{Below Face Value: The Line ESOPs Cannot Cross}

When it comes to Employee Stock Option Plans (ESOPs) or similar share-based compensation models, one intriguing question often arises: Can the exercise price of a share be less than its face value?

The answer is no, atleast in India—it depends on legal regulations, company policies, and contextual frameworks. Let us break it down in an interactive and easy-to-understand manner.

What are Exercise Price and Face Value?

To understand the question, we first need to clarify these terms:

• Face Value: The nominal value of a share as stated in the company’s charter or its certificate of incorporation. In India, this is often ₹1, ₹10, or another predefined amount.
• Exercise Price: The price at which an employee or option holder is entitled to buy a share under an ESOP scheme. This can vary depending on the company’s valuation, the timing of grant, and other factors.

Can the Exercise Price Be Lower Than the Face Value?

The short answer: No, at least in India.

Under Section 53 of the Companies Act, 2013, shares cannot be issued at a price less than their face value, as this would essentially mean issuing shares at a discount. The Act explicitly prohibits the issuance of shares at a discount, with few exceptions (like sweat equity shares under certain conditions).

For instance:

• If the face value of a share is ₹10, the exercise price cannot legally be ₹8 or ₹5. It must be at least ₹10 or higher.

Why This Restriction?

Issuing shares below face value can have significant implications:

1. Dilution of Capital: Undervalued shares reduce the overall equity capital, potentially misleading investors.
2. Tax Consequences: Employees receiving shares below face value might face taxation challenges, as it could be deemed as a benefit.
3. Legal Compliance: To maintain transparency and protect stakeholders, the Companies Act ensures that shares are not issued at arbitrary discounts.

Are There Workarounds?

While the exercise price cannot be lower than the face value, companies often structure ESOPs to make them financially attractive:

• Granting Shares at Face Value: Instead of charging a premium, companies can offer shares at their face value, ensuring compliance while keeping costs low for employees.
• Sweat Equity Shares: For founders, employees, or stakeholders contributing to intellectual property or value creation, sweat equity shares may be issued under specific conditions, which could allow for some leeway in valuation considerations.
• Deferred Payment Options: Employees can pay for shares in installments, spreading the financial burden while retaining the exercise price above the face value.

Conclusion

While it may seem tempting to issue shares at an exercise price below their face value to attract talent or reward employees, legal frameworks in India do not allow this practice. Companies have creative alternatives to ensure compliance while still making ESOPs appealing.

Understanding these nuances is crucial for employees and companies alike. Whether you are structuring an ESOP or receiving one, being informed helps you make smarter financial and legal decisions.