Explain the advantages and disadvantages of an ESOP.
What will be an ideal response?
A. Advantages
1. It offers a unique incentive to employees that can enhance their motivation to put in extra time or effort. Employees recognize that they are working for themselves and hence will focus their efforts on innovations that contribute to the long-term success of the venture.
2. It provides a mechanism to pay back those employees who have been loyal to the venture, particularly during more difficult times.
3. It allows the transfer of the business under a carefully planned written agreement.
4. The company can reap the advantage of deducting the contributions to the ESOP or any dividends paid on the stock.
B. Disadvantages
1. Complex to establish.
a. It requires a complete valuation of the venture to establish the amount of the ESOP package.
b. it raises issues such as taxes, payout ratios, amount of equity to be transferred per year, and the amount actually invested by the employees.
c. The agreement also must specify if the employees can buy or sell additional shares of stock once the plan has been completed.
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