ESS Disclosure Requirements – A Roadmap (Part 1)

This article is Part 1 in a 3-part series on employee share scheme requirements under Part 7.12 Subdivision 1A of the Corporations Act 2001 (Cth) (the Act).

This article looks at the application of Part 7.12 Subdivision 1A to private companies in the context of disclosure obligations. Part 2 of the series can be found here, which looks at what the general disclosure obligations are.

To read about specific requirements for loan plans, contribution plans, or plans involving ESOP trusts you can read Part 3 here.

Introduction

Employee Share Schemes (ESS), commonly known as ESOPs, are an integral part of startup culture. While they are a useful and tax efficient means of granting employees and other service providers equity, ESS’s have the disadvantage of being subject to highly complex legal and regulatory requirements.

Part 7.12 Subdivision 1A (the Division) of the Act took effect at the beginning of 2023. It was introduced to provide clarity and regulatory relief for entities implementing ESSs. Among other things, the Division provides relief for disclosure obligations that usually apply when issuing securities in a company.

This article will examine the Division in the context of disclosure obligations. In particular, it will breakdown when startups putting in place ESSs can avoid disclosure obligations, and when disclosure obligations must be complied with.

Disclosure Obligations and Part 6D.2

Part 6D.2 of the Act sets out disclosure obligations that all companies must comply with when issuing securities. When ESS offers are made under the Division, Part 6D.2 does not apply. This is significant relief for entities, as the disclosure obligations under Part 6D.2 are onerous and expensive, making it difficult for companies to put in place ESSs for their personnel.

What is An ESS Under the Division?

Section 1100L gives a broad definition of an ESS and an ESS Interest. In the context of unlisted companies:

1. An ESS interest is a share, or an option over shares, in the company; and
2. An ESS is a scheme where ESS interests are offered to employees, directors, or other services providers (or relatives thereof) of a company.

Therefore, the Division captures all types of ESSs.

When Can the Division be Relied On?

The Division can be relied on, and therefore the disclosure obligations of Part 6D.2 can be avoided, if the offer is covered by one of the following sections:

1. s1100P (offers for no monetary consideration);
2. s1100Q (offers for monetary consideration); or
3. s1100R (offers that would otherwise not need disclosure).

Offers For No Monetary Consideration

Section 1100P applies to the ESS if:

1. no monetary consideration is to be provided for the issue of the ESS interest; and
2. if the offer is for options or incentive rights, no monetary consideration is to be provided on the exercise of the options or rights; and
3. if the ESS is being issued by a trust, requirements in section 1100S are complied with (as noted, these obligations are covered in Part 3).

Therefore, if an ESS meets these criteria, part 6D.2 does not apply. Therefore, disclosure obligations do not apply.

Offers For Monetary Consideration

Section 1100Q applies to the ESS if:

1. Monetary consideration is payable for either the issue of the ESS interests or, if the interest is an option, for the exercise of the option; and
2. All trust obligations, contribution plan obligations, and loan plan obligations are complied with (as noted, these obligations are covered in Part 3); and
3. The offer complies with the issue cap:
4. The issue cap can be specified in a company’s constitution;
5. If the constitution does not set an issue cap, the default issue cap for unlisted companies is no more than 20% of the issue capital of the company.
6. For unlisted companies, the monetary cap is complied with which (at a high level) means the ESS participant can not pay more than $30,000 per year in relation to the ESS interests. Please note, depending on the specific circumstances, the monetary cap may vary and the full requirements are set out in section 1100ZA of the Act; and
7. The disclosure obligations set out under sections 1100W, 1100Y, 1100Z and (for unlisted companies) 1100X are complied with.

Therefore, if an ESS meets the above criteria, Part 6D.2 disclosure obligations do not need to be complied with. However, special disclosure obligations set out under sections 1100W, 1100Y, 1100Z and (for unlisted companies) 1100X need to be complied with. These disclosure obligations are the subject of Part 2 of this article.

Offers That Would Otherwise Not Need Disclosure

Section 1100R(1) applies to the ESS if:

1. the offer would not require disclosure because an exemption to 6D.2 under section 708 (other than 708(1) or 708(15)) applies, or because 708AA applies; or
2. the offer would not require any person to be given a Product Disclosure Statement under Part 7.9 (if that part would otherwise apply) because of section 1012D (other than 1012D(5) or (6)) applies, or 1012DAA applies, or 1012DA applies.

Section 1100R(2) applies to the ESS if:

1. the offer would not require disclosure under Part 6D.2 because of subsection 708(1) applies. Section 708(1) applies to small scale offers, and is satisfied if:
   1. The offer is a personal offer. An offer is a personal offer if:
      1. The offer may only be accepted by the person to whom the offer is made; and
      2. The offer is made to a person who is likely interested in the offer (such as an employee or service provider).
   2. If accepted, the offer would not result in the company bringing on 20 or more new shareholders in a 12 month period; and
   3. If accepted, the offer would not result in the company raising $2m or more in a 12 month period.
2. the offer would not require any person to be given a Product Disclosure Statement under Part 7.9 (if that part would otherwise apply) because of 1012E(2); and
3. all trust obligations, contribution plan obligations, and loan plan obligations are complied with (as noted, these obligations are covered in Part 3).

Therefore, if an ESS offer would not require disclosure due to another exemption under the Act, the Division can be relied on. It is particularly worth noting that, in the startup context, section 708 is often able to be relied on. For startups, it is usually unlikely that ESS offers would result in more than 20 new shareholders, or $2m being paid to the company in consideration of securities.

However, it is important to note that if you are offering the ESS interests within the same year that you have undergone a raise, section 708(1) should be looked at closely to ensure these thresholds are not breached.

The Road So Far…

To summarise, if the ESS interests are being offered for no monetary consideration, or if they are being offered for monetary consideration but disclosure would not otherwise be required due to (among other things) section 708 of the Act, there are unlikely to be any applicable disclosure obligations.

If ESS interests are being offered for monetary consideration, and disclosure would otherwise be required, disclosure obligations are likely to apply. However, the disclosure obligations are the ones set out under the Division, not the obligations set out under Part 6D.2.

Part 2 of this article sets out the disclosure obligations that apply under the Division.

Reach Out

If you are looking to implement an ESS for your company, or if you have received an offer to participate in an ESS and want to know what your rights and obligations are, our team of commercial law experts at Allied Legal can help. We have in depth expertise when it comes to assisting startups with preparing and implementing ESSs, and making offers to eligible participants.

You can connect with one of our commercial law experts by giving us a call on (03) 8691 3111 or sending us an email at hello@alliedlegal.com.au.