Employee Stock Option Plan (ESOP): Allotment of Employee Stock Option Plan (ESOP)
Employee Stock Option Plan (ESOP): Allotment Process and Legal Framework
An Employee Stock Option Plan (ESOP) is a scheme through which companies grant their employees the right to purchase company shares at a predetermined price, typically after a specified vesting period. The allotment of ESOPs is governed by the Companies Act, 2013, relevant rules, and, for listed companies, by SEBI regulations.
Steps in ESOP Allotment
1. Plan Design and Approval
The company drafts an ESOP scheme, specifying eligibility, allocation criteria, vesting schedule, exercise price, and other terms.
The ESOP scheme must be approved by the Board of Directors and then by shareholders through a special resolution in a general meeting.
For listed companies, the scheme must also comply with SEBI (Share-Based Employee Benefits) Regulations.
2. Grant of Options
Eligible employees are granted options as per the approved plan. Grant letters are issued outlining the number of options, vesting schedule, and exercise price.
Options cannot be transferred, pledged, or mortgaged.
3. Vesting Period
Employees must serve a minimum vesting period (at least one year) before they can exercise their options.
Vesting can be time-based or performance-based, as defined in the plan.
4. Exercise of Options
After vesting, employees can exercise their options within a specified exercise period by paying the exercise price.
Upon exercise, the company allots shares to the employee, making them shareholders.
5. Allotment of Shares
The company issues and allots shares to employees who have exercised their vested options.
Employees become shareholders and are entitled to dividends and voting rights from the date of allotment.
Legal and Regulatory Framework
Applicable Laws
Companies Act, 2013: Section 62(1)(b) and Rule 12 of the Companies (Share Capital and Debentures) Rules, 2014 govern ESOP issuance for all companies.
SEBI Regulations: For listed companies, SEBI (Share-Based Employee Benefits and Sweat Equity) Regulations, 2021 apply, specifying eligibility, pricing, disclosures, and vesting requirements.
Eligibility
Permanent employees, directors (excluding independent directors and promoters), and employees of subsidiaries or holding companies are eligible.
ESOPs cannot be issued to promoters, promoter group, or directors holding more than 10% of equity, unless the company is a startup within the first ten years of incorporation.
Pricing and Valuation
The exercise price must be determined transparently and should generally not be less than the fair market value as determined by an independent valuer.
Disclosure and Reporting
The company must disclose details of ESOP grants, vesting, exercise, lapsed options, and resultant shares in the Board’s report and to shareholders.
ESOP Allotment Process
| Step | Description |
|---|---|
| Plan Design | Draft ESOP scheme, define eligibility, vesting, and pricing |
| Board & Shareholder Approval | Obtain approvals via special resolution |
| Grant of Options | Issue grant letters to eligible employees |
| Vesting Period | Employees complete minimum vesting (≥1 year) |
| Exercise of Options | Employees pay exercise price to convert options into shares |
| Allotment of Shares | Company allots shares, employees become shareholders |
| Compliance & Disclosure | Ensure legal compliance and report in Board’s report and to regulators |
ESOPs are a tool for employee motivation, retention, and alignment with company goals.
Allotment is subject to strict legal and procedural compliance, especially for listed companies.
Employees do not own shares until they exercise their vested options and shares are allotted.
Companies must maintain a register of granted, vested, exercised, and lapsed options at their registered office.
The ESOP allotment process, while rewarding for employees, requires diligent adherence to statutory requirements to ensure transparency and protect the interests of both employees and shareholders.
An Employee Stock Option Plan (ESOP) is a benefit plan that gives employees the right to buy company shares at a predetermined price, often as part of their compensation package. It aligns employee interests with company performance, incentivizing long-term commitment and value creation. Below is an overview of the allotment process for ESOPs based on available information:
ESOP Allotment Process
The allotment of shares under an ESOP involves several key steps, typically governed by company policies and, in some jurisdictions, regulations like the Companies Act 2013 in India.
Design and Approval of the ESOP Scheme:
The company defines the objectives of the ESOP, such as the level of employee ownership, eligibility criteria (e.g., full-time employees, seniority, or role-based), and the size of the stock option pool (typically 5-15% of total shares).
The plan is approved by the company’s board of directors and, in some cases, shareholders, ensuring compliance with regulations (e.g., SEBI in India or IRC section 4975(e)(8) in the U.S.).
Creation of ESOP Pool:
A pool of shares is reserved for the ESOP, representing a portion of the company’s equity to be granted to employees over time. For example, a company might allocate 5-15% of its total shares to the ESOP pool.
This pool is often held in a trust, which is funded to manage share distribution.
Granting of Stock Options:
Employees are awarded stock options through a grant letter, specifying the number of options, exercise price (often below market value), and vesting conditions.
The grant phase gives employees the right to purchase shares in the future, subject to vesting requirements.
For example, Paytm recently granted 2,370,790 stock options at ₹9 per share under its ESOP 2019 scheme.
Vesting Period:
Employees must meet a vesting schedule to gain the right to exercise their options. This typically requires a minimum period (e.g., one year) and may vest gradually (e.g., 25% annually over four years).
Vesting ensures employees stay with the company to benefit from the options.
Allocation of Shares:
Shares are allocated to individual employee accounts, often based on factors like compensation, tenure, or role. For instance, higher-paid employees may receive a larger percentage of shares.
Allocations can be proportional to pay or follow a more equitable formula.
Example: Ideaforge Technology Ltd allotted 18,633 equity shares under its ESOP 2018 scheme, increasing its paid-up capital.
Exercise of Options:
Once vested, employees can exercise their options by purchasing shares at the predetermined exercise price. The exercise period is typically limited (e.g., within three years post-vesting).
Employees may sell their shares after exercising, subject to company policies and vesting completion, with potential tax implications.
Post-Allotment:
Allotted shares rank equally with existing shares in terms of rights (e.g., dividends, voting).
Companies may report allotments publicly, especially if listed, to comply with regulations like SEBI.
Key Considerations
Taxation: Selling ESOP shares may incur tax liabilities, calculated based on local regulations.
Risks: ESOPs are not guaranteed wealth; their value depends on company performance, as highlighted by some startup employees’ experiences.
An Employee Stock Option Plan (ESOP) is a popular employee benefit scheme that allows eligible employees to acquire ownership in the company by purchasing its shares at a predetermined, often discounted, price. The allotment of ESOPs involves a structured process, particularly in India, where it’s governed by the Companies Act, 2013, and for listed companies, by the SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021.
Key Stages of ESOP Allotment:
Plan Design and Approval:
Drafting the ESOP Scheme: The company first drafts an ESOP plan that clearly outlines:
Eligibility criteria for employees (e.g., role, tenure, performance, excluding promoters, directors holding more than 10% of equity).
Allocation methods (how many options each employee gets).
Vesting period and conditions (the time an employee must serve to earn the right to exercise options). There’s usually a minimum one-year gap between grant and vesting.
Exercise price (the price at which employees can buy the shares).
Exercise period (the window during which employees can exercise their options).
Lock-in period, if any, after exercising.
Lapsing conditions (e.g., termination of employment).
Valuation method for the options.
Board Meeting Approval: The company’s Board of Directors approves the ESOP scheme and related resolutions.
Shareholder Approval (Special Resolution): A special resolution from shareholders is typically required to approve the ESOP scheme. This involves a General Meeting (EGM) notice sent at least 21 days in advance to all directors, auditors, shareholders, and secretarial auditors.
Compliance with AoA/MoA: If the company’s Articles of Association (AoA) or Memorandum of Association (MoA) don’t permit ESOP issuance, they must be altered first.
Regulatory Filings (India Specific):
Form MGT-14: Within 30 days of passing the Board Resolution (for public companies) and the Special Resolution by shareholders, Form MGT-14 must be filed with the Registrar of Companies (RoC).
Register of Employee Stock Options: The company must maintain a “Register of Employee Stock Options” in Form No. SH-6, detailing all ESOPs granted.
RBI Filings (for foreign residents): If ESOPs are issued to employees residing outside India, additional filings with the Reserve Bank of India (RBI) are required, such as Form ESOP within 30 days of issuance and Form FC-GPR within 30 days of share issuance after exercise.
SEBI Regulations (for listed companies): Listed companies must comply with SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021, which includes specific disclosure requirements to stock exchanges.
Grant of Options:
Once approvals are secured, the company issues “grant letters” to eligible employees, formally informing them of their ESOP eligibility and the terms and conditions.
The grant date is the date the agreement between the employer and employee to give the option is entered into.
Vesting of Options:
The vesting period begins after the grant date. Employees gradually earn the right to exercise their options over this period, which can be structured with a “cliff” (e.g., no options vest for the first year) followed by monthly or quarterly vesting.
Upon completion of the vesting period, the options are “vested,” meaning the employee gains the right to purchase the shares.
Exercise of Options:
After vesting, employees can “exercise” their options within a specified exercise period. This involves paying the predetermined exercise price.
The difference between the Fair Market Value (FMV) of the shares on the exercise date and the exercise price is treated as a perquisite in the employee’s hands and is subject to income tax.
Allotment of Shares:
Upon successful exercise and receipt of the exercise price, the company allots the corresponding number of shares to the employee.
The company’s shareholder register is updated, and share certificates (physical or dematerialized) are issued to the employee as proof of ownership.
Form PAS-3: For the allotment of underlying shares, Form PAS-3 is typically filed with the RoC within 30 days.
Important Considerations:
Tax Implications: ESOPs have significant tax implications for employees at both the time of exercise (as a perquisite) and the time of sale (as capital gains). Tax rates vary based on the holding period (short-term vs. long-term capital gains).
Non-Eligibility: Certain individuals, like promoters, directors holding more than 10% of equity, or independent directors, are generally not eligible for ESOPs.
No Shareholder Rights During Vesting: Employees do not have voting rights or dividend rights on ESOPs until the shares are actually allotted upon exercise.
Valuation: Proper valuation of ESOPs is crucial for accounting and tax purposes, often using methods like the Black-Scholes or Binomial models.
Private vs. Public Companies: While the core process is similar, listed companies face more stringent regulations from SEBI, while private companies primarily follow the Companies Act, 2013.
ESOPs are a strategic tool for companies to attract, retain, and motivate employees by fostering a sense of ownership and aligning their interests with the company’s long-term success.
The Employee Stock Option Plan (ESOP) allotment refers to the formal process of granting company shares to eligible employees under a pre-approved stock option scheme.
What is ESOP Allotment?
ESOP allotment is the issuance of shares to employees who have exercised their stock options, generally after completing a vesting period. It marks the transition from an option to an actual shareholding.
Key Stages of ESOP Allotment
Grant of Options
The company grants stock options to eligible employees under the ESOP scheme.
A grant letter specifies the number of options, vesting schedule, and exercise price.
Vesting of Options
Employees earn the right to exercise their options over time, based on a vesting schedule (e.g., 25% per year over four years).
Exercise of Options
Once vested, employees can choose to exercise the options by paying the exercise price.
This is the point where employees formally request share allotment.
Allotment of Shares
After receiving the exercise price and fulfilling compliance requirements, the company allots shares to the employee.
This is documented in the minutes of the Board Meeting and forms part of the company’s share capital.
Issue of Share Certificates / Credit to Demat Account
Physical share certificates are issued, or shares are credited to the employee’s dematerialized (Demat) account.
Documentation Required
Exercise notice from the employee
Payment of exercise price
Board resolution for allotment
Filing of Form PAS-3 with Registrar of Companies (in India)
Updated cap table and share register
Compliance and Legal Notes
Allotments must comply with:
Companies Act, 2013 (in India)
SEBI (SBEBSE) Regulations, 2021 (if listed)
Applicable accounting standards (e.g., Ind AS 102)
Valuation of shares may be required for taxation purposes
Example
| Particular | Detail |
|---|---|
| Number of Options | 1,000 |
| Exercise Price | ₹100 per share |
| Total Amount Paid | ₹100,000 |
| Date of Allotment | 15 June 2025 |
| Share Price (Fair Value) | ₹250 per share |
