INTRODUCTION 

There are multiple ways in which a company can incentivize its employees and one popular method is by offering employee stock options ("ESOP"), through an employee stock option plan adopted by the company (“ESOP Plan”). As perquisites for employees, a company may create specialized ESOPs, such as for a particular class of employees depending on the duration of employment, roles, performance-linked or otherwise, and the ESOP Plan is to be administered by its board of directors (“Board”).

An overview of the laws

In order to launch ESOPs that are beneficial to all stakeholders, the company has to be mindful of the various laws that enable ESOPs, considering the timelines most suitable to introduce the ESOP Plan. Companies are required to comply with the provisions of the Companies Act, 2013  read with the relevant rules framed thereunder (“Companies Act”) which outline the dos and don’ts with respect to ESOPs. In terms of the Companies Act, ESOPs are options given by a company to its directors, employees and officers for exercising the right to purchase or subscribe to the shares of the company at a predetermined price on a future date. Further, the Companies Act lays down the basic eligibility of employees for exercising ESOPs, and the procedure for issuance of ESOPs, etc.

In addition to the Companies Act, listed companies are further required to comply with the guidelines and regulations formulated by the Securities and Exchange Board of India (“SEBI Guidelines and Regulations”), which includes additional procedures such as further disclosures and filing of forms before SEBI by the listed company.

The process starts with preparation of the ESOP Plan in line with the applicable laws, and adoption of the same by the Board.

Key features of an ESOP plan

It goes without saying that a well-rounded ESOP Plan is central to maximising the benefits of the ESOP for all its stakeholders. Some of the key features of an ESOP Plan include issuance of an 'exercise letter' by the employee to the company, fixing a ‘vesting period’ on the expiry of which an employee can exercise his/ her options, fixing an ‘exercise period’ for exercising their right to apply for shares of the company, fixing an ‘exercise price’ for allotment of the shares, maximum number of shares to be allotted upon exercising each option, evaluation criteria for eligibility of an employee, the rights and obligations of an ‘option-holder’ etc.

The ESOP Plan may include a standard draft notice for exercise of the options, as well as the draft stock option grant receipt summarizing the commercial terms of the grant, to increase ease of access and transparency to the employees who are covered by the ESOP Plan.

The pertinent questions to be answered by the company while formulating and implementing the ESOP Plan are as follows:

• Who is eligible for grant of stock options? What are the benefits of offering stock options?

• Whether the options can be exercised after termination of employment of the option-holder?

• Whether the nature of termination affects the options exercised by the option-holder?

• What is the maximum vesting period of an option?

• What is the procedure for exercise of options? Whether through written or electronic notices, full or partial payments, exercisable in whole or in part, TDS whether applicable etc.

• What happens to the options after the death/ disability of an employee during his employment?

• Are options freely transferable?

• Whether the employee covered by the ESOP plan has the automatic status of a shareholder? Whether the restrictions applicable to a shareholder of the company, such as the Right of First Refusal (ROFR) rights, are also applicable to an employee after exercising his options?

• What happens in case of a dispute between the board and the optionee over interpretation of the ESOP plan?

• Can these options be extended to employees of a subsidiary company?