When employee stock options fail to click

Rule: Offering stock options to employees can help attract talent and retain valuable staff.

Exception: If the market price of the stock falls below the price at which it was offered to the employees, stock options fail to serve as incentives.

30.9% will be the tax payable by an individual in the highest income bracket on the discount he gets on Esops after the removal of FBT from 1 April 2010.

70% was the discount the employees of JP Associates got on exercising their stock options in 2009. The exercise price was Rs 60 when the stock was trading at Rs 205.

Companies offer valuable employees the option to buy their shares at a discount to the market price, provided they remain on the rolls. After a specified time frame, the employee has the option to buy the shares or forego his right to them. It’s an HR tool that is widely used by IT companies. However, the share prices of the five IT firms in the table below have fallen well below the price at which they were offered to the employees, defeating the purpose of the stock option plan.

If the employees exercise their option to buy the shares of these companies, they will end up making huge losses instead of gaining from the Esop. Northgate Tech shares are trading at less than 7% of the value at which they were offered to employees. So the Esop shares might not serve as an incentive to stay in the company.

The Budget has made Esops more unattractive. Currently, employers pay the fringe benefit tax (FBT) on the stock options they offer. After FBT is removed, the burden of tax will shift to the employee. He will be taxed on the discount he gets on the shares of his company.