Alert: New On-sale Restriction for Shares Issued on Exercise of Rights etc.

For more information on the new ESS Corporations Act provisions see our other Insights on:

• Full summary of the changes – Insight 139
• Critical update – Insight 143
• New ESS regulatory framework finalised – Insight 150

Two issues of concern have emerged being that:

1. As the new ESS provisions do not contain equivalent on-sale relief, there is potential for:
   1. inadvertent breaches of the law by employees, or
   2. employees being, in effect, compelled to retain shares for 12 months after issue and thereby possibly becoming:
      1. liable for tax before shares may be sold, and
      2. exposed to possible loss of benefit should the share price fall.
      3. This concern applies to offers made from 1 October 2022 under the new ESS provisions.
2. Because the COs are due to “sunset” on 1 April 2025, the relief provided under the COs will cease to apply to new Shares received at exercise after 1 April 2025 unless the COs are renewed, or similar relief is provided otherwise.  This will apply to all offers made in reliance on the COs prior to 1 October 2022, noting that many Rights have a life of up to 15 years.  It is important to note that this 2025 sunset date does not allow for new grants to rely on the CO up to this date, only that the relief provided in the CO will apply to grants made before 1 October 2022, up to this date.  This mainly relates to the 12-month-on-sale requirements relief.

It is understood that ASIC is seeking consultation on these issues and may take action to address these problems.  However, Boards need to be aware of these problems and prepared to address them just in case ASIC does not adequately deal with them.  The lack of on-sale relief in the new ESS provisions is an early indication that these matters may not be adequately addressed.

While it has been and continues to be possible to issue shares to directors, the CEO, other senior executives (s708) and overseas employees (outside the Corporations Act’s scope) without disclosure documentation in Australia, such issues are not exempted from the 12 months on-sale restriction unless a cleansing notice is lodged with the stock exchange within 5 days of the issue. For many companies, the ability to issue a cleansing notice regularly following each exercise date cannot be relied upon and the issuing of such notices is therefore not a reliable solution.

Current Disclosure Requirements Summaries

Following are two tables dealing with disclosure and other Corporation Act compliance requirements that relate to ESSs for Australian and overseas employees of Australian companies.

The grey shaded areas of the tables indicate where the potential problems may occur.

The information provided in this Insight is general in nature and therefore each company should seek independent professional advice related to their plan rules, offers and circumstances.

Actions That May be Taken

Alternatives to Manage the Problem

There are several approaches that may be introduced to overcome the on-sale disclosure requirement or disposal restriction problem, including the following:

1. Use an employee share trust (EST) to accumulate the shares needed to settle rights, options etc. more than 12 months before settlement so that no shares provided on settlement of exercised rights, options etc. have been issued less than 12 months before the exercise.  This approach presents two substantial problems, being:
   1. for companies with rising share prices, of resulting in a lesser tax deduction for the company (via contributions to the EST to fund the acquisition of shares at exercise), and
   2. the challenge of trying to predict the number of shares that will be required to settle rights or options, 12 months before performance assessment and/or likely exercise.
2. When rights, options etc. are exercised, contribute the funds to acquire the shares to an EST and have the EST trustee acquire the shares on-market.  This approach can be cash flow costly for companies and can result in additional administrative complexity for the trust, as it will be holding unallocated shares and penal tax will apply to any dividends received etc.
3. Apply a 12 month disposal restriction to shares to be acquired on exercise of rights, options etc. if they are to be newly issued at exercise.  This approach may not be acceptable to employees who wish to sell shares soon after rights, options etc. are exercised.
4. If the plan is an Indeterminate Rights plan, settle at least 50% in cash to pay the tax liability as a minimum (may be necessary for foreign participants, tax withholding and sell-to-cover arrangements in particular).
5. Apply to ASIC for company/plan-specific relief.

Make a Submission to ASIC

If the problems identified in this GRG Remuneration Insight are of concern to you or your company, then it would be appropriate to lodge a submission to ASIC, setting out your views on these matters issues and asking ASIC to take corrective action.  GRG has lodged a submission, and understands that any other submissions need to be provided to ASIC by 22 August 2022.