Employee stock options plan (ESOP): Should you opt?– 2

This is part II of the article Employee stock options plan (ESOP): Should you opt?– I. Please read the first part before proceeding with this one

But is it so really safe to buy Employee stock option?

First thing: What appears to be ZERO loss or NO loss situation, in case the stock price remains below $24, is not necessarily a ZERO loss. Remember, when you are buying a stock option, then you are giving a 2 year long commitment to the organization to deduct the salary and keep it with the organization. What if you decide to switch the job after 1 year? There will be complex terms and conditions mentioned for this case.

Secondly, It comes as a cost. If you invest this money elsewhere, you may make better returns or save tax if you invest in tax saving instruments. Maybe your organization offers to keep your money in recurring deposit accounts, but there can be better return offering instruments. Hence there is an opportunity cost of capital with ESOP investments.

Thirdly, your take home salary will come down.

Fourth (and the most important one), you are at a real big risk by putting all the eggs in one basket. The risk of perfect correlation!
You work for a company. You get your salary from it. As long as the company does well, you will keep on getting good pay. At the same time, the stock price will also either remain stable or grow. You will GAIN on both fronts.
However, if things start to go bad, then everything will start going down simultaneously. Your salary will not rise or might even go down. The stock prices will also start tumbling down. You will LOOSE on both fronts.

While signing up for ESOPs, employees usually look only at the goody-goody picture. The management also tells them all great phrases – “As an ESOP holder, you will be a partner in company”, “Your rewards will be linked to your performance”, “You are an excellent performer, and hence your performance will enhance company’s results and productivity, driving the stock prices. You will benefit from it by holding ESOP”.
However, what we tend to ignore is the risk part.

Take the example of US based automobile companies. Employees of companies like GM were fired from jobs mercilessly. The same employees were also holding stock options of their employer companies. Due to job cuts, markets took it as a negative signal and the stock prices went down significantly. The employees first faced with salary cuts, later not only lost their jobs but also lost on their ESOPs. Though it is claimed that the money in ESOP is safe, it comes at a cost. Investing in ESOP means cutting your present take home salary for PROBABLE future gains – which may or may not come.

Take the case of Indian IT companies. Companies like Infosys initially trading at 2100+ range are now down to 1550 – a clear case of 25% reduction in stock price. Employees are now being hit hard with the appreciating Rupee Dollar forex rate. They are now expected to work for more hours, cannot expect any major hike in salary and at the same time their stock options may now be worthless.

Usually I don’t give a clear cut verdict on any investment instrument. But for ESOP, my verdict is a CLEAR NO. Never opt for ESOPs. Instead, invest in other sector instruments which are different from your field of job. If working for automobile, invest in IT or Utilities, if working for IT, invest in automobile, Utilities or other sectors.

ESOP is usually long dated investment requiring commitment. One may also think of going for tax-saving instruments or ETF or Index funds in the long run. But ESOP – a clear NO NO.

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