ESOPs are long term incentive schemes that are made available to certain employees as a gesture of faith and with a promise for outsized returns. While the employer can minimize attrition, the employee gets steered toward the organization’s vision and, hence, continues to perform to the best of his/her caliber. But how do founders arrive at the class of employees who should be offered equity grants or ESOPs in India?
According to the Verbatim Notes from the Shares and Debentures Act, these employees are considered to be eligible for ESOPs in India:
- (a) A permanent employee of the company who has been working in India or outside India or
- (b) A director of the company, whether a whole-time director or not but excluding an independent director or
- (c) An employee as defined in clause (a) or (b) of a subsidiary, in India or outside India, or of a holding company of the company
- But does not include —
- (i) An employee who is a promoter or a person belonging to the promoter group or
- (ii) A director who either himself or through his relative or through any body corporate, directly or indirectly, holds more than ten percent of the outstanding equity shares of the company
- Provided that in case of a startup company recognized by DPIIT, the conditions mentioned in sub-clauses (i) and (ii) shall not apply up to ten years from the date of its incorporation or registration.
Here is what the above legal clauses actually mean
- Only permanent employees of the company or its subsidiaries are eligible for ESOP grants. Part-time employees, consultants, advisors, mentors are therefore NOT eligible for ESOPs
- Directors on the board are also eligible to receive ESOPs. An investor/advisor on the board of directors of the company is eligible for ESOP, however, a board observer or an independent director on the board is NOT eligible for ESOPs.
- The founders / promoters of DPIIT recognized startups are eligible to receive ESOPs for up to 10 years from the date of incorporation. You can apply for the DPIIT recognized startup certificate on the Startup India website.
As per the Share and Debentures Act, Rule 12(4), the approval of shareholders by way of separate resolution shall be obtained by the company in case of –
- grant of option to employees of subsidiary or holding company; or
- grant of option to identified employees, during any one year, equal to or exceeding one per cent of the issued capital (excluding outstanding warrants and conversions) of the company at the time of grant of option. Note: the term “identified employee” refers to a single employee to whom options may be granted in a year. This can also be noted in the standard draft of a Company’s ‘Board Disclosure Report’ which provides for a disclosure to be made by the Company if any employee has been granted options exceeding the 1% limit.
- Companies Act 2013 – https://bit.ly/30Lab2C
- Share and Debentures Act 2014 – https://bit.ly/2zxxOAk
- DPIIT notification first issued on 17th Feb 2016 and later amended on 16th Aug 2019 – https://bit.ly/30IWpxb
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