Right shares and ESOP are terms used in Stock markets. Companies require funds, and at times, reserves and profits earned do not seem enough while expanding business.
- Right shares are a type of stock offering where existing shareholders can purchase additional shares in proportion to their current holdings, usually at a discounted price.
- ESOP (Employee Stock Ownership Plan) is a benefit program that grants employees ownership, typically by allocating company shares or stock options.
- Right shares focus on providing existing shareholders an opportunity to invest further, while ESOPs are designed to benefit and incentivize employees through company ownership.
Right Shares vs ESOP
The difference between Right shares and ESOP is that they target two different stakeholders. Right shares tend to target the already existing shareholders of the company, whereas ESOP targets the employees.
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Right shares of a company’s existing shareholders sanction them to buy additional shares directly from the company in proportion to their existing shareholding but at a discount to the current market trading price.
|Parameter of Comparison||Right Shares||ESOP|
|Buyers||Right shares are given only to the company’s shareholders and not to the company’s employees.||ESOP is provided only to the employees and is not concerned about the shareholders or the general public.|
|Purpose||Rights shares are given to their shareholders when they require expanding the company or require working capital.||ESOP is given to the employees as incentives to make them happy, ensuring they stay in the company for an extended period.|
|Shares to be sold||In the case of the right shares, the shareholder can immediately sell them at the available market price since they are credited much faster in the shareholders’ accounts.||In ESOP, a lock-in period ranges from 5 months to 10 years, which prohibits the employees from selling the shares immediately.|
|Listed companies||Only listed companies are allowed for Rights share.||ESOP allows both listed and unlisted companies. In the case of an unlisted company, ESOP gives employees an option to exercise their rights whenever the promoter sells their company to another listed one.|
|Comparison||Right shares are analogous to an ATM, where cash is readily available.||ESOP is analogous to fixed deposits which mature after a certain period.|
What are Right Shares?
Right shares are the ones the company issues following the issue of the original shares but at a discounted price rather than buying in the Secondary market, as stated in 81(1) of the Companies Act, 1956.
The offer of the Right shares is made in the form of a notice stating the details of the shares offered to limit to a span of 15 days, and if the existing shareholders fail to accept the offer within that span, these shares are given to new members.
Features of Right shares:
- When companies wish to expand their business or need cash for various other objectives, they tend to undertake the Right issues.
- Right Shares give the existing shareholders a preference to buy the shares at a discounted price on or before a specified day.
Reasons for a Rights Share:
- When the company is expanding its business, it will require a huge capital amount. A rights share is faster to raise that amount of capital than opting for a debt.
- Companies often get projects where debt/loan is unsuitable, might not be available, or even expensive. In those cases, the company undertakes the Right shares to raise funds.
What is ESOP?
To begin with, ESOP is the abbreviation for Employee Stock Ownership Plan. An Employee Stock Ownership Plan is a plan made to benefit the employees, giving them an ownership stake in the company.
The shares for ESOP are held in a trust unit until the employee resigns or retires from work. After their term of service, the company repurchases the claims to further allocate among other employees.
The procedure of work:
- Before starting an ESOP, the company should create a trust to contribute new shares or cash to purchase existing ones.
- The shares of an ESOP are required to be vested before distributing to employees.
Benefits of ESOP:
- Tax benefits- Employees need not pay taxes in contribution to an ESOP. They are taxed only when they exit or after retirement.
- Improved way of managing employees- Companies having ESOP are seen to have better employee involvement.
Main Differences Between Right Shares and ESOP
- The shares can be immediately sold at the current market price for the right shares because they are credited much faster in the shareholders’ accounts.
- Right shares can be calculated theoretically. To find out the value of rights, let us assume a stock price of a share to be $50 and a subscription price to be $40, and four rights are needed to buy one share, then the price of one right would be=$(($50-$40)/(4+1))= $2. Whereas the perquisite value is calculated for ESOP.
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Chara Yadav holds MBA in Finance. Her goal is to simplify finance-related topics. She has worked in finance for about 25 years. She has held multiple finance and banking classes for business schools and communities. Read more at her bio page.