers or influencers.
The first decision to make is whether to give people shares in the company, or share options, which is the right to shares later.Â
We strongly recommend giving share options which can only be exercised at some point in the future â such as if/when you sell your company, or at a time in the future that you determine, like at a future funding round. This is important, because issuing shares comes with a lot of admin overhead, as well as potential tax liabilities for the person receiving the shares. By giving share options that can only be exercised at times that you determine in the future, it avoids you having to keep drip issuing shares to individuals one by one, where the admin overhead will drive you crazy.
Good news: You donât need to set up an option scheme to give options to customers or influencers.Â
When you set up an option scheme on SeedLegals, the scheme rules specify who is eligible to receive options under the scheme. Our EMI and Unapproved option schemes are designed for rewarding employees, advisors and team members to reward them for their work. Giving share options to customers in return for their buying your product is something different, which is why an employee or consultant share option scheme wouldnât be appropriate for that.
For example, our EMI and Unapproved option schemes includes a Leavers section which explains what happens to the options when an employee leaves the company or a consultant stops providing services to the company⌠which wonât work when giving share options to customers, since thereâs no concept of them being employed by the company.
So, instead of creating an option scheme, youâll do a standalone option grant. A well-drafted option grant will normally include at least the following details:
Letâs look at each of these in more detail below.Â
The option grant should specify what class of shares the customer or influencer will get when they exercise their share options. You may want to create a dedicated share class with no voting or dividend rights (on SeedLegals we suggest naming them B Ordinary (non-voting) shares), which will save you having to chase up dozens or potentially hundreds of minor shareholders every time a shareholder vote is needed.
The option grant should specify how many share options the customer or influencer will get. Companies typically create a 10% share option pool, which covers giving share options to employees and advisors. So if you plan to additionally give share options to customers or influencers, those could either come from that same option pool, or you might consider making a larger option pool to accommodate both needs.
Either way, assuming you want to allocate, say, 5% total in share options for customers, if you plan to give options to 1000 customers that would equate to 0.005% equity each. Thatâs not a hugely enticing amount, so our suggestion is to never promise a percent equity to customers (which also adds confusion at the percent changes as you add more investment later) and instead promise a fixed number of share options. For example, if youâve done a share split and have 1,000,000 shares, then you might offer 50 share options to each customer. That sounds interesting!
Want to learn more about giving advisors equity? Read our article on how much equity to give advisors.
Normally when you grant someone share options, they pay nothing at that time, itâs only when they exercise their grant later, to acquire the shares, that they will have to pay the exercise price per share multiplied by the number of options they want to exercise.
The exercise price could either be a nominal (close to zero) amount or the current market value of the shares, e.g. the price per share in your latest funding round. When granting options to customers and influencers, in most cases you wonât require them to pay anything to exercise their options later â youâre rewarding the person, not asking them to pay, but they will need to pay at least the nominal value per share (as in, your companyâs share price nominal value, which is usually ÂŁ0.01 per share or less). There may be different tax consequences to the company and/or the customer/influencer depending on the exercise price so you should speak with your accountant.
You should specify when and how the customer or influencer can exercise their options and receive the shares. For example, you might want to say that they can only exercise their share options on a sale or exit of the company, or at a future funding round, or when determined by the company.Â
Itâs useful to require the customer/influencer to give the company a written notice, called an âexercise noticeâ, when they want to exercise their options. This will give both the company and the customer/influencer certainty about whether the customer/influencer exercised the options before they lapsed. When the customer/influencer gives you the exercise notice, itâs also a good time to tell them that they need to transfer money to the companyâs bank account in exchange for the shares.
If you plan to give options to hundreds or thousands of customers or influencers, youâll want to only allow them to exercise their options at certain specific times â read on for more on this.
If you want to only allow a customer or influencer to exercise their options on a sale or exit of the company or some other liquidity event, you probably wonât need a vesting schedule. On the other hand, if you want to allow the customer/influencer to exercise their option before then, you should decide how those options will vest â in other words, how they earn those options.
There are many ways to structure a vesting schedule when you give options to a customer or influencer, for example:
You might want to set a time limit within which the customer/influencer has to exercise their options before they lapse⌠though if the company is deciding when the options can be exercised that may cover this.
If youâve done a funding round, chances are that any prospective shareholders first need to sign the companyâs shareholders agreement. If this is the case, and if you want your customers/influencers to be bound by (and privy to) your shareholdersâ agreement, itâs important that the option grant includes a condition that they canât exercise their options unless they sign a so-called deed of adherence before they get the shares.
If there are any other documents that you need them to sign (e.g. for taxation or compliance reasons) you should mention those in the option grant.
The use cases weâve seen are companies that want to give options to hundreds or even thousands of customers or influencers.
When thatâs the case, youâll need to carefully think about when theyâre allowed to exercise their options: on demand, or only on an exit or some other event determined by the company.
There may be business models and marketing strategies where it makes sense to allow customers/influencers to exercise options before an exit but in most cases, if youâre giving options to lots of customers or influencers, youâll probably want a really simplified structure:
Now that you understand the principles of giving share options to customers, influencers, etc., you might be looking for some sample wording to use.
If youâre giving ÂŁ10,000 worth of share options to an influencer in return for a series of social media posts youâll want a solid agreement that sets out what they need to do, any metrics that need to be met, etc., for them to be granted some, or all, of the agreed options.
On the other hand, if you want to give ÂŁ100 of share options to your first 100 customers youâre going to want to widely let people know that so they sign up, and youâre not going to be asking them to sign anything.
So each use case will be different â but as a rough example at the simpler end of the spectrum, hereâs the sort of wording that you might be inspired by which could be included in an email to the person, or in the Terms Of Service for the product theyâre signing up to, or in a contract that you send them:
Now that you know what you should include in the option grant, you can take this to a lawyer who can help you craft your terms of service and the option grant in a way thatâs both compliant with the relevant financial regulations and aligned with your marketing strategy.Â
As explained above, an EMI or Unapproved option scheme isnât appropriate for someone who isnât currently an employee or engaged by the company as a consultant or advisor, because in both cases theyâre designed so the options stop vesting when the person stops being an employee or providing services to the company.
So, if youâre looking for something more formal than a web site or email promise along the lines of the sample wording above, is there anything else you can do? The answer is. yes, a Warrant may be perfect for your use case.
A warrant, like an option, is a promise for shares in the future. But unlike options which are designed for consultants and employees, a warrant agreement is designed to let you give a right to shares in your company in the future for a much wider range of applications. For example, startup accelerators often ask for a warrant that gives them the right to a specified % equity in the company at the time of their next funding round.
You can easily create a Warrant Agreement on SeedLegals, itâs completely free for SeedLegals subscribers, youâll find it in the Agreements section.
Whenever you promise people options (whether by way of an Option Scheme, informally as above, or via a Warrant), youâll need to have an option pool created, otherwise you risk promising options to people that you canât satisfy at the point they wish to exercise the options.
If you havenât already created an option pool, you can do that easily on SeedLegals, head over to Shares > Create/Extend Option Pool to create the necessary shareholder and board resolutions.
One thing to note is that when you create the option pool, or set up an option scheme, the shareholder resolution to create the option pool will normally specify that the option pool is reserved for âemployees, consultants and advisors to the companyâ⌠so if your use case falls outside of that, you may need to amend the permissions to include your use case.
Lastly, itâs all very well promising options to lots of people⌠but what you donât want to happen is that one day you get an offer to sell your company, and now youâve forgotten who you promised options to (but they wonât have forgotten!).
When you grant options to employees or consultants under an EMI or Unapproved Option Scheme on SeedLegals the platform will track all the options grants for you. But these promises of options wonât be under an option scheme, so youâll need to track them yourself.
So be sure to create a spreadsheet, Notion page, etc., where you keep a record of everyone who youâve promised these options to:
Interested in giving share options to your employees as well? Learn how, why and when to do it in our free ebook.
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