Employee Stock Option Plan (ESOP)

(A powerful tool to attract, retain, and reward talent)

Overview

Employee Stock Option Plan (ESOP) is a structured mechanism through which a company offers its employees the right to purchase a specified number of shares at a pre-determined price, after a certain vesting period. ESOPs align the interests of employees with the long-term goals of the company by making them stakeholders in its success.

This equity-based incentive is increasingly popular among startups, private limited companies, and listed companies, especially in knowledge-driven industries. It not only boosts employee morale but also helps in retaining high-performing individuals by offering long-term wealth creation opportunities.

In India, ESOPs are governed by company law and SEBI regulations (for listed entities), with defined procedural, disclosure, and tax implications.

Key Benefits

·       Employee Retention: ESOPs are structured with vesting conditions, encouraging long-term association.

·       Wealth Creation for Employees: As the company grows, the value of shares appreciates, offering substantial upside to employees.

·       Performance Incentive: Stock options can be linked to key performance indicators or milestones.

·       No Immediate Cash Outflow: Companies can offer competitive compensation without impacting cash flows.

·       Increased Employee Ownership: Fosters a sense of responsibility, accountability, and motivation.

·       Tax-Efficient Exit: Employees benefit from capital gains treatment on sale of shares.

Applicable Laws & Regulatory Framework

ESOPs in India are governed by:

·       Companies Act, 2013 (Section 62(1)(b) and Rule 12 of Companies (Share Capital and Debentures) Rules, 2014)

·       SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021 – applicable for listed companies

·       Income Tax Act, 1961 – for taxation on exercise and sale

·       FEMA Regulations – for foreign employees or cross-border ESOPs

·       Accounting Standards – Ind AS 102 / Guidance Notes for proper financial treatment

Eligibility / Ideal For

ESOPs are mostly ideal for:

·       Startups and growth-stage companies aiming to retain core team without large salary payouts

·       Private limited companies that wish to incentivize employees without diluting control immediately

·       Listed companies using equity-linked incentives under structured employee benefit plans

·       Multinational setups where equity compensation is part of global policy

Procedure

1.     Board Approval

The Board of Directors approves the draft ESOP policy and plan.

2.     Shareholder Approval

A special resolution is passed at a general meeting authorizing the issue of options.

3.     Framing of ESOP Scheme

The company defines the eligibility criteria, vesting schedule, exercise price, lock-in period, and other conditions.

4.     Grant of Options

Eligible employees are granted options via an official grant letter.

5.     Vesting & Exercise

Employees vest over time or upon achieving milestones and can choose to exercise the options.

6.     Allotment of Shares

Upon exercise, shares are allotted and appropriate filings are made with ROC.

7.     Maintenance of Registers & Disclosure

The company maintains ESOP registers and discloses the same in its financials and Directors’ Report.

Timelines

ESOP implementation and grant can take approximately 1 to 2 months post Board and shareholder approvals.

Vesting, exercise, and allotment are staggered based on plan design, which can span several years.

How LTC Helps

At Law to Corporate, we provide complete legal, strategic, and compliance support for ESOP structuring and execution:

·       Drafting ESOP Policy and scheme documents

·       Advisory on eligibility, valuation, and taxation

·       Drafting grant, exercise, and allotment letters

·       Obtaining shareholder and Board approvals

·       ROC and SEBI filings (for listed entities)

·       Ensuring compliance with accounting and legal disclosure requirements

We help structure ESOPs that are legally sound, tax-efficient, and aligned with your talent strategy and business vision