An ESOP involves a discretionary trust which holds shares for the benefit of employees. It can therefore be used to balance supply and demand and to warehouse company shares until they are needed. An ESOP can be used to create an internal market, as it is often a captive and controlled purchaser of shares from employees who leave the company or from those employees who may just want to realise some of the value of their investment. An annual valuation (or more frequent, if required) of your company shares will help employees understand the performance of their company and the impact on their shares. The ESOP can then act as a purchaser (or indeed seller where demand outstrips supply) at that price.

The company will finance the ESOP, either by a gift (which may result in a tax deduction) or by a loan. Such a structure can be used in many different circumstances:

Management buyout

Undervalued shares

ESOP as a warehouse

Management buyout

A company may earmark some of its share capital for employees at the time of a buyout, but may not wish to release the shares to employees until certain performance targets have been reached or until the date of eventual exit.

Undervalued shares

Where a company has entered into commitments to issue shares to employees under a share option plan and where those shares are undervalued in the market, the company may avoid issuing new shares and thus diluting other shareholders by establishing an ESOP to purchase shares in the market now at today's price. The shares will be held in the ESOP until the intended date of release.

ESOP as a warehouse

Shares held in an ESOP can be released to employees under a wide variety of plans, including discretionary EMI and Company Share Option Plans, SAYE plans, or Long Term Incentive Plans.