Employee Stock Option Plan (ESOP) - Another level

RECAP of ESOPs

We studied the positions of Directors, Employees, Promoter & Promoter Group under ESOPs. Some technicals related like Granting, Vesting & Exercise etc. then we read the trust route and the compliances related to trust. 

NOW ARTICLE CONTINUES.......

5.8 ESOS Trust: 

As per SEBI- SBEB Regulations 'trust' means a trust established under the provisions of Indian Trusts Act, 1882 including any statutory modification or re-enactment thereof, for implementing any of the schemes covered by these regulations. 

5.8.1 Establishment of trust- Irrevocable Trust to Listed Company: ESOS trust is created by the company for administration and implementation of ESOS options. 

As per the companies Act establishment of trust is not mandatory for unlisted and private companies. 

However in case equity listed company for implementing any scheme covered under said regulations by way of secondary acquisition or gift or both creation of irrevocable trust is a mandatory. Same trust may implement several scheme. 

The Trust will be managed by Trustees. The trust would have multifarious functions like holding shares to be offered to the employees, extending financial support, handling investments and undertaking buy-back of shares etc.

5.9 Directors/KMP can’ act as trustees: As per SEBI-SBEB Regulations read with 16 of Companies (Share Capital and Debenture) Rules 2014, trustee means trustee of the trust. 

The following persons are not eligible to be appointed as trustees: 

(i) Promoter/ Director/KMP of the company or holding or subsidiary or associated company and relative of such promoter/ director/ KMP ;

(ii) Any other person if he/she holds even 10 % or more beneficial interest in the paid-up capital of the company.

5.9.1 No voting Rights to trustees: If trustee is an individual or OPC, there must be two trustee. Otherwise one trust will do. The trustee shall not have any voting right on shares held by the trust and shall avoid misusing the voting rights.

It is the responsibility of trustee (s) to ensure that the company obtains necessary approval from shareholders for implementation of schemes. 

5.9.2 Trust is not Mandatory: Just revising, that the creation of trust for unlisted companies and private companies is not mandatory.

5.10. Special Resolutions required:

5.10.1 Special Resolution No.1: Creation of ESOS and Scheme thereof: As per clause (b) of sub-section (1) of this section read with sub-rule (2) of 12 of Companies (Share Capital and Debenture) Rules 2014, for issue of ESOS and creation of scheme thereof, approval of shareholders by way of special resolution is required. However in case of private company as per private companies exemption notification dated 05-06-2015, ordinary resolution is enough.

5.10.1.1 Explanatory statement to resolution No.1. The following detail are required to be provided at explanatory statement including by a private company where section 102 is not applicable. 

(a) the total number of stock options to be granted; 

(b) identification of classes of employees entitled to participate in the Employees Stock Option Scheme; 

(c) the appraisal process for determining the eligibility of employees to the Employees Stock Option Scheme; 

(d) the requirements of vesting and period of vesting; 

(e) the maximum period within which the options shall be vested; 

(f) the exercise price or the formula for arriving at the same; 

(g) the exercise period and process of exercise; 

(h) the Lock-in period, if any ; 

(i) the maximum number of options to be granted per employee and in aggregate; 

(j) the method which the company shall use to value its options; 

(k) the conditions under which option vested in employees may lapse e.g. in case of termination of employment for misconduct; 

(l) the specified time period within which the employee shall exercise the vested options in the event of a proposed termination of employment or resignation of employee; and 

(m) a statement to the effect that the company shall comply with the applicable accounting standards. 

5.10.2 Special Resolution No.2: other specified employees:

As per Rule 12(4) of Companies (Share Capital and Debenture) Rules 2014, the company is required to pass another special resolution for issue of ESOS: 

(i) to employees of subsidiary or holding company; 

(ii) to any identified employee if percentage of underlying shares of options granted during any one year is 1% or more to the issued capital of the company excluding outstanding warrants and conversions at the time of granting. 

In this 2nd instance, it seems to grant 1 % or more in any year (year could be a calendar year) the special resolution is required only one time as an enabling power to board of directors while framing a particular scheme. The resolution may specify such category or hierarchy of employees to whom board is entitled to grant 1% of more than. No need to mentioned names of employees at resolution. 

5.10.3 Special Resolution No.3: Variations in Scheme: As per sub-rule (5)(a) of 12 of Companies (Share Capital and Debenture) Rules 2014, variations of terms of any scheme, the company is required to pass another special resolution. 

Only such scheme where options are granted from scheme but not yet exercised by the employees can be varied. However such other schemes where employee started exercising options granted can’t be varied. 

5.10.3.1 Explanatory statement to resolution No. 3: Further explanatory statement to general meeting must contain-

(a) the full detail of variance and rationale thereof. 

(b) name, designation of employee, no of existing shares held by him, options granted to him, benefits derived by him from the proposed variance may include additional options. 

It should be noted that proposed variance is not prejudicial to the interest of the option holders.

5.10.4 Special Resolution No 4: Financial assistance to employee for buying ESOS requires compliance with Section 67 and rules made thereunder: 

Where a public company including equity listed intends to provide whether directly or indirectly loan, guarantee, security or otherwise, any financial assistance (direct or indirect funding) to its employees for acquisition of its shares or its holding company under ESOS, the company needs to comply with section 67 and read with rule 16 of Companies (Share Capital and Debenture) Rules 2014 with respect scheme of loans, individual loans etc as follows: 

(i) Approval of scheme of direct or indirect funding by way of a special resolution 

(ii) Such funding shall not exceed 6 months of salary or wages of such employee (other than director or KMP) 

(iii) In case of listed company, buying of ESOS shares through private offer and arrangements are not allowed. (It seems the listed company can’t lend money to employee to buy shares either through IPO or private placement or preferential offer etc.) 

(iv) In case of unlisted public company while buying shares for ESOS price of shares shall be valued by a registered valuer. 

(v) Value of ESOS shares acquired by the employee or trust from money lent by shall not exceed 5% of paid-up capital and free reserves of the company. (It would be intention of legislation, upto 5 % paid-up capital and free reserves of company can be lent to employee for buying of ESOS shares. Imposing ceiling on value of ESOS shares which would vary from time to time does not serve any purpose).

5.10.4.1 Explanatory statement to special resolution No 4 seeking approval of shareholder for providing direct or indirect funding to employee for ESOS:

shall contain the following things:

(a) Class of employee covered under said scheme; 

(b) If trust is established, detail of trustee like name, address, nationality etc.; 

(c) Particular of employee (it may be practical difficulty like preferential issue providing name etc); 

(d) Relationship of trustee with director and KMP, promoters of the company; 

(e) Interest of directors, KMP, promoter in the said scheme; 

(f) Benefits derived by employee from said scheme; 

(g) If the employee does not exercise voting rights on ESOS shares or shares are held in trust, provide details of person exercising such voting rights.

COST OF IMPLEMENTATION OF ESOPs TO THE COMPANY:

Apart from dilution in shareholding of promoters, the company should also take note of the following expenses:

• Fees payable to the Registered valuer and the Merchant Banker for Valuation of shares
• Fees payable to the consultant for implementation and supervision of ESOP Scheme.
• Administration cost throughout it’s tenure.
• Trust and other related expenses.

Maximum Number of shareholders:

The number of shareholders is also required to take note of. Section 2(68) tells that a private limited company can only have 200 shareholders. If this limit is breached by ESOP, the company has to get itself converted into a Public Limited Company.

Continual Disclosure at Board Report: If the employee does not exercise voting rights on ESOS shares or shares are held in trust the following disclosures to be made at board report: 

(a) Name of such employee 

(b) Reasons for not exercising voting rights 

(c) Name of person exercising voting right on such shares 

(d) %age of such shares to total paid-up share capital 

(e) Date of meeting of GM in which voting rights was exercised 

(f) Detail of resolutions were voted by such person using ESOS shares 

(g) % voting to total voting on such resolutions 

(h) Such voting is favour or against.

5.11. Director/KMP not eligible to take loan: By collective reading of sub-section 2 and 3(c) of section 67, it appears that for buying ESOS directors and KMP are not eligible to obtain loan from the company. 

Prohibition imposed under section 185 is also applicable in case of regular directors. Further by complying with sections 185 and 186, MD or WTD may be allowed to take loan from company for the purpose other than buying of ESOS. However subject to banking regulations, a banking company can give a loan to its director or KMP for buying ESOS shares. 

5.11.1 Non-compliance of Section 19: Lending to trust for buying of shares of holding company for purpose of ESOS may lead at times to indirect holding of equity shares of the holding company, which is prohibited under section 19 of the Act. Act is still not clear over the matter.

5.12. Lock-in: The underlying shares issued to employee may be kept in lock-in for transfer or sale by the company for such period as the company wish. However rule does not mandate any lock-in to shares issued under ESOS. 

5.13 No dividend-No voting rights on options: The employees having grants of ESOS shall not have right to receive dividend or any voting rights. However once underlying shares are issued, subject to any lock-in period if any imposed by the company, the employee being one ofthe shareholders shall enjoy all rights, benefits. 

5.14. Forfeiture/refund of amount: In case employee does not exercise the options grated within vesting period, the amount if any paid by employee to the company at time of grating of options may be forfeited or refunded by the company. Similarly, in case employee is not able to fulfil vesting terms, amount paid if any may be forfeited or refunded. 

5.15 Options not transferable: Options granted to employees can’t be transferable to any person including another employee of the company. 

5.16 No Encumbrance: Either employee or company can’t create any charge, pledge, hypothecation or mortgage or conveyance on the options granted. 

5.17. Only legal heir/nominee can exercise: In the event of death, no third person except legal heir or nominee of employee can exercise options granted to employee. All options granted till date of death of employee shall vest with legal heir or nominee. It is interesting. It seems that the company Act recognizes the right of the employee to appoint a nominee. However there is no procedure given. 

5.18 Permanent disability of employee: During in the employment, if employee suffers permanent incapability, all options granted till date shall immediately vest in him. Situation of Resignation or termination: Options vested till date of resignation or termination, can be exercised within such period as specified in the scheme by the board. Options granted but not vested shall elapse and go to the main pool. 

5.19 Disclosures at board report: Every company including equity listed which has any scheme of ESOS formulated and implemented is, till all options are exercised by the employees, required to disclose its directors report at every year the following particulars: 

(a) options granted; 

(b) options vested; 

(c) options exercised; 

(d) the total number of shares arising as a result of exercise of option; 

(e) options lapsed; 

(f) the exercise price;

(g) variation of terms of options;

(h) money realized by exercise of options; 

(i) total number of options in force; 

(j) employee wise details of options granted to; 

        (i). key managerial personnel; 

        (ii). any employee who receives a grant of options in any one year of option amounting to five percent or more of options granted during that year.

       (iii). identified employees who were granted option, during any one year, equal to or exceeding one percent of the issued capital (excluding outstanding warrants 

                and conversions) of the company at the time of grant; 

5.20 Maintenance of Register and authentication: Every company including equity listed which has any scheme of ESOS formulated and implemented is, at its registered office or such other place as decide by the board, required to maintain a register in Form No. SH.6 with the particulars of options granted/ exercised/ elapsed etc. 

The company secretary if any or such other person authorised by the board is required to authenticate the said register. 

5.21 Filing of Forms with RoC: For all special resolutions as and when they are passed the form MGT-14 is required to be filed within 30 days from date of passing. 

For allotting of underlying shares form No. PAS-3 is required to be filed within 30 days. 

5.22. Issue of Share Certificates / Demat: For allotting underlying shares, the company after payment of applicable stamp as per state stamp acts, is required to issue share certificates within two months to allottee- employees. 

In case of demat, the company should ensure crediting of shares in demat to respective allottee employee’s demat- account. 

5.23 Position of ESOS creation under old act: Any scheme of ESOS created by the unlisted public company or private company prior to 01-04-2014 i.e. before commencement of this section and the scheme was in force as on date of commencement of this section, shall be valid. The Company can grant any ESOS to its employees and employees can exercise vesting right and the company can also allot the shares for the same as long as there are no variations in the terms of the ESOS taken place after commencement of this Act. If there is any variance in such old ESOS, while seeking the approval of shareholder, the company may need to revisit entire scheme to ensure same falls in line with the provisions of this act. 

5.24 Further compliance-Equity Listed Company: Where equity listed companies intends to issue any scheme of ESOS it is required to comply with specially SEBI (Share Based Employee Benefits) Regulations, 2014 and all other applicable SEBI Regulations as narrated earlier.

5.25 Right to receive dividends: The Employees shall not have right to receive any dividend or to vote or in any manner enjoy the benefits of a shareholder in respect of option granted to them, till shares are issued on exercise of option.

Procedure for issue of ESOP in unlisted company:

Just a quick review of procedure-

1. Check the valuation of the company & Draft the ESOP scheme (including ESOP pool) .

2. Convene the Board Meeting and pass the scheme.

3. Call the general meeting to approve the scheme by Shareholders. Explanatory statement disclosure already discussed in detail.

4. Approve the ESOP Scheme by passing a special resolution (ordinary resolution in case of Private Company).

5. Form ESOP Committee. ESOP committee can be a subset of the board of directors or all the directors can be the part of it.

6. File form MGT-14.

7. After approval of ESOP scheme by the shareholders, and based on the ESOP scheme the ESOP Committee recommends the board which employee is eligible for ESOP grant options to the employees.

8. then, Normal procedure of Vesting, Exercise, Allotment, PAS-3, Share certificate issuance, SH-6 register, Board report disclosure.

Yes, you guessed it right, still not came to end, FEMA provisions and other interesting facts are waiting in the next article.