What is a 'Share Option'?
Share options, which are also referred to as stock options, are a type of equity compensation that allows employees to potentially earn a large sum of money when they are exercised and sold.
They are a valuable incentive for employees, and enable them to benefit from the company's growth without requiring additional cash. If you are thinking about implementing an Employee Share Option Scheme (ESOS) as part of your compensation plan, it is important to understand how ESOS works within the context of Malaysian labor laws, company laws, securities laws, listing requirements, EPF implications, and tax laws.
As legal experts in the field of startups and venture capital, we can help you navigate these laws and customize an ESOS plan that fits the needs of your company and specific circumstances.
How do Employee Share Option Schemes Work?
Share options are agreements between a company and its employees that grant the employees the ability to purchase (exercise) a specific number of company shares at a predetermined price, thus allowing them to become shareholders in the company.
However, before employees can exercise their right to buy shares (share options), they must work for the company for a specified amount of time or meet certain conditions (vesting), which incentivizes them to remain with the company and perform well.
Once the options have vested, there is a limited amount of time (exercisable period), during which the employees can exercise their right to purchase the shares. It's important to note that this period also includes a specific time frame after an employee leaves the company.
Picturing how an Employee Share Option Scheme works in Malaysia
To better understand Employee Share Option Schemes (ESOS), we can follow a hypothetical timeline.
Let's say that Janis hired by Company ABC Sdn. Bhd and as part of her employment package, she is granted options to purchase 5,000 shares of ABC's stock at a price of 10 sen per share, which is the fair market value at the time of the grant.
The options have a vesting period that is purely based on time, with a 2-year cliff and a 4-year vesting period. This means that Jane must remain employed by ABC for 2 years before she can exercise 25% (1,250 shares) of the options. The remaining 3,750 options vest over the next 4 years, at equal monthly intervals.
If Jane leaves ABC before completing the second year, she will not be entitled to any of the options. However, after the options vest or become exercisable, Sarah can purchase the shares at the agreed-upon price of 10 sen per share, regardless of whether the value of ABC's shares has increased significantly. If Jane remains employed by ABC for 6 years, all of her 5,000 option shares become vested.
Now, let's imagine that ABC goes public and the share value rises to RM10 per share. Jane decides to exercise her options and purchases 5,000 shares for just RM500 (5,000 x 10 sen). She then sells her shares at the publicly traded price of RM10 per share, earning RM50,000 and making a gain of RM49,500.
In summary, ESOS involves the grant of options to purchase company shares to employees, with a vesting period that is often based on time or performance. Once vested, employees can purchase the shares at a predetermined price and potentially make a significant gain if the company's share value increases.
ESOS jargons to familiarize with
Share options: It's important to distinguish between share options and the actual shares themselves. Owning shares means that the person is already a shareholder in the company and has voting and dividend rights. On the other hand, having share options means that the person has the right to purchase shares in the future, but they are not considered shareholders until they exercise the option.
Grant date: Also referred to as the offer date or award date, marks the official date when the share options are awarded to the employee and the vesting period begins.
Vesting periods: Typically these periods typically follow either a time-based, milestone-based, or hybrid approach. During this period, employees are unable to exercise their options. For instance, the terms of an ESOS may dictate that the options only vest if certain conditions are met, such as the company achieving a specific annual turnover and the employee remaining employed for a designated period. The longer an employee stays with the company, the more options they receive. For example, 25% of the options may vest after one year of employment, with the remaining 75% being awarded over the next three years in equal installments.
Exercise Price/Offer Price: The price per share the employee must pay the company in order to purchase each share under the employee share option scheme. For example, 5,000 shares at an exercise price of 10 sen per share means the employee pays the company RM500 to subscribe for 5,000 shares.
Exercising Options: means to purchase shares at the predetermined exercise price. After the vesting period is over, employees can exercise their right to buy the shares, but it's not mandatory. The exercisable period is the time frame in which employees can exercise their options, starting from the first day it becomes exercisable until the last day it can be exercised. If an option is not exercised by the end of the exercisable period, it will expire.
ESOS: A win-win strategy
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