New Esop rules to ensure trusts are long-term investors

Sebi says trusts must hold shares for at least six months, bars derivative play

The Securities and Exchange Board of India’s (Sebi’s) has changed the rules governing entities such as employee welfare trusts, ensuring they don’t take short-term market positions.

Secondary market transactions will now require shareholders’ approval through a special resolution. They can only take delivery-based transactions, thus disallowing them from intra-day positions. In fact, shares bought from the secondary market have to be held for at least six months.

Sebi has also limited the proportion of assets such schemes can hold in the form of shares to 10 per cent.

Sector officials said the regulator was increasingly concerned about the misuse of shares held under employee benefit schemes and their exposure in the derivatives market. It is said to feel gains through such speculative trades were not in keeping with the spirit of such employee trusts. There were also concerns that these trusts might be used to support the company’s share price.

Daksha Bakshi, executive director, Khaitan & Company, said the moves aimed to ensure companies didn’t resort to misuse through secondary market activity, even as these allowed firms to fund employee benefit schemes. “General employee benefit schemes are expected to be funded through income from the assets held, rather than proceeds from the sale of these shares. The restrictions on the use of derivatives and provisions disallowing trading are to restrict any ability to indulge in doing anything towards supporting the company’s share price,” she said.

“In principle, these trusts are meant for holding a pool of shares to be allocated to the employees and not meant for any speculative trading. Whilst derivative trading by such trusts might not necessarily be for speculation, to prevent any potential market abuse, several measures have been prescribed by Sebi, including the one whereby derivative dealing by such trusts in company securities is prohibited.” said Tejesh Chitlangi, partner, IC Legal.

Sebi has given five years to bring down the proportion of own shares in the scheme to 10 per cent. The regulator has also allowed for a transition period to comply with other parts of the new regulations, including reclassifying such shares separately from 'promoter' and 'public', and bringing down the level of shares acquired from the secondary market.
ESOP SCHEME

• Certain limits on secondary market acquisitions
• No derivative trades allowed for Esop Trusts
• Special shareholder resolution needed for secondary market transactions
• Only delivery-based transaction to be undertaken by these trusts
• Shares acquired through such transactions to be held for at least 6 months