Capital Market and Securities Laws · Share Based Employee Benefits and Sweat Equity

Employee Stock Option Scheme (ESOP): Grant, Vesting and Exercise

Updated 11 October 2026 · Fact-checked

An Employee Stock Option Scheme (ESOP) gives eligible employees the right, but not the obligation, to buy company shares at a fixed exercise price after a vesting period. To answer exam questions, follow the sequence: approval, eligible employee, grant, vesting (minimum one year), exercise, allotment, then conclude.

Understand Employee Stock Option Scheme (ESOP)

An ESOP is a scheme under which a company gives its employees options. An option is a right, not a duty, to apply for the company's shares at a fixed price on a future date. The idea is to reward employees and keep them with the company. If the share price rises above the exercise price, the employee gains.

The process runs in a fixed order. First, the company's shareholders approve the scheme by special resolution (the Companies Act, 2013 allows this under section 62(1)(b)). The compensation committee then administers it. For a listed company, this role is performed by the nomination and remuneration committee. Next comes the grant: the company offers options to named eligible employees. Then vesting: the employee earns the right to exercise, usually after staying for some years. Then exercise: the employee pays the exercise price and applies for shares. Finally, the company allots the shares.

The rules come from the SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021, read with the Companies Act and its rules. Check the latest text of the regulations before the exam for exact limits.

An option holder is not a shareholder. Before exercise and allotment, the employee has no right to dividend or to vote. Options cannot be transferred, pledged or hypothecated. If the employee dies, the nominee or legal heir can exercise as per the scheme.

You must not confuse an ESOP with an ESPS (Employee Stock Purchase Scheme). In an ESOP, the employee gets an option and the shares come later, after vesting and exercise. In an ESPS, the shares are offered and issued directly, and they carry a lock-in. An ESOP carries no minimum lock-in on the shares allotted after exercise.

Key rules to remember

Approval: ESOP scheme = special resolution of shareholders (75% of votes cast in favour); A special resolution needs votes in favour to be at least three times the votes against. Listed companies pass a separate resolution for each scheme.
Administration: Scheme administered by the compensation committee; In a listed company, the nomination and remuneration committee acts as the compensation committee. The scheme is framed and run by this committee.
Minimum vesting period: Grant to vesting ≥ 1 year; The one-year minimum does not apply if the employee dies or becomes permanently incapacitated. Vesting can be staggered, for example in instalments.
Exercise period: Exercise happens after vesting, within the period fixed by the company in the scheme; Vested options not exercised in time lapse. The scheme also states the exercise period after the employee leaves.
Eligible employee: Permanent employee, or director (not independent director), of the company, its subsidiary or holding company, or its associate company; A promoter or promoter group member is not eligible. A director who, directly or through relatives or a body corporate, holds more than 10% of the outstanding equity shares is also not eligible.
Exercise price: Exercise price is set by the company, in line with the applicable accounting policies; The price may be below, at or above market price. If below market, the discount is treated as employee compensation cost under the accounting rules.
Lock-in: ESOP: no minimum lock-in on shares allotted on exercise; ESPS: minimum lock-in of 1 year; The scheme may impose its own lock-in. This is the standard point of difference with ESPS.
Rights of option holder: Option holder has no dividend or voting rights until shares are allotted; options are not transferable; Options cannot be pledged, hypothecated or mortgaged.

How to solve Employee Stock Option Scheme (ESOP) questions

Use this order for any ESOP question, whether it is a theory question, a short note or a case study.

1Define ESOP in one line: a right to buy shares at a fixed price in the future, given to eligible employees.
2State the approval route: special resolution of shareholders under section 62(1)(b) of the Companies Act, 2013, and administration by the compensation committee under the SEBI Regulations, 2021.
3Check eligibility of every person named in the facts: permanent employee or director, not an independent director, not a promoter or promoter group member, not a more-than-10% holder.
4Set out the timeline in order: grant, vesting (at least one year after grant), exercise, allotment. Mark the dates in the facts on this line.
5Apply the specific conditions: exercise price, lock-in, non-transferability, no shareholder rights before allotment, and what happens on death or leaving the company.
6Compute any figures asked for, for example the number of options vesting and the total exercise price payable.
7Write a one-line conclusion that answers the exact question asked.

Quickest way: Four-line ESOP check

When to use it: Use this for case-study questions where you have to decide quickly whether a grant is valid.

Approval: was there a special resolution, and did the compensation committee administer the scheme?
Person: is the grantee an eligible employee, or one of the excluded categories?
Time: is there at least one year between grant and vesting? Is exercise after vesting?
Rights and price: no transfer of options, no dividend or voting before allotment, no minimum lock-in after exercise, and a price fixed as per the scheme.

Common mistakes in Employee Stock Option Scheme (ESOP)

Treating the option holder as a shareholder from the date of grant.
The word 'stock' in the name makes students think shares are already issued.
Fix: Write that shares come into existence only on exercise and allotment. Until then there is no right to dividend or vote.
Saying vesting and exercise mean the same thing.
Both words describe a stage after grant, and the stages run close together.
Fix: Vesting means the employee earns the right to exercise. Exercise means the employee actually pays and applies for shares. Vesting always comes first.
Allowing an independent director or a promoter group member to receive options.
Students remember that directors are eligible and forget the exclusions.
Fix: Remember: directors are eligible except independent directors. Promoters, promoter group members and a director holding more than 10% (directly or through relatives or a body corporate) are excluded.
Applying the one-year lock-in of an ESPS to an ESOP.
Both are employee share schemes, and students blend their rules.
Fix: One-year minimum lock-in belongs to ESPS shares. For an ESOP, the one-year minimum is for vesting, and there is no minimum lock-in on the shares after exercise.
Forgetting the exception to the one-year vesting rule.
Students learn the rule as absolute.
Fix: Add that the minimum vesting period does not apply on the employee's death or permanent incapacity.
Writing 'board approves the scheme' without the shareholder step.
Students assume the board has full power over share issues.
Fix: The board or committee frames the scheme, but a special resolution of shareholders is required before options are granted.

Worked examples

Example 1

Orbit Software Ltd, a listed company, grants 1,000 options to Meera on 1 April 2027 with an exercise price of ₹200 per share. The options vest in four equal instalments on 1 April 2028, 2029, 2030 and 2031. On 1 April 2028 the market price is ₹500 and Meera exercises all the options that have vested. Find the number of shares she gets, the amount she pays and the gain in value on those shares. Is the vesting schedule valid?

Show the solution

Check the vesting schedule. The first instalment vests on 1 April 2028, exactly one year after the grant date of 1 April 2027. The minimum of one year between grant and vesting is met. The schedule is valid.
Options vesting on 1 April 2028 = 1,000 ÷ 4 = 250.
Amount paid = 250 × ₹200 = ₹50,000.
Market value of the shares = 250 × ₹500 = ₹1,25,000.
Gain in value = ₹1,25,000 − ₹50,000 = ₹75,000, which equals 250 × (₹500 − ₹200).
The remaining 750 options are still unvested. Meera has no shareholder rights on them.

Answer: The vesting schedule is valid because the first vesting is one year after grant. Meera gets 250 shares on paying ₹50,000. The shares are worth ₹1,25,000, so the gain in value is ₹75,000.

Example 2

Kaveri Industries Ltd, a listed company, plans an ESOP. It proposes to grant options to: (a) Rohan, a permanent employee; (b) Sunita, an independent director; (c) Vikram, a promoter group member who works in the company; (d) Anita, an employee of its wholly owned subsidiary. State who is eligible and what approval the company needs.

Show the solution

Provision: under the SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021, eligible persons are permanent employees and directors (other than independent directors) of the company, its subsidiary or holding company, or its associate company. Promoters and promoter group members are excluded, as is a director holding more than 10% of the outstanding equity shares.
Rohan is a permanent employee of the company. He is eligible.
Sunita is an independent director. Independent directors are excluded. She is not eligible.
Vikram belongs to the promoter group. He is not eligible, even though he is an employee.
Anita is an employee of a subsidiary company. She is eligible, since employees of the subsidiary are covered.
Approval: the scheme needs a special resolution of the shareholders under section 62(1)(b) of the Companies Act, 2013. The compensation committee (the nomination and remuneration committee in a listed company) administers it.

Answer: Rohan and Anita are eligible. Sunita (independent director) and Vikram (promoter group member) are not. The company needs a special resolution of shareholders, and the compensation committee must administer the scheme.

Exam tips

Write the stages as a short timeline (approval, grant, vesting, exercise, allotment). This helps you score marks for sequence in long answers.
In case studies, check eligibility of each named person one by one. Examiners usually plant an independent director or a promoter group member.
Quote section 62(1)(b) of the Companies Act, 2013 and the SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021 together. Give section or regulation numbers only where you are sure of them.
Prepare a short comparison of ESOP and ESPS (option versus direct issue, vesting versus lock-in, price risk) because it is a common short-note question.
End every answer with a clear conclusion that states valid or invalid, eligible or not eligible, in one line.

Practice questions from Share Based Employee Benefits and Sweat Equity

Employee Stock Option Scheme (ESOP) in other exams

The same ground in other exams, if you are preparing for more than one or want another angle on it.

CMA IntermediateEmployee Stock Option Plan (ESOP)

Employee Stock Option Scheme (ESOP): frequently asked questions

What is the difference between vesting period and exercise period in an ESOP?

The vesting period is the time between grant and the date the options vest, and it must be at least one year (except on death or permanent incapacity). The exercise period is the time after vesting during which the employee can actually buy the shares. Options not exercised in that period lapse.

Who approves an ESOP and who runs it?

The shareholders approve it by a special resolution. The compensation committee administers it. In a listed company, the nomination and remuneration committee acts as the compensation committee.

What is the difference between ESOP and ESPS?

In an ESOP, the employee gets an option and receives shares only after vesting and exercise. In an ESPS, shares are offered and issued directly to the employee, and they carry a minimum lock-in of one year. An ESOP has no minimum lock-in on shares allotted after exercise.

Can an independent director or promoter get ESOP options?

No. Independent directors are excluded. Promoters and members of the promoter group are also excluded. So is a director who holds more than 10% of the outstanding equity shares, directly or through relatives or a body corporate.

Can an employee sell or pledge ESOP options?

No. Options are not transferable and cannot be pledged, hypothecated or mortgaged. The employee becomes a shareholder only after exercising and receiving shares, and can deal with the shares as per the scheme and law.