Employee stock ownership plan or ESOP revolves around practices in which an organization offers shares of its stock to workers or employees as a part of their remuneration.
When an organization offers ESOP, they let their employees feel attached to the firm, as when the stock of the company increases, employees benefit from that as well.
Having a loyal and motivated workforce is the dream of every organization, and Employee Stock Ownership Plan ensures this for them. The dedicated work and optimized performance of the employees result in the improved valuation of the organization, which may bring about an increase in the traditional payments of the employees.
With an ESOP, organizations will possibly have the option to pay their workers lesser in comparison to the market dynamics, as they will be partially remunerating them with shares of the stock.
Along these lines, Employee Stock Ownership Plan enables firms to save dollars by chopping down the remuneration costs that could then be utilized in more pivotal territories that require more money to succeed, like marketing or advertising.
This post will take you deep into the world of what is employee stock ownership, its types, how it works, and its upsides as well as downsides. So, let us get started-
What is Employee Stock Ownership?
Employee ownership plans are commonly known as ESOPs. It is ubiquitous in the United States. Nearly every company of the United States offers employee stock ownership plans.
Under the employee stock ownership plans, the employees get to own their companies some of the shares. The offers are made to the employees at the time of onboarding them on the company.
Many companies are coming up with these plans for their employees to conserve their company’s culture. Companies use employee stock ownership plans as employee benefits.
The employee shares the ownership of the company with a parent company or group of companies. This happens through a specific ownership plan given to the employees by the owners of the company.
Such plans are diverse, including selective options and all-employee options. Selective options are opted for mainly by the company’s senior members as they have excellent knowledge of the company’s stats. All employee-plan is for all employees recruited in the company. Yet, this ownership plan gets effective after careful monitoring of the requirements of the plan.
The ownership plans in private companies are generally limited to some limits. At the same time, some organizations offer it beyond limits.
Generally, big and established companies offer a limited total ownership plan for employees. This confers that the employees do not have much control over the company’s proceedings. Employee stock ownership plans are designed to conserve the work culture.
Let us now go through different types of ESOPs-
Types of Employee Stock Ownership Plans
The companies set diverse plans for their employees to confer the active participation of all employees. The employees take these ownership plans on a discount or grant issued by the company. Thus, there will be no impact on the budget of the employee. They can easily purchase the stock and enjoy the employee ownership.
There is a provision of holding period before the allocation of shares to the employees at the company. This process is known as vesting in business reference. The vesting of stocks among the employees depends on the individual and business performance status of the employee.
The industry is stacked up with various employee stock ownership plans. The ownership plans vary from country to country, depending on their business terms and conditions. Countries like the UK and the US have ownership plans for every employee. They facilitate the participation of employees in their plans very effectively.
There are some Employee Stock Ownership Plans used in the business industry mainly. Some ownership plans include incentives, while some do not. Some have taxation included in the plans, and some not. Following is the list of some of the famous types of ESOP
1. Direct purchase ownership plans
As the name depicts, this ownership plan is straightforward. According to this plan, the employee is free to purchase the company’s stock by his own money. There is no specific condition for employees in this ownership plan.
In some countries, the companies have provisions for their employees to purchase stock by using some discounts or tax-relaxations. The discount can be up to 15% of its company stock remuneration.
In countries like the US, direct purchase is more enhanced by providing discounts to its employees. The discount is either exercised at the time of purchasing the stocks or when the employee starts putting money aside. The direct plans for the purchase of stock are open to all company employees with no restrictions and limits.
2. Stock included ownership plans
Under this ownership plan, the employee is given a choice to select the stocks that he wants to buy.
The stock options avail the employees to purchase the stocks at a fixed grant given by the company. The employees purchase stocks within the period provided by the company. The employees have to check the time and purchase their stocks accordingly.
The stock included ownership plans are laid by the company for its employees to check and analyze according to their will. They can purchase the stocks as per their will.
3. Restricted stock ownership plans
The restricted stock ownership plan is defined as the plan in which an employee can purchase stock after fulfilling the company’s norms.
These norms can be: to serve the company for a defined time or minimum business target reach.
The restrictions are laid in the line of purchase of stocks under this ownership plans.
How does an Employee Stock Ownership Plan work?
The employee ownership plans can be approached in various ways.
The employees can buy the stocks directly under direct purchase plans or take them in bonuses.
The employees can receive stocks through stock benefit plans and stock options.
The ownership employees can become the company owner through many votes of other members of the company. It purely depends on the employee’s business approach and an equal vote of other members in this regard.
In the US, almost 6,460 Employee Ownership Plans exist that cover nearly 14.2 million population. The companies implement employee ownership plans for various purposes, like conserving the company’s work culture and purchase of the stocks, etc.
The ESOPs are the best way to involve the employees of the company for a better purpose.
Let us now understand the uses of ESOPs-
Uses of Employee Stock Ownership Plans
There is a variety of uses of ESOPs in different areas. Some are listed below:
1. Buying shares of a departing owner
Owners of different private companies use ESOPs to create a ready market for their prospective shares. Under this approach, the company can make tax-deductible cash contributions to the owner’s plans to buy stocks.
2. Borrow money at low cost after taxation
ESOPs are designed for seeking benefits from it. The ownership plans borrow money to use in the purchase of shares of existing owners. The companies make tax-deductible contributions to repay the loan afterward.
3. Create additional employee benefit
An individual company can issue treasury shares to the ownership plans for creating additional employee benefits. The ESOPs then deduct their value from taxable income. This confers a benefit to the employee by using ESOPs.
Now, before ending the post, let us have a look at the upsides and downsides of ESOPs-
Advantages of Employee Stock Ownership Plans
- An instant and the fully-ready market for the stock of the owners
- An instant and available purchaser for the business of the owner
- Benefits of a lower marketability discount (usually 5 to 10 percent) when estimating shares on a “fair market value basis” versus a “strategic market value basis,” as the Employee Stock Ownership Plan is the market for those shares
- An entrepreneur or owner who can slowly transition the responsibility for the timeframe and, in this manner, remain effectively engaged with the business
- ESOP acts as a medium for the owner to get the ideal liquidity without offering to a contender or other outsiders
- ESOP acts as a retirement advantage for workers
- It offers an evasion of integration plans and their related expenses to rebuild tasks, rearrange the management or lessen the number of staff since the board and staffs continue working after the transaction completes
- In ESOP, one can avoid giving out classified or confidential data or info to a contender or other possible buyers
- ESOP acts as a long-term financial investment that won’t look to sell the corporation soon
Disadvantages of Employee Stock Ownership Plan
- During the sales management in an ESOP, all participants must vote for any sale of the business assets. Some of the times, this may lead to consultation with any external expert that can also result in additional cost
- Transaction risk may also occur with ESOP as in some odd times; it may turn out into the loss of any good deal when buyers become impatient because of delay that occurs because of any external advisor
- Cash flow drain may also occur in the Employee Stock Ownership Plan
- In the cases when the company increases the value, employees might lose interest in their ESOP and try out for some better alternatives
Employee stock ownership plans are the provisions made by the companies for facilitating employees’ involvement in the company.
The plans are mainly exercised in the US and UK, and other developing countries to develop work culture and business.
How would you define Employee Stock Ownership Plan? Do you find it beneficial?