Turkish Law Blog

Employee Stock Option Practises in Turkey

Selman Baltacı Selman Baltacı/ DNB Legal
09 February, 2020
350

Abstract

Employee Stock Option Plan (“ESOP”) have attracted tremendous attention during last decade and became one of the most controversial compensation methods, throughout USA and Europe. Corporations and especially startups, have been using the ESOP for managerial and non-managerial level of employees even tough ESOP originally were designed for top tier Employees. Since ESOP practices are dramatically increasing, ESOP is subjected to strict regulations in USA through Internal Revenue Code of 1986. On the other hand, ESOP practices are strongly considered as a compensation method in Turkey and probably will be commonly used in near future.

Introduction

Companies, naturally, aims to hire and retain highly qualified employees and improve their motivation and commitment to the work. If a company is not able to pay high salaries for qualified professionals or can not maintain the loyalty of Employee, ESOP might be the best method for the solution of mentioned problems, since it allows Employees to become a future partner, and constitutes a direct correlation between the success of Company and income of Employee.

There are currently 11.000 companies with ESOPs; many of these ESOPs are leveraged, meaning that the ESOP has borrowed money on the credit of the employer or other related parties to buy company stock. [1]

In accordance with the ESOP, Employee is granted with the option to buy specific amount of Company Stocks, at the price determined exclusively for the Employee if terms and conditions set forth in the Vesting Schedule is fulfilled. Besides, Employee is not obliged to use the option and may reject to use the option without stating any reason.

Procedure of ESOP

ESOP is consisting of following phases; Notice of Option Grant, Commencement of Vesting, Vesting Period and Exercise of the Option. In ESOP, Company grants an option to the Employee via Stock Option Notice and allows Employee to buy the certain amount of company shares at the exercise date over specific price determined exclusively for the Employee. Specific price determined exclusively for the Employee is called “strike price” and usually equals to the nominal value of the Company Stock at the signing date of Stock Option Agreement.[2]

Parties shall sign a Stock Option Agreement which specifies the understanding in respect of ESOP. Stock Option Agreement shall include but not limited to vesting schedule, amount of options granted, exercise date, method of exercise and miscellaneous clauses. Vesting schedule shall indicate the terms and requirements which shall be fulfilled by the Employee in order to have a right to use the option. Employee will not be allowed to use the option if requirements stated in the Vesting Schedule are not fulfilled.

Also, in accordance with the general practice, Company shall draft a Stock Option Plan which  clarifies the general management of ESOP. Stock Option Plan shall be the integral part of Stock Option Agreement and both documents shall be interpreted together. Stock Option Plan provides an information about the ESOP method, administration of Plan and designates the general framework of the ESOP.

Company is entitled to terminate the Stock Option Agreement via written notification if Employment Contract between Parties is terminated with or without cause or other another requirement stated in the vesting schedule is not satisfied. In this scenario, Employee will not be entitled to use the option. On the other hand, Employee will be entitled to purchase the amount of Company Stock over strike price if Vesting Period is ended and Employee has fulfilled all the terms and conditions stated in the Vesting Schedule.

If Company were commercially successful during the Vesting Schedule and Company stocks are dramatically increased from the signing date of Stock Option Agreement, since Employee is entitled to buy the stocks over the strike price, (nominal value of the stocks at the signing date of Stock Option Agreement) purchasing the granted stocks will be very profitable for the Employee. However, if Company were not successful as Employee expected or current value of the stocks are lower than the strike price, Employee probably will not exercise the option. [2]

In this structure, it is safe to say that Employee who is included in the ESOP, probably will be working hard for the success of the Company. Besides, Employee will be loyal to the Company in order to fulfill the terms stated in the Vesting Schedule and lastly, Companies will have a chance to hire and retain highly qualified Employees with lower prices thanks to ESOP.

Lastly, ESOP practices are granted with tax incentives through the tax regulations, in order to encourage to ESOP practices. [3]

As a result, if applied correctly, ESOP may provide win-win cooperation between Employee and the Company.

ESOP Practices in Turkey

As it is stated above, ESOP is subjected to the strict regulation in USA and Europe since it is commonly used complicated method. However, Turkish legislations does not provide any regulation about the ESOP since it is relatively new in Turkey.

However, in accordance with general acceptance, ESOP shall be accepted as the contractual relation between Employee and Company. Besides, Stock Option Practices in Turkey shall be interpreted in the light of 6102 numbered Turkish Commercial Code, (“TCC”) 6098 numbered Turkish Obligations Code (“TOC”) and 6362 numbered Turkish Capital Market Code. (“TCMC”) Following regulations clarifies that ESOP is applicable method in Turkey.

  • In accordance with the article 403 of TOC, Companies are entitled to grant additional interests and compensations to the Employee, other than the specified salary.[4]
  • In accordance with the article 463 of TCC, General Assembly of the Company is entitled to decide to conditioned capital increase, in order to provide further stocks to the Employees or creditors.
  • Lastly, in accordance with the article 380 of TCC, Companies are entitled to provide financial assistance to the Employees to allow them to acquire Company’s shares. [5]

As it is explained above, ESOP in Turkey shall be managed and construed with the general legislations, since it is relatively new. However, new regulations about the ESOP probably will be introduced by the Turkish law-makers in the following period since area of usage of ESOP is expanding day by day.

Downsides of ESOP

Even if ESOP provides numerous advantages both for Employees and Company, some of the disadvantages which may cause serious problems shall be noted and clarified.

First of all, stock options granted by Company to the Employee in respect of ESOP might be accepted as salary payment and disputes arising from the ESOP might be resolved in accordance with the Turkish Labor Code. In this scenario, indemnifications that will be paid by Company to the Employee will be increased since value of stock options are going to be included in the determination of indemnifications.

Also, Employee might be entitled to claim for the stock option receivables if Employment Contract between Parties were terminated by Company without cause.

Lastly, stock options granted through ESOP probably will be subjected to the income tax pursuant  to article 61 of the Income Tax Code. Mentioned article describes the salary as, “benefits which are paid by Company to its Employees in cash or in kind, in return of the services provided by Employee to the Company.” [6] In the light of this article, it is highly possible that stock option will be accepted as salary and will be subjected to the Income Tax.


[1]  Internal Revenue Code of 1986

[2] Leveraged ESOPS and Employee Buyouts - Vaughn Gordy, Neal Hawkins, Mary Josephs, William Merten, Rebecca Miller, Scott Rodrick, Corey Rosen, John Solimine – Preface – Oakland, CA

[3] Understanding ESOPs – Corey Rosen, Scott Rodrick – pg: 5 - Oakland, CA

[4] Turkish Obligations Code – Article : 403

[5] Turkish Commercial Code – Article : 463, Article : 380

[6] Income Tax Code – Article : 61

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