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How Employees Benefit From ESOPs

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How Employees Benefit From ESOPs

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If you are a salaried employee, the company you work in may, at some point, announce an Employee Stock Option Plan (ESOP) for its employees. Before you decide whether or not to opt for it (in case you are eligible), you might want to know the benefits of ESOPs for employees. 

Often, salaried professionals remain unaware of the advantages of ESOPs, not today. Today, we’re going to take a deep dive into the many ESOP benefits you may get to enjoy. Let’s first take a quick look at what ESOPs are and how they work. 

What is an Employee Stock Option Plan (ESOP)?

An Employee Stock Option Plan or ESOP is a scheme where the employer allocates a portion of the company’s stock to the employees at low or no cost. These allocations are made in the form of stock options, which can be exercised after a specified period known as the vesting period. At the end of this period, if the employee remains with the company, they can exercise their options and purchase the shares of the company at the grant price. 

How Do ESOPs Work?

ESOPs are typically issued by companies that are keen on retaining the talent they have within the firm. Since ESOPs come with a vesting period that is typically at least 1 year long, it encourages eligible employees who are allotted ESOPs to remain with the company and contribute to its growth. 

Say your company allocates ESOPs to you at a grant price of Rs. 100 per share. Your ESOPs make you eligible to purchase 1,000 shares at the said price after a vesting period of 2 years. So, once you remain with the company for this period, you can choose to exercise your stock options and buy the shares of the company at the grant price.

Now, let’s look at two scenarios to understand when it makes sense to exercise your ESOPs.

Scenario 1: The current market price of the company’s shares is Rs. 120 per share

In this case, you can exercise your ESOPs to buy the shares of your employing company at a cost that’s lower than the market price.

Scenario 2: The current market price of the company’s shares is Rs. 70 per share

In this case, you can wait for the market price to rise above the grant price to exercise your ESOPs.

What are the Benefits of ESOPs for Employees?

Now that you know what ESOPs are and how they work, let’s take a closer look at the two key advantages of ESOPs for employees. This way, if your company offers ESOPs, you can make the most of this investment. 

1. The Advantage of Wealth Creation

ESOPs help you increase the equity exposure in your personal financial portfolio. And equity has long been considered a good option for investors who want to create wealth long term. While other forms of compensation like a bonus or a financial incentive could be beneficial short term, ESOPs can aid you in your journey to create personal wealth for the future. In case the shares that you purchase appreciate significantly over time, the process of creating generational wealth for your family becomes much easier and quicker. 

2. Sense of Ownership & Belongingness

Employee stock option plans give you a sense of ownership and belongingness with the company you work in. This is because the productivity that you bring to the table as an employee directly helps the growth of the company, which, in turn, may result in the appreciation of the company’s share value. ESOPs help you cash in on this growth, thereby allowing you to benefit from your hard work indirectly. 

3. The Option to Time Investments 

As you saw in the example discussed earlier, you need not exercise your ESOPs right away after the vesting period. For instance, if the grant price is Rs. 500 per share and the current market price is Rs. 400 only, you can wait until the share price appreciates before exercising your ESOP. Essentially, you can time your investments so the market price is well above the grant price. This will allow you to reduce the investment cost and increase the profit margin in case you plan to cash in on the short-term gains from your investments. 

Summing Up

The bottom line is that there are many ESOP benefits that employees of large companies, as well as startups, stand to experience. If your company has recently issued ESOPs or plans to do so in the near future, you can always take the help of a financial expert to better understand how to make the most of this financial opportunity, as well as gain more clarity on the tax implications it brings in. 

Frequently Asked Questions

1. What is an ESOP & what are its advantages and disadvantages?

ESOP or Employee Stock Option Plan is a benefit scheme that companies offer employees in order to retain the top talent within the firm. They give select employees the option to buy the company’s shares at a lower price after a predetermined vesting period. 

The benefits of ESOPs for employees include a better chance at wealth creation as well as a sense of ownership in the company. While there may not be any major downsides, ESOPs do come with tax implications on the capital gains that you earn when you sell your holdings. 

2. How does an employer benefit from an ESOP?

ESOPs improve employee retention and reduce employee turnover. ESOPs also help employers reward hard work in the form of equity rather than cash, thus saving the need to cause an immediate cash outflow.

3.What are ESOPs in salary?

ESOPs or Employee Stock Option Plan are offered by the company to their employees as a benefit scheme. With this, employees get the option to keep or encash their company stocks after a certain period. ESOPs help in retaining company talent as well as motivating employees.

4. Is ESOP a good option?

Before deciding if ESOPs are a good option for you, a bunch of factors need to be considered. You need to research on the company, their market, their growth, and the time period of your vesting and cashing your potential ESOPS before you decide to take them up.

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