UNDERSTANDING

ESOPs
Basics & Beyond
 UNDERSTANDING ESOPs

Employee Stock Option Plan ('ESOP') is an

option provided to an employee to acquire
ownership in the Company they work for at a
discounted price
 EVENT TIME LINE

GRANT LETTER OPTION VESTING OPTION EXERCISING LIQUIDATION

Grant is an event Once option is Options during the Employee can hold
when ESOPs are vested, employee eligible exercised gets the shares or
offered by the Co. can exercise it to converted into the liquidate it to
convert it to the shares of the Co. recover the cash.
Grant letter is a shares of the Co.
legal agreement Options that remain Possible way to
containing T&C of Employee gets a unexercised get liquidate is IPO,
ESOP policy certain period lapsed without any Secondary sale to
during which it can compensation to the investors, buyback
VESTING PERIOD exercise employee by the Co., etc.
It is length of time
an employee must
spend with the Co.
before earning the
right to exercise the
option i.e. before
vesting of options
 PLAUSIBLE BENEFITS

POV OF COMPANY POV OF EMPLOYEE

No need to pay out cash Gets awarded for undertaking risk

Acts as a hook to retain talent No upside cap like variable pay in

wealth generation

Alignment of Company and

employee interest Acts as a motivation to work hard
 IMPORTANT CLAUSES
IN AN ESOP POLICY
It should state the conditions an employee must fulfill to be eligible for grant
1 Eligible employees of ESOPs eg: employees who has been for 2 yrs with Co., all managerial level &
above employees, who received 3 rating & above in appraisal, etc.

It should state how the options will be vested during the vesting period eg:
2 Vesting schedule 25% of option every year, certain % on achieving sales target, etc.

It should state the discounted price to be paid by the employee to get the
3 Exercise price shares of the Co. Difference between the Fair Market value of shares and the
exercise price is the value of ESOPs

It should state what will happen to the vested options, unvested options and
4 Exit clause the shares held by the employee in various scenarios that will arise when
employee resigns, is terminated with/without cause, retires or dies.
 TAXATION
IN HANDS OF THE
COMPANY
Company gets deduction for
the value of ESOPs provided i.e.
the difference between the
exercise price paid by the
employee and the Fair Market
Value of shares
IN HANDS OF THE
EMPLOYEE
Difference between the exercise
price paid by the employee and
the Fair Market Value of shares is
considered as perquisites and
charged as per the slab rate
In case of the liquidation, the
difference between the selling
price and the erstwhile Fair Market
Value is considered as the capital
gains
THANK YOU
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CA Sahil Kumrah
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