Aug 12, 2024
10 Ways to Educate Your Employees About Equity Compensation
Improve employee education on equity compensation with 10 practical ways that simplify complex concepts while boosting retention, attraction, and engagement.
For startups and growing businesses in Singapore, finding the right talent can be tough, especially when cash flow is tight. That’s where Employee Stock Ownership Plans or Employee Share Option Plans (ESOPs) come in handy—they let companies share a piece of future success with their teams without putting a strain on finances right away.
ESOPs function by granting employees the right to purchase shares at a predetermined price after a specified period. This creates a win-win scenario arrangement that incentivizes employees and aligns their interests with the company’s success.
In this guide, we’ll explain what ESOPs mean, how they work, what benefits they bring, and key factors to consider before offering them to employees when setting up a solid plan. Whether you're starting from scratch or running an established business in Singapore, getting to know the ins and outs of ESOPs can really help you build a dedicated and motivated team.
An Employee Stock Ownership Plan or Employee Share Option Plans (ESOP) is a program that grants employees the right to purchase shares in the company they work for at a predetermined price, often after a specific vesting period. In Singapore, ESOPs are widely used by startups and growth-stage companies as a way to attract and retain talent, especially when competing with larger companies on salary alone might be challenging.
"An ESOP provides employees with the right to buy shares in a company at a pre-determined price, usually after meeting certain conditions set by the plan.
When an employee exercises these share options, any gains or profits from the ESOP are typically subject to taxation under the ESOP plan." - Inland Revenue Authority of Singapore
Essentially, an ESOP is a form of equity compensation that enables employees to become part-owners of the organization they work for. An ESOP serves as a benefits program that provides employees with an ownership interest in the company via stock options. The primary goal of this strategic tool is to cultivate a sense of ownership among employees and align their interests with the company's growth.
Recent data reveals a fascinating transformation in how Singaporean companies approach equity compensation. While 40% of companies still maintain traditional structures by limiting equity to just 10% of their workforce (typically senior executives and leadership positions), an almost equal proportion (38%) have adopted a more inclusive approach, extending equity to over half their employees.
This duality becomes even clearer when examining management-level distribution patterns. According to Qapita's report, 51% of companies now grant options to all employees, including junior management - marking a significant shift toward democratized equity ownership. Meanwhile, 28% restrict grants to senior management only, and 21% extend them to middle management and above.
The trend shows Singapore positioning itself uniquely in Southeast Asia's compensation landscape. While not as widespread as the US market's equity distribution, Singapore leads the region in adopting progressive ESOP practices, with companies increasingly moving away from traditional top-heavy structures toward more inclusive models.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
This is the initial offering of stock options given to an employee under an ESOP plan. It defines the number of shares the employee is eligible to purchase in the future.
According to Qapita's market data, the grant frequency in Southeast Asian companies follows a clear pattern:
The timing of grants often reflects a company's maturity level. Early-stage startups typically offer one-time grants upon joining, largely due to less structured reward frameworks. However, as companies mature post Series A+ rounds, they tend to adopt more sophisticated compensation structures, often transitioning to annual grant cycles integrated with performance reviews and appraisal cycles.
This evolution mirrors a company's growth journey - from simple, joining-based grants to more structured reward frameworks that align employee compensation with long-term company success. Annual grants particularly appeal to mature companies as they create consistent incentive structures, while the flexible 19% use equity as a strategic tool for recognition and retention without being tied to fixed schedules. These companies might offer grants as year-end rewards (like Christmas or Chinese New Year bonuses), celebrate promotions with equity, or recognize exceptional performers with additional stock options.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
The time an employee must wait before they can exercise their options.
Vesting Periods in Singapore's ESOP Landscape
Qapita's data shows clear vesting period preferences among unlisted companies:
The overwhelming preference (79%) for 3-4 year vesting periods, with 4 years being the dominant choice, reflects companies' focus on long-term retention and value creation.
Shorter vesting periods of 1-2 years are often used for Short-Term Incentives (STI), such as sign-on bonuses and retention grants, to meet immediate business or talent needs. In contrast, longer vesting periods are designed for Long-Term Incentives (LTI) and often include performance-based conditions. The use of performance-based vesting can also vary by industry. For example, in the pharmaceutical sector, where it may take longer to evaluate the success of performance metrics, companies frequently opt for extended vesting periods to align with the nature of their industry and timelines for achieving results.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
A specific type of vesting where employees first become eligible for a set portion of their ESOP options after a predetermined period, often a year. Before the cliff period ends, employees usually aren’t entitled to any vested options.
In Southeast Asian companies, vesting frequency follows clear patterns:
Most companies prefer the simplicity of annual vesting, often with a one-year cliff followed by gradual vesting. More frequent vesting schedules, while attractive for employees, can introduce complexities in valuation and financial reporting. Due to accounting standards like IFRS 2 and SFRS 2, each tranche in a frequent vesting plan must be treated as a separate grant for accounting purposes, which can complicate compliance.
However, a significant portion (23%) choosing quarterly vesting reflects a growing trend towards more frequent employee rewards. While this approach is more employee-friendly and creates motivation, companies must carefully balance these benefits against the administrative and operational implications, ensuring the plan's scalability and sustainability.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
Equal vesting, where equity is distributed evenly across a set period (e.g., 25% annually over four years), is the go-to choice for startups and unlisted companies in SEA. Unlike back-loaded vesting schedules (e.g., Amazon's approach, where smaller portions vest in early years and larger portions in later years) or front-loaded vesting schedules, equal vesting keeps things simple, predictable, and fair for both employees and shareholders. Its popularity stems from its ease of implementation and alignment with shareholder recommendations to avoid over-complicating equity plans, especially for early-stage companies. With 90% of companies adopting this approach, it’s clear that simplicity leads to success.
According to our report, 56% of unlisted companies in Southeast Asia prefer time-based vesting for their Employee Stock Option Plans (ESOPs), making it the most popular choice. Another 37% of companies adopt a combination of time- and performance-based vesting, while only 7% rely solely on performance-based vesting.
Time-based vesting is widely used in early-stage startups due to its simplicity and practicality, especially in dynamic environments where business goals often shift, making it tricky determining clear, measurable and fair performance conditions. Performance-based vesting, while less common, is better suited for mature companies or late-stage startups where clearly defined KPIs can align employee incentives with business goals effectively.
This trend highlights how companies tailor vesting structures to balance simplicity with strategic alignment, ensuring both employee retention and organizational growth.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
The fixed price per share that employees pay when exercising their options. Often set at a discount or below the current market value.
Unlike the US, where the companies have to abide by the Section 409A requirements, companies in Singapore have greater flexibility in choosing their exercise price. Our report shows that 49% of unlisted companies in Southeast Asia prefer granting Options at nil or nominal (e.g. $0.01) exercise price, offering a great benefit to employees by limiting the downside risk in case of share price depreciation after the allocation of options. Another 32% opt for grants at fair market value (FMV), while 19% provide options at a discount to FMV.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
The act of purchasing the company shares at the strike price determined at the time of grant after the options have vested. This must take place within a specified timeframe before the options expire.
Companies often link exercise conditions to liquidity events to manage the shareholder limit effectively. For example, in Singapore, exceeding 50 shareholders categorizes a company as public, requiring additional disclosures. By tying the ability to exercise to liquidity events, companies avoid breaching this limit.
A company may consider implementing an ESOP in different ways. Some companies prefer to have their founders hold the ESOP shares in trust or SPV, while others grant the options to their employees directly via a fresh issuance of shares, causing dilution to shareholders at that point in time.
When employees choose to leave the company, they have the right to sell their vested shares back at fair market value, provided a public market for those shares doesn’t exist. This buyback process ensures that departing employees receive cash equivalent to the value of their shares, allowing them to benefit financially from their commitment and contributions to the company. This mechanism reinforces the value of employee ownership and strengthens their connection to the company's performance, even as they transition to new opportunities.
Upon exercising the option, employees gain the shares' benefits and bear income tax implications. As stated by IRAS, any gains derived from exercising stock options are generally taxable.
In Singapore, companies offer various types of employee compensation plans to enhance engagement and retention:
1. Restricted Stock Units (RSUs): RSUs give employees the right to acquire shares, typically after meeting service time or performance goals. Shares are often issued following a vesting period.
2. Restricted Stock Awards (RSAs): RSAs also involve company stock awards but differ from RSUs as employees receive actual shares at the grant date. These shares may be forfeited if specific conditions, like continued employment, aren’t met.
3. Stock Appreciation Rights (SARs): SARs reward employees with a value increase in company stock over time. Employees receive cash or additional stock representing the stock price growth from the grant to the exercise date without having to buy shares.
4. Phantom Stock: Phantom stock provides cash payouts tied to a company’s share price without issuing real stock. Often used to avoid equity dilution, it offers no actual ownership or post-payout growth benefits.
Our data shows a clear preference for ESOPs in Southeast Asian companies:
ESOPs remain the preferred choice primarily due to their straightforward tax treatment in Singapore. However, companies may opt against ESOPs due to:
This overwhelming preference for ESOPs (86%) underscores their effectiveness as a standard equity compensation tool in the Singapore market.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
Employee Stock Ownership Plans (ESOPs) offer several benefits including:
1. Talent Attraction and Retention: ESOPs give employees a stake in the company, helping attract skilled talent and reduce turnover by offering long-term incentives.
2. Enhanced Employee Motivation: Owning shares often motivates employees to work toward the company’s success, as they benefit directly from its growth and profitability.
3. A Key Part of Compensation: ESOPs serve as a valuable addition to an employee’s overall compensation package, often enhancing the appeal of joining and staying with the company.
4. Cash Flow Efficiency: ESOPs allow businesses to offer competitive compensation without immediate cash outflows, making them ideal for startups or growth-focused companies.
5. Alignment of Interests: ESOPs align employees’ financial interests with the company’s growth, allowing them to share in its success and build wealth as the stock value rises.
For employees deemed highly critical to the business (such as senior executives, key engineers, and early team members), equity forms a substantial portion of their compensation package. The data reveals a telling pattern:
This weighted distribution toward higher equity compensation for critical roles makes strategic sense, especially for early-stage companies with limited cash resources. The substantial equity grants help attract and retain top talent while aligning their interests with the company's long-term success.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
Implementing an ESOP involves addressing legal, financial, and regulatory complexities, including determining stock valuation and creating a trust structure. It requires working with legal and financial experts to ensure compliance and proper execution. While the process can be challenging, a well-structured ESOP can be a valuable employee incentive tool.
Deciding the percentage of equity to allocate for an ESOP is crucial, with most companies setting aside 5% to 15% based on their goals and size. Too much allocation may dilute the control of current stakeholders, while too little might not provide enough incentive for employees. Balancing these factors is key to creating an effective plan.
ESOPs inherently dilute the equity of existing shareholders, as new shares are allocated to employees. While dilution can reduce ownership, it encourages employee engagement and aligns their interests with the company’s success, often increasing its overall value. This trade-off is usually considered worthwhile for long-term growth.
When an employee leaves after their shares have vested, they typically keep those shares, often selling them back to the company at fair market value. If they leave before the shares vest, they usually forfeit those options. The terms vary based on the ESOP plan and whether the company is public or private.
Qapita's data reveals the typical ESOP pool distribution in Southeast Asian companies:
The median ESOP pool size in Singapore sits at 8%, notably smaller than markets like Australia or the US where 15-20% pools are common. This conservative approach reflects regional practices, with most Singapore companies preferring to keep ESOP pools under 10% of total equity share capital.
However, it’s important to note that the pool size is not set in stone. Companies can top it up as they grow and scale. It’s increasingly common to see pool sizes exceeding 10% or even reaching 20% for growth-stage startups and late-stage scaleups, reflecting their evolving talent and retention needs.
*Based on Qapita's 2022 Equity Compensation report of unlisted companies in Southeast Asia.
In Singapore, employee equity compensation is generally subject to income tax as part of an employee’s overall compensation package. Here’s an overview of how different types of equity awards are taxed:
Stock Options: Tax is incurred at the point of exercise when an employee receives shares. The taxable amount is the difference between the fair market value of the shares at exercise and any price paid to acquire the options.
Restricted Share Units (RSUs) and Performance Share Units (PSUs): Taxation is triggered when the shares are delivered to the employee upon vesting, as these shares then become part of the employee's accessible income.
Restricted Share Awards (RSAs): In cases where employees receive shares that are subject to additional restrictions, such as a moratorium period preventing their sale, taxation is deferred until these restrictions are lifted. The taxable event occurs when the employee gains full control over the shares, allowing them to sell or otherwise transact freely. At this point, the fair market value of the shares becomes part of the employee's taxable income.
In essence, Singapore’s tax approach is structured to impose tax when an employee has clear access to the value of the shares, either through full ownership or the ability to sell without restrictions. Importantly, Singapore has no capital gains tax, meaning any subsequent gains from selling the shares after the initial tax event are not subject to further taxation.
To learn more, you can read the complete article on ESOP Taxation in Singapore by Amit Majumder, Head of Equity Management. Additionally, this IRAS guide provides detailed information about the deemed exercise rule, particularly relevant for foreign employees.
In summary, ESOPs are a powerful tool for aligning employees’ interests with company success, instilling a sense of ownership, and offering long-term wealth-building opportunities. However, implementing an ESOP requires careful consideration of equity allocation, vesting schedules, and tax implications for both employees and the company.
While ESOPs may dilute ownership, they remain a valuable option for attracting and retaining top talent. With proper planning and legal advice, companies can leverage ESOPs to drive growth and employee engagement while benefiting from tax advantages.
Qapita is here to guide you through every step—from plan design to setup and full implementation. As the #1 Equity Management Software on G2, we support over 2,400+ growing companies globally, providing a seamless solution for managing Cap Tables, ESOPs, and transactions. Additionally, we offer liquidity solutions through buyback programs and secondary transactions.
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