The acquisition of company shares as a form of employee compensation is still not widely used in practice, at least not to the extent that this practice is utilized in other, primarily Western, countries. However, this method of employee compensation is gradually becoming more common in our country as well and is finding its place in the operations of many companies, thanks to the numerous benefits it offers. Unlike in the past, when stock plans were reserved primarily for management groups, today the acquisition of company shares represents a proven method of rewarding even regular employees.
In addition to the financial benefits provided to employees, there are other positive aspects that employee stock ownership offers to both parties—that is, both the employee and the employer. Among these aspects is, in particular, an increase in employee interest, as the employee moves from a purely employee role to a position akin to that of a company owner by becoming a shareholder. This entire process has a positive effect on the employee’s motivation to take an interest not only in their individual role within the company but also to better understand their position as part of a collective striving toward more long-term goals than just the next paycheck. A basic condition for granting employee shares is usually that the employee remains with the company for a certain agreed-upon period, which also contributes to building employee loyalty and reducing the employer’s significant financial and time costs associated with conducting recruitment processes and training new employees. The amount of income an employee derives from their shares depends on the employer’s financial performance, thereby motivating the employee to contribute as much as possible to achieving the employer’s goals. From the employer’s perspective, this form of compensation has positive effects on cash flow management and also helps retain key employees.
Company shares also play a significant role today, serving as a profit-sharing incentive for suppliers or other key business partners, meaning they are not limited solely to employees. They are used primarily in the growing startup sector, which relies more frequently on the services of freelancers and suppliers than on hiring employees.
The legal framework for employee stock options therefore encompasses both labor and commercial law, and tax considerations are also crucial.
Shares and Types of Shares
A share is a type of security that represents the shareholder’s rights as a partner to participate, in accordance with the law and the company’s articles of association, in the company’s management, profits, and the liquidation surplus following the dissolution of the company with liquidation.
A joint-stock company may issue only those types of shares explicitly specified in the Commercial Code; however, an amendment to the Commercial Code effective January 1, 2002, abolished employee shares as a separate type of share, effective no later than January 1, 2004. The main reason for the abolition was the implementation of the Second Capital Directive, which emphasizes the principle of establishing and maintaining the amount of share capital. Since employee shares, as originally regulated in our legal system, allowed for a certain portion of the par value to remain unpaid, they came into conflict with this directive.
Currently, therefore, Slovak law provides for only two types of shares based on the scope of rights to which the shares entitle their holder—common shares and preferred shares. Common shares always carry voting rights and are not associated with any special rights. Preferred shares grant the shareholder a priority right to dividends, provided that the aggregate of their par values does not exceed half of the share capital.
Although employee shares are no longer defined as a separate class of shares, the legal framework for joint-stock companies continues to provide for the acquisition of shares by employees and also offers certain benefits to employees when acquiring company shares, or preferential treatment or a simplified procedure for the issuance of shares to company employees (Sections 161a(5), 161e(2) (effective January 1, 2024, this will be 161e(7), 178(4), 203(1), Section 204(4), 204a(7) of the Commercial Code).
Existing Legal Framework for Employee Shares
Slovak law generally addresses the issue of employee shares as well, but only in the context of a simple joint-stock company. The fact that Slovak law mentions this topic only marginally can be seen as an advantage for the possibility of flexible corporate structuring when planning the introduction of an employee share scheme.
The purpose of this legislation is precisely to support and develop startups, including by making equity participation more attractive (easier) for individuals whose activities are related to fulfilling the company’s business purpose.
By law, several conditions must be met for a company to be able to subscribe to shares constituting its share capital. First and foremost, the subscription of treasury shares by the company must be approved by the company’s general meeting. This approval must be granted in advance (i.e., before the subscription of treasury shares) and must simultaneously specify the conditions under which the company may subscribe to its own shares (primarily the maximum par value of the shares the company may subscribe to and the period during which the company may subscribe to the shares, which, however, may not exceed 18 months). The second condition is that the subscription of treasury shares must be restricted solely to cases where the shares are intended for transfer to the company’s employees and to other natural persons conducting business on the basis of a trade license or on the basis of a license other than a trade license, whose work results for the company are subject to intellectual property rights (i.e., persons directly involved in the company’s production process). The shares must be transferred to these persons within five years of their subscription by the company. At the same time, the company’s equity must not fall below the sum of the share capital and the reserve fund as a result of the subscription of treasury shares (third condition), and the sum of the par values of the shares subscribed by the company that constitute its share capital must not exceed 20% of the company’s share capital (fourth condition).
If the company’s articles of association provide for and regulate this option to acquire treasury shares, the company may, even without prior approval by the general meeting, acquire its own shares for the purpose of their subsequent transfer to the company’s employees or to other natural persons conducting business on the basis of a trade license or on the basis of a license other than a trade license, whose business results for the company are subject to intellectual property rights.
It follows from the above that specific legal provisions governing employee shares exist only in the context of simple joint-stock companies; for other types of companies, the general rules for share transfers must be followed when transferring shares to employees. As we have already mentioned, in addition to the general rules for share transfers, the law also provides for certain benefits when employees acquire company shares.
Options for Slovak Companies to Provide Employee Shares
In Slovakia, companies primarily have three basic options for providing shares to employees (or other persons, such as suppliers).
The first option is the direct transfer of a business interest or company shares, whereby the transfer occurs upon the employee making a nominal contribution.
The second option involves granting the right (an option) to acquire company shares in the future at a predetermined price, which is in most cases lower than the market price. We will discuss the acquisition of employee shares through stock option plans in more detail in a separate article.
The third option is the issuance of phantom shares or equity interests in the company (so-called phantom stocks), whereby no actual shares or equity interests are provided, and the employee does not become a registered owner of the company, which is what primarily distinguishes this option from the first and second options. What is significant here is the so-called phantom interest in the company’s business, which is comparable to a silent partnership and may offer certain tax benefits. The employee acquires the phantom interest based on a contract with the company, and it grants them the same scope of property rights and benefits as regular shareholders.
To ensure a proper and mutually beneficial structure for employee stock options, it is important to involve both a lawyer and a tax advisor with prior experience in employee stock option matters during the planning of the stock issuance system. In addition to the actual structure of the rights and obligations associated with employee stock, this arrangement also entails several tax and contribution obligations for both the employee and the company. However, these should not deter the company from implementing an employee stock plan.
