Athira Sethu
Kochi, 21 March 2025
The Securities and Exchange Board of India (SEBI) has suggested that the founders of startups should be able to keep their Employee Stock Option Plans (ESOPs) even if their firms go public.
ESOPs are employee stock options, generally as a part of salary. This is especially prevalent in new-generation technology firms, where founders receive ESOPs rather than cash in the initial phase. The concept is to bring the interests of the founders in line with other shareholders. But when these firms raise capital or expand, the founders’ holding is typically diluted.
Presently, SEBI regulations insist that founders must be termed “promoters” when a firm goes in for an Initial Public Offering (IPO). Secondly, promoters cannot be gifted ESOPs as per the rules. This becomes a problem.
If an employee has ESOPs and at a later point becomes a promoter because of enhanced shareholding, they would need to forgo their ESOP benefits. SEBI has queried whether it is equitable for these employees to do so.
The regulator has noted that there is no specific rule on whether an employee who becomes a promoter later on can continue to exercise their ESOPs, both vested (earned) and unvested (not yet earned). After receiving criticism from different stakeholders, SEBI has recommended including an explanation that would enable startup founders to continue to receive ESOP benefits even if they are categorized as promoters in the company’s Draft Red Herring Prospectus (DRHP), a filing made during the IPO process.
SEBI has, however, clarified that founders may keep their ESOPs but cannot receive new ESOPs when they are deemed promoters. The current prohibition against new share-based benefits for promoters would remain in place for founders who become promoters. The proposal seeks to simplify the issue without altering the regulatory framework governing ESOPs and promoters in IPOs.
