Decoding The Role Of ESOPs In Startups And Private Limited Companies

In recent times, ESOPs have become common phenomena among companies to retain top talent. ESOPs are an attractive proposition for employees and is of huge importance in the corporate sector today.

This goes without saying that the Employee Stock Options in India has gained immense popularity in the recent times with the emergence of a vibrant startup ecosystem in the country.

Why Raising Funds Is Not The Greatest Thing For A Startup

In today’s age, the high-performing employees are not contended with mere salary as they have a drastic change in their mindset. Employee Stock Option Plans (ESOP) or Employee Stock Option Schemes (ESOS) have proved to be great tools in order to build a talented team which is extremely crucial in today’s business environment.

Here is a brief on the Employee Stock Options in a private limited company.

What Is Employee Stock Option Plan (ESOP)

The Employee Stock Option Plan (ESOP) is the option that is being offered by a company to employees to purchase the shares of the company at a future date at pre-determined prices. ESOPs provide the employee a right to purchase the share, but not an obligation, to purchase a certain amount of shares in the company at a predetermined price for a number of years.

It is crucial to keep certain points in mind while planning an ESOP:

  • ESOP provides the employee of the organisation an option or a right to purchase the shares of the particular company that are valued at a pre-determined price and this is not an obligation at all. Thus, if the shares of a particular company is valued at a price which is lesser than the option excise price, then the concerned employee need not require to purchase the shares of the company.
  • ESOP have an ESOP excise price which is the pre-determined price at which the shares of the company can be bought by an employee at a future date.
  • ESOPs possess a Vesting Period and Vesting Percentage. Vesting Period is the measurement of time that the employee requires to work with the company in order to be eligible for the ESOP.
  • ESOPs also come with an excise period which is pre-determined period within the option have to be necessarily exercised by the company.

The Importance Of ESOP

Offering of the ESOPs would certainly continue to be a great way especially for startups in order to recruit the highest performers in to their teams.

The idea behind the offering of ESOPs to the employees is in order to bring in the interest of the employees into the company. The shareholders are certainly interested in maximising the overall value of the shares offered by the company in order to improve the overall financial and operational performance of the concerned company.

Therefore, by providing the ESOPs to the employees, they are rewarded whenever the stock price increases. So when the company issues ESOPs to the employees, then the shareholders and the employees strive to chase a common goal.

ESOPs Offering In A Private Limited Company

There are certain rules which are to be adhered to while offering ESOP in a Private Limited Company in India:

  1. ESOP are legally provided to the following categories of employees:
  • A permanent employee of the company who is either working in India or outside India.
  • A Director of the company, irrespective of the fact whether he is a full time Director or not.
  • An employee who works in India or outside India or of a holding company or any associate company.
  1. ESOP is not allowed to be offered to any employee who is a promoter or any person who belongs to the promoter group or a Director who either himself or through his relatives directly or indirectly holds more than 10% of the outstanding equity shares of the concerned company.
  2. The ESOP has to be necessarily approved by the shareholders of the concerned company by passing a special resolution accompanied with an explanatory statement.
  3. The company which is granting ESOP will hold the option of determining the exercise price of the ESOP.
  4. There has to be a minimum period of one year between the grant of option and the option of vesting.
  5. The ESOP granted to an employee is non-transferable.
  6. Each year the Board of Directors should report about the ESOP plan in the Directors Report.
  7. The concerned company should maintain an ESOP Register and thus maintain all the information about ESOP that are granted to the employees.
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