SEBI’s ESOP Updates: Bridging the Regulatory Gap for Founders

A small rule with big implications

There’s a quiet revolution happening in India’s startup ecosystem and it’s not about unicorns or billion-dollar valuations. It’s about fairness.

SEBI has recently approved a regulatory update that could have a major impact on India’s startup ecosystem. The change relates to the ESOPs granted to founders of new-age tech companies before they go public.

Recently, the SEBI has laid down a clear rule: Founders who received ESOPs at least 1 year before filing for an IPO filing can continue to hold and exercise those options—even after being classified as promoters post-IPO.

This isn’t just about legal clarity. It’s about preserving motivation. It’s about ensuring that the people who built the company from the ground up still have skin in the game.

The problem: A founder’s stake gets left behind

During a startup’s lifecycle, it is common for founders to experience substantial equity dilution as a result of successive financing rounds. Consequently, by the time the startup reaches the stage of the IPO, the original founders' equity stakes may diminish to a low single-digit percentage.

To address the retention and continued incentivization of founders, many startups adopt ESOPs. Though traditionally structured for employees, it has become increasingly common to extend ESOPs or equivalent equity-based instruments to founders to align long-term interests and preserve motivation. However, prior to formal regulatory clarity, the issuance of such equity incentives to founders created a grey area under the law, particularly when approaching an IPO. This led to ambiguity in structuring such grants without running afoul of legal requirements.

Why this matters: Aligning incentives for long-term growth

• Retaining founders post-IPO:  Founders often play a critical role in shaping a company’s vision and culture. Founders will now have certainty regarding the status of their ESOPs post -IPO.

• Encouraging more IPOs from startups: By protecting founder incentives, SEBI makes IPOs a more attractive option for startups. This could lead to increased public market participation from tech companies—a trend India has been eager to see grow.

• Boosting investor confidence: For investors, this is equally reassuring. A founder who still holds equity is more likely to stay committed, drive long-term value, and avoid short-term decisions that could harm the company’s future.

• Continuity of incentives: Founders retain a financial stake in the company, aligning their interests with long-term value creation.

• Regulatory consistency: Companies can structure ESOPs more confidently, knowing the regulatory treatment at the time of IPO.

Impact on stakeholders

• Founders: Retain financial stake and motivation post-IPO.
• Investors: Gain confidence in founder continuity and long-term value creation.
• Startups: Can use ESOPs more strategically to retain key talent, including founders.
• Markets: Benefit from stronger governance and more sustainable public listings.

The bigger picture

India’s startup ecosystem is maturing. More tech companies are eyeing IPOs than ever before. But for that growth to be sustainable, founders need to feel confident that their long-term contributions will be recognized—not erased by technicalities.

SEBI’s decision might seem like a small regulatory update, but it sends a powerful message: Founders matter. Their role doesn’t end at the IPO. And as long as they’re invested—literally and figuratively—the company, its shareholders, and the market as a whole stand to benefit.

This move brings regulatory clarity, reduces ambiguity, and ensures that founders aren’t disincentivized from staying with the company post-IPO.