SEBI’s proposed clarity on ESOPs for founders transitioning to promoters, before IPO: A step towards transparency

On March 20, 2025, the Securities and Exchange Board of India (‘SEBI’) released a consultation paper proposing amendments to the SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, 2021 (‘SBEB Regulations’). The consultation paper intends to address a critical gap in clarity regarding the exercise of vested ESOPs by employees who are reclassified as promoters prior to an IPO. This ambiguity has led to uncertainty for such individuals around their rights to retain and exercise ESOPs granted during their tenure as employees/founders.

Objective of the Amendments

The proposed amendments seek to clarify whether ESOPs granted to founders during their tenure as employees can be retained and exercised once they are reclassified as promoters. Under the existing provisions of the Companies (Share Capital and Debentures) Rules, 2014, and the SBEB Regulations, issuing ESOPs to promoters is prohibited, except for startups within ten years of incorporation/registration. Given the background above and the representations received, the regulator has proposed clarifications to the SBEB Regulations to address existing ambiguities and ensure fairness for all stakeholders in the IPO process. ‍

Current Challenges and Proposed Solution

Existing Challenges under SBEB Regulations:

1. Regulation 2(1)(i): Prohibits promoters and promoter group members from receiving ESOPs.

2. Regulation 9(6): Lacks specific provisions for the validity of ESOPs granted to employees who later become promoters.

Proposed Amendment: SEBI suggests inserting an explanation under Regulation 9(6):

“An employee, identified as a “promoter” or “promoter group” in the draft offer document filed by a company in relation to an initial public offering, who was granted options, SARs, or other benefits under any scheme prior to being identified as a “promoter” or “promoter group,” shall be eligible to continue to hold, exercise or avail of such options, SARs, or benefits in accordance with their terms, provided the grants were made at least one year before the company’s decision to pursue an IPO.”

Impact on Stakeholders

For Founders and Companies:

• Clarifies that ESOPs granted to founders as employees can be exercised post-transition to promoter status, provided they were granted at least a year prior to the decision to undertake IPO.

• Helps in long-term planning and aligns the interests of founders and investors.

For Investors:

• Enhances transparency in the treatment of ESOPs, fostering trust in the IPO process.

For Regulators:

• Reduces ambiguity and potential misuse of last-minute grants, ensuring consistency in regulatory practices.

Conclusion

The proposed amendments intend to fill a critical gap in the regulatory framework, protecting the interests of startup founders while fostering transparency and fairness in the IPO process. These changes are a welcome step toward ensuring smoother transitions for companies going public.  

The SEBI consultation paper invites public comments till April 10, 2025

How to Submit: Visit SEBI’s website or email consultationcfd@sebi.gov.in with the subject “Consultation Paper on IPO Regulations.”

Link to Consultation Paper: Click here.