Employee Stock Option Plans are a fantastic tool for firms to use in recruiting and retaining top talent in their organisations.
The practice of giving employees a shareholding in the firm has become more widespread over the last decade. The term “ESOP,” which stands for “employee stock ownership plan,” refers to a specific type of employee benefits program. Participating in this plan will allow employees to acquire a share of ownership in the company they work for. These Employee Stock Option Schemes are generally offered in profit-sharing plans, bonuses, or direct stock for employees the firm selects. As an added incentive for employees to stay healthy long-term, the offered stock option plans can be exercised at any time in the future. In this blog, we take a more in-depth look at Employee Stock Option Plan and the components that go along with them.
ESOP Scheme for Private Companies in India
Private enterprises in India were first introduced to the ESOP concept in the Company Act 1956, which specifies the meaning of ESOP. Company’s Act 1956: https://www.mca.gov.in/Ministry/pdf/Companies_Act_1956_13jun2011.pdf defines ESOPs as “the option given to full-time directors, executives, or employees of a firm to subscribe or purchase to the company’s securities at a predetermined price at a future period.”
In 2013, the Companies Act was changed to include holding companies. As a result of the modification, holding or subsidiary firms of the parent company can also distribute equity shares and securities to employees as a reward.
There are new laws for employee stock option plans, ESOPs in India as of 2014. The following is the procedure that employers must take when issuing ESOPs to their staff:
- The first thing that needs to happen is for the company to develop an ESOP plan and have the approval of every shareholder. Once it was passed by “special resolution,” it should have been sent to the company’s Registrar of Companies for registration. This lengthy process was eliminated in 2015.
- When ESOP shares are assigned to employees, a ‘Letter of Grant’ indicates the number of shares, vesting duration, exercise price, and more. To be clear, options do not represent stock ownership but rather the right to do so.
- Employees can use their Letter of Grant options by filing an “Exercise Application” if they want. Once this is completed, the stock options will be converted into shares.
- Employees can cash out their stock options at the market price once the vesting period has expired.
Types of Employee Stock Option Plan
Stock option plans for employees can be broadly classified into four categories, as follows:
- Purchasing Plan for Employee Stock
In this case, the corporation gives its employees shares at a considerably lower price than the market value. It necessitates at least a year of service on the part of the employee.
- Employee Stock Ownership Program
In this case, the employee is issued options at a predetermined valuation, bound by the vesting duration and performance goals the person is expected to meet. After that, employees can exercise their stock options by paying the predetermined exercise price.
- Restricted Stock Units, RSU
When a specific event occurs, the employee is given a share of the company in return. In most cases, neither a vesting time nor an exercise price is associated with RSUs.
- Share Appreciation Rights, SARs
However, this isn’t quite an Employee Stock Option Plan, ESOP, because it doesn’t require the corporation to pay out money in exchange for the stock. Many organizations, however, employ SARs as their ESOP model.
Benefits of ESOP
- For the company’s benefit
As a result of these plans, employers can hold on to the best employees while still guaranteeing high levels of productivity at work.
- For the employees’ benefit
- The employees of an ESOP are eligible for financial rewards such as increased pay and perks and an increase in their overall wealth. Additionally, it makes it possible for them to retire in comfort.
- Employees have a higher sense of ownership in the company since they hold stock in its success. As a result, employees are more involved in the company’s decision-making process.
- Employees benefit from ESOPs by increasing job security and satisfaction at work.
There are several additional features to ESOPs, as well as the practice of allotting shares to workers as a reward for their loyalty and performance. In addition, it is essential to consider the tax implications of ESOPs before offering them to employees.
Who Are Using ESOPs?
Every employee shall be entitled to ESOP, excluding promoters and directors of a company with more than a 10% stake in the company. On the other hand, an employee must meet at least one of the following conditions:
- A full or part-time company director.
- An active worker for the Subsidiary, Associate, or Holding company who resides anywhere in India or outside the country.
- One is employed long-term by the company and works in one of its offices in India or abroad.
However, ESOPs cannot be granted to the following individuals or entities:
- Promoters or those who are part of the promoters’ network
- A direct or indirect director holds over 10% of the company’s outstanding equity shares.
Guidelines issued in 1999 regarding ESOPs
It is based on SEBI rules established in 1999 that serve investors’ guidelines. Under ESOPs, these rules control the legal and accounting requirements and practices.
In 1999, SEBI developed principles that serve as the basis for regulation, including:
- Complying with fair value accounting requires a mandated disclosure of the financial consequences of not doing so.
- The Director’s Report and financial statement provide specific disclosure guidelines for amortization of compensation costs throughout the vesting period on a straight-line basis, as well as comprehensive reporting of option statistics for vesting, grant, and exercise.
- SEBI regulations apply to any stock option plans implemented on or after June 1, 1999. Thus, these guidelines do not apply to the previous schemes.
Conclusion
Employee stock option plans, ESOPs are an excellent strategy for companies to entice and keep talented workers, but they come with a degree of risk for workers. As part of the Employee Stock Option Plan, the stock of the company is provided to the company’s most essential employees. To motivate and retain employees, ESOPs are issued to encourage them to participate in the company’s success. Before issuing the ESOP, a plan for issuing the ESOP needs to be established, and the organization’s members need to give their approval of that scheme during a general meeting. It takes a long time to go through the ESOP legal procedures. Therefore, for this matter, it is recommended that you seek the advice of an experienced Vakilsearch.
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