Empowering Growth: Exploring ESOP Benefits for Small Businesses

  • Written Written by Ali Nasir Kidwai 20 May 2024 | 4 min read
  • Editor's Note :

    This insightful blog delves into the transformative potential of ESOP Benefits for small businesses. From talent retention to tax help, we'll explore how ESOPs can fuel growth and create a culture of ownership. Additionally, real-world examples will illustrate the tangible impact of ESOPs, and on top of it learn how Vega Equity stands ready to guide businesses in harnessing this powerful tool for sustainable success.

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Studies indicate that organizations that offer ESOP tend to grow faster than their counterparts in terms of annual employee and sales growth. In small businesses, where every decision can profoundly impact the company's trajectory, innovative strategies that attract and retain talent while providing financial benefits are invaluable. Employee Stock Ownership Plans (ESOPs) have emerged as a robust tool for small businesses to achieve these objectives. It fosters a sense of ownership and loyalty among employees and comes with tax benefits that can significantly enhance the business's financial health.

"ESOP is a powerful tool to encourage organizational engagement, posterity, and that sort of life, tenure, and culture of an organization oriented in the future." - Adanma Akujieze

This blog talks about the various ESOP advantages provided to small businesses, involving their tax benefits and overall impact on organization’s growth.

Employee Stock Option Plan (ESOPs): A Brief Overview

employee stock option plan

Before delving into the advantages, we need to first revisit what ESOPs are and how they operate. ESOPs are retirement schemes help employees with an ownership interest in the organization. Through ESOPs employees receive portions of the stocks over time as remuneration packages for their term of service. By accruing these shares over time, employees become stakeholders of the company, aligning their interests with the organization's success.

Some Key ESOP Benefits for Small Businesses

Let’s consider this with an instance: Google was founded in 1998 but did not go public until 2004. When it happened, its IPO brought in $1.65 billion. Furthermore, at its IPO, Google shares were selling for $85 per share. As you can see, setting up an ESOP program for a private firm on the stock market can be very successful. Now that you understand ESOPs, you might wonder how it would help your business.

Below are some ESOP benefits listed below:

1. Bring in and Keep Talented Employees

Keeping skilled employees in a deluge of businesses and startups is extremely difficult today. The business environment has become so competitive that companies must fight for the best employees. ESOPs can attract high-quality candidates and make them work harder since they will realize that their input will affect the value of their shares.

With an employee benefit program such as ESOP, the firm will ideally attract talent and inspire the current workforce to work more and stay long-term. Given that they own a portion of the business, they will generally be more devoted to their work and stay longer, resulting in employee cooperation for more effective and wealthier now and in the coming years.

Understanding ESOP Vesting Schedules: A Key Component of ESOPs

ESOP vesting schedules determine when employees can claim ownership of shares allocated to their accounts. The 2 main types are Cliff Vesting (100% vesting after a set period) and graded vesting.

2. Boost Employee Morale

Employee morale can be elevated by giving them stock in their workplace. They will feel like company owners and have a voice in critical decisions rather than sensing themselves as salaried employees. Given that having an ESOP is one of its advantages, which involves receiving a share of the firm's profits in the form of a dividend, they will be more dedicated and motivated to the company's best interests.

ESOP Tax advantages

3. Enhanced Cash Flow and Liquidity

ESOP benefits for small businesses are found to have very potential to improve liquidity and cash flow. By employing the firm's stock as compensation, businesses can easily convert cash that could otherwise be utilized for bonuses and salaries. Furthermore, it also offers a market for the firm's stock, providing employees with the chance to purchase and sell shares, therefore, curating liquidity for owners and employees. This liquidity is very apt for owners seeking to exit the business or diversify their investments.

4. Offers Tax Benefits

Your business will also gain ESOP tax benefits if you include it in the benefits package. More often ESOPs are treated as worthless in your firm's books once exercised. It indicates that you're not required to include the cost of these choices in your cost list.

Moreover, after the employees exercise their options, your organization can debit from compensation costs a tax equal to the difference between the strike price and the market price (a predetermined price at which the owner can buy shares).

Below are a few additional ESOPs small business benefits:

Some Real-World Examples of The-Then Small Businesses Who Leveraged ESOPs

1. Flipkart: This Ecomm giant has heavily relied on ESOPs from its early days to retain and hire a talented pool of employees. When Walmart filed the acquisition in 2018, nearly more than 100 employees became millionaires by cashing in their ESOPs.

2. Zomato: The food delivery unicorn Zomato has utilized ESOPs widely, with its employee stock option pool currently at around 6.5 percent. Senior executives and early employees earned millions of dollars by trading their ESOPs.

3. Freshworks: The SaaS startup Freshworks has strongly emphasized ESOPs as a critical talent acquisition and retention strategy from its early days. Several employees turned millionaires after the company's NASDAQ listing in 2021.

4. BrowserStack: The software testing platform BrowserStack has relied on ESOPs to attract top tech talent globally. Its ESOP buybacks have created wealth for early employees before the company's eventual acquisition.

So, the ESOP benefits in the then-small businesses underscore how effective it can be for attracting talent and aligning employee incentives with company growth.

Final Thoughts

Therefore, ESOPs offer many small business benefits, from serving an ownership culture and attracting talent to providing ESOP tax advantages and facilitating succession planning. By deploying ESOPs, small businesses can create a roadmap to a more engaged and motivated workforce, further improving their finances and ensuring sustainability in the long term for their businesses.

But it's mandatory to evaluate the implications and feasibility of ESOP adoption to maximize the benefits while reducing potential risks. Vega Equity can be your tool to unlock growth and create value for employees and owners. Why not book a session with us?

About Vega Equity

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