16 August 2018
At First Names Group Hong Kong we are witnessing increased interest among organisations in employee benefit trusts (EBTs). Typically, this interest is coming as the companies prepare to list on the Hong Kong Stock Exchange or ready their business for sale. In this post I take a look at why we’re seeing such a spike in this form of employee incentive and what we can expect as the year continues.
The role of the Chinese “unicorn”
In recent months there has been much talk of the wave of Chinese technology start-ups now nearing the stage of going public. According to the Financial Times, China currently houses “one of the world’s biggest pools of unlisted companies with billion-dollar valuations,” while the Wall Street Journal reported in May that at least a dozen of these Chinese unicorns – with collective private valuations of roughly $500 billion – have been looking at launching an initial public offering (IPO) in the second half of this year or in early 2019.
To harness this surge and compete with the US and mainland China, in April the Hong Kong Stock Exchange (HKSE) successfully rolled out changes to its listings system with the aim of appealing specifically to Chinese technology IPOs. The new rules allow companies with weighted voting rights to list on the HKSE’s main board, as well as biotech firms that have not yet turned a profit.
On top of this, Hong Kong offers appeal through its strong financial infrastructure, geographical proximity to mainland China and access to a large array of international and mainland investors. As such, many of China’s leading start-ups are selecting Hong Kong as their preferred IPO listing destination. And we are experiencing a clear rise in EBT enquiries in line with this trend.
Why the interest in EBTs?
An EBT is usually a discretionary trust established for the benefit of employees of a particular company or group of companies. For example, not long ago I handled a client request for an EBT with over 500 employee participants – each entitled to a unit share in the scheme and will be issued with unit share certificates. An EBT committee was established to determine when and to how much each employee is entitled based on a predetermined formula, with the company’s HR department maintaining a register of unit holders and calculating dividend payments. As trustee, we established the trust structure, took care of the CDD screening of the scheme’s 500+ beneficiaries and will arrange distributions to the participants’ bank accounts as appropriate. Notably, this client plans to list in Hong Kong within the next few years.
The interest we’re seeing in the establishment of EBTs at times of significant impending business change, i.e. preparing for an IPO or sale, reflects a desire to incentivise and retain key employees while ultimately improving company performance.
In addition, while EBTs are primarily positioned as employee incentive schemes, the Chinese start-up giants and Hong Kong businesses preparing for sale are also interested in a trust’s power to protect cash flow by owing shares to employees instead of cash. Indeed, benefits provided to employee beneficiaries can include deferred compensation, loan benefits and cash bonuses but are most commonly share-based strategies, as per the above example.
Looking forward
Hong Kong topped global rankings in terms of IPO volumes in the first half of 2018, recording approximately 98 IPOs compared to the 35 seen by the New York Stock Exchange (NYSE) over the same period. It is true that NYSE’s IPOs were collectively worth more. However, EY has forecasted that a total of HK$200 billion (US$25.5 billion) in funds will be raised by IPO activities in Hong Kong this year.
It has similarly been predicted that a huge number of Chinese technology unicorns will likely launch IPOs in Hong Kong in the next 12 to 24 months. We therefore anticipate further EBT uptake as more firms prepare to go public.
We must of course acknowledge that the Hong Kong stock market is going through a delicate time at present, with the Hang Seng index falling as trade tensions escalate between the US and China. Already this has been seen to have a negative impact on the result of Xiaomi Corp’s high-profile IPO in Hong Kong last month. However, the second half of 2018 is still expected to be packed with Chinese IPO activity.
Overall the current trends we’re witnessing at First Names Group mark a positive step forward for Hong Kong, with many Hong Kong-born businesses and Chinese start-ups showing their dedication to retaining and motivating their employees while further cementing Hong Kong’s position as an attractive international finance centre.
Mable Sin is an Associate Director in First Names Group’s Hong Kong office, where she focuses on establishing and administering companies and trust structures – including employee benefit trusts – for a varied portfolio of international clients.
This article has been issued by First Names Management Limited on behalf of certain companies that form part of First Names Group. The article has been prepared for general circulation to clients and intermediaries, and does not have regard to the particular circumstances or needs of any specific person who may read it. Nothing in this article constitutes legal, accounting, tax or investment advice.
The information contained in this article has been compiled by First Names Management Limited and/or its affiliates from sources believed to be reliable, but no representation or warranty, express or implied is made to its accuracy, completeness or correctness. All opinions and estimates contained in this report are judgements as of the date of publication, and are provided in good faith but without legal responsibility.
