It's Raining ESOPs

Namita Arora (name changed), a manager with a leading private sector bank, sounds excited while confirming the news that she and her other seniors have been rewarded with employee stock options plans (ESOPs), worth around Rs 11 lakh each.

She is not alone. India Inc is doling out ESOPs generously this year. Numbers from the ACE Equity database show that around 28 per cent of the BSE 500 companies issued ESOPs in 2014/15, up from 24 per cent in 2013/14 and 23 per cent in 2011/12. India Inc's increasing fascination for issuing stock options to reward employees is very much evident in ESOP volumes, too. In 2014/15, the number of such options totalled 32.2 crore, the highest since 2006/07.

Anandorup Ghose, partner, Aon Hewitt, attributes the recent spurt in ESOP issuances to rising stock markets. "Indian companies are becoming mature and adopting this vehicle. However, in the short term, rising markets are driving the trend," he says. Rising markets are usually a signal that the economy is reviving, which means higher attrition levels, making ESOPs useful. Sonu Iyer, Tax Partner & National Leader, Human Capital Services, EY India, says: "Existing companies are increasingly using ESOPs to motivate and retain top talent in a competitive market. The factors that make ESOPs popular are the freedom in designing them and their self-funding nature."

Stock markets were doing well in the first half of 2015, with the BSE Sensex touching 29,000 points in March and April. However, with foreign institutional investors pulling out over Rs 20,000 crore since August, investors are getting jittery. Harshu Ghate, Co-founder and CEO, ESOP Direct, says: "ESOPs are a long-term instrument and short-term volatility should not have an impact on their attractiveness. In fact, now is the right time to grant ESOPs as employees will get them at lower prices."

With India moving to new accounting standards in a few months, Ghate foresees a trend of companies issuing ESOPs at face value to benefit from the accounting charge.

The software industry was the first in India to start giving ESOPs in a big way, but now even sectors such as manufacturing, finance and infrastructure are catching up. "All sectors, including the traditional ones such as manufacturing, infrastructure and real estate, find it difficult to attract and retain key managerial talent. Emergence of new sectors such as e-commerce, logistics, health care and education has added to this challenge," says Ghate. In fact, the government has also caught the ESOP bug. It is formulating an ESOP policy for the top management of public sector banks.

Now, a fundamentally important question - are companies using ESOPs as a broad-based instrument across all levels? Not really, says Ghose of Aon Hewitt. He says it was a trend in the 1990s but not now. In fact, there has been a reduction in the coverage. As per a survey by ESOP Direct in December 2014, CEO/CXO and other senior management level people are getting around 69 per cent of the options.

"Globally, while stock options/RSUs (restricted stock units) and SARs (stock appreciation rights) are issued at higher management levels, employees at large participate in stock purchase plans, which are not yet popular in India," says Ghate. In RSUs, the employee does not receive the shares immediately but according to a vesting plan. SARs resemble employee stock options in that the employee benefits from an increase in the company's stock price.

With influx of start-ups, are other companies revisiting their compensation policies? Not exactly, as there is no linear correlation between them. "It will be incorrect to generalise. Start-ups which are scaling up fast are influencing compensation structures in industries from where they are poaching talent. But all start-ups do not grow that fast and recruit laterally," says Ghate. "As far as ESOPs are concerned, it's a proven fact that ESOPs in companies that are unlisted and at the start-up stage give much more benefits (though risks are also higher) than ESOPs in steady and established companies."

But have the latest issuances been effective against poaching and brain drain? "It is too early to say that, as its impact will be visible over two-three years," says Ghose. Till now, plain vanilla ESOPs have more or less been the trend. "However, large conglomerates are now experimenting with different alternatives such as restricted and performance shares, which work on the same fundamentals but are structured differently," he says.