SEBI moots changes to ESOP norms to help IPO-bound companies' founders exercise their options

Under the SEBI (Share Based Employee Benefits and Sweat Equity) Regulations, ‘promoters’ and ‘members of promoter group’ are not entitled to receive ESOPs and an employee cannot be a promoter or member of the promoter group.

The market regulator has proposed changing the rules around employee stock options plans (ESOPs) to help founders benefit from their ESOPs, even if they have to be classified as promoters when the company is about to list.

In a consultation paper released on March 20, the Securities and Exchange Board of India (SEBI) has proposed that a person who ceases to be an employee after having been identified as a promoter be allowed to continue to hold their ESOPs, provided those ESOPs or other benefits were issued one year before the company comes out with an initial public offer (IPO).

Under the SEBI (Share Based Employee Benefits and Sweat Equity) or (SBEB and SE)Regulations, ‘promoters’ and ‘members of promoter
group’ are not entitled to receive ESOPs and an employee cannot be a promoter or member of the promoter group.

But there may be cases were founders are listed as promoters for an IPO, based on their holding including the options which were vested, because public-issue norms require that. In such a scenario, the existing norms do not clearly state whether the employee with the ESOP (such as the founder) can exercise their ESOPs.
To resolve these ambiguities, the regulator has suggested that the following amendment be made.

Also read: SEBI proposes relaxing offer-for-sale norms, extending exemption of one-year holding period

. An explanation may be inserted under Regulation 9(6) of the SBEB
Regulations, 2023 to state the following:
“Explanation 2: 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”, as the case may be, shall be eligible to continue to hold, exercise or avail any such option, SAR or benefit, in accordance with its terms and granted, prior to one year from the date when the Company (i.e. its’ Board) decides to undertake Initial Public Offering and, in compliance with these Regulations.”

The consultation paper said that this is being suggested because, under the current regulations, an employee who is later categorised as a promoter may have to forgot these benefits even though the ESOPs were granted as part of the employee's compensation.

Also, "allowing options/ other share based benefits just prior to filing of the DRHP may be prone to misuse. Thus, it is necessary that a suitable cooling off period is maintained between the grant of such options/ other share based benefits and the time when the company decides to pursue an Initial Public Offering"

To balance the two, the regulator has suggested the one year cooling off or holding period.