Unlike many companies in the developed world, ESOPs (employee stock ownership plans or employee stock options) have not been as popular in India until some years ago. Today, as start-ups take the Indian market by storm, ESOPs have emerged as a way of luring candidates who may be wary of joining new companies or start-ups where the risks of retrenchment or closure are relatively higher.

The rationale behind ESOPs is to make employees partners in the progress of the company by giving them the option of taking equity stakes at a predetermined price. While ESOPs have been popular in the developed world for decades, they have only begun to make their presence felt in India during the past two decades or so.

IT sets the trend
The trend of ESOPs in India first came alive with the advent of IT companies, which sought to attract the best of talent at competitive packages. But attracting the best talent was only part of the story, since employees were likely to leave at the very first opportunity on receiving better remuneration from other competitors or companies. In such a scenario, ESOPs acted like icing on the cake and played a key role in retaining employees’ loyalty and continued stay due to their interest in the company’s wellbeing and progress.

Given the hypercompetitive scenario in many industries, it was not long before companies in sectors such as financial services, banking, manufacturing, consumer and capital goods, etc. that began offering employees ESOPs. Of course, ESOPs come with some riders to ensure employees don’t have their cake and eat it too. Accordingly, there is a vesting period during which the stocks cannot be traded or sold. The price at which ESOPs are granted is generally determined by averaging the stock’s market price for a period of time before the date of issue. Generally, ESOPs are structured in a manner that these can only be exercised over a three-to-five-year period, thereby ascertaining that employees opting for ESOPs will continue working with the company for this period or longer.

When IT companies offered ESOPs to employees in the 1990s, this became a major allurement for prospective employees. In fact, many employees at IT bellwether Infosys became millionaires in the 1990s, including drivers – stories that soon became part of IT folklore. The ESOPs success story is now being replicated by start-ups who find it difficult to hire new talent, and even more so to retain them.
Considering the widespread success of the ESOPs model, even companies in established sectors have begun offering stock options.

Matching global norms
It needs to be borne in mind, though, that ESOPs can only be an allure if the company keeps doing consistently well and its share price rises year after year. Infosys employees became millionaires and multimillionaires only because they were allotted equity at Rs 50 per share, which touched Rs 7,000 per share a decade later. Employees then sold their shares and became millionaires overnight. But if the company had been in doldrums and the share price had fallen below Rs 50, employees would have gained nothing by selling at that juncture.

Nevertheless, given the largely positive experience with ESOPs worldwide, senior management and top-notch employees are happy to avail of this option when available. Companies therefore consider ESOPs as a prime motivational tool in hiring and retaining top employees. There is no doubt that employees opting for ESOPs feel a greater sense of oneness, ownership and pride in their companies than those employees who do not exercise this option. Employees given ESOPs would be more motivated to put their best foot forward in all activities, showing greater involvement in the day-to-day functioning of the company and with an emphasis on corporate performance. Unlike a regular fixed salary or compensation, since stocks are given to rising steadily, employees stand to gain more from ESOPs than through a fixed salary.

With ESOPs generally structured as CTC (cost to company), it is up to the employees to decide whether to opt for this option or not. But given that ESOPs hold the allure of offering higher returns some years down the line, this is a win-win avenue for employees as well as employers.

By Nawal Sharma

The author is president and head – business transformation, Kwality Ltd.