Nov 14, 2022
What Can You Do with ESOP?
There are so many things you can do with ESOPs - Yet, only few have fully understood and utilized the power of ESOPs
Many founders setting up an ESOP Plan for the first time might be affected by the Where-do-I-start syndrome! As if understanding the umpteen ESOP terminologies is not enough, one is also expected to subjectively decide on these key variables to setup an ESOP plan to attract and retain the best talent in the industry. No wonder founders grapple with a whole set of questions they are unclear about:
As a founder do you relate to this conundrum?
These questions are relevant and extremely important. More so now than ever before!
The good thing is seasoned founders from our ecosystem are extremely generous and pay-forward their knowledge and learnings. Here is a curation of excerpts from founders talking about their ESOP Plan and how it can be structured to attract and retain the best talent.
One of the first questions founders tend to discuss among themselves is who all to give ESOPs? (founding team vs. senior management vs. majority vs. ALL) While the answer to this question might evolve over time, a generous coverage (i.e. across majority of employees), does invite a positive response from the ecosystem and signal the founder intent of sharing wealth with its people. Let’s consider some examples that are known in public domain:
The current poster boy of India’s startup ecosystem — Freshworks has about 76% of its workforce who own shares in the company (which implies percentage of employees with shares and un-exercised options i.e. active ESOPs would be much higher!). No wonder Freshworks has created over 500 crorepatis and has now given them infinite liquidity post their IPO on NASDAQ. Stay tuned for a bunch of entrepreneurs and angel investors originating from this pool! (Remember Flipkart?)
As per last year’s article, BharatPe has a policy of giving ESOPs to ALL employees. In a recent post from Ashneer Grover, he also mentioned that all employees have options to take their salary increments in ESOPs instead of cash! In-fact an employee can take upto 2.5x of their increment amount in ESOPs if they decide to vest it over 4 years. In a best case scenario, that could provide no-linear returns to employees.
BharatPe also has a generous ESOP policy with a monthly vesting schedule, zero strike price, 5 year exercise period among other employee friendly properties.
This is the most subjective of the ESOP decisions founders have to make and we have seen a wide range from 0 to 5% pool on one hand to as high as 30% pool sizes on the other. And the median of course is 10% as most founders apply the ‘when-in-doubt-go-for-ten-percent’ formula :)
Here is what some founders think about:
Vardhan in his LinkedIn and Twitter post which was well received by the ecosystem elaborated his philosphy of Building Tortoise to collaborate with great people and hence a 30% pool. He went on to discuss details of his ESOP Plan: 0 strike price, 10y exercise period, 4 year monthly vesting and an intention to conduct periodic liquidity events. This checks all boxes!
Rahul Mathur too recently spoke about his decision of setting aside a largish pool on LinkedIn and Twitter. He topped up his pool recently (perhaps coinciding with the latest funding round) to increase it to 20%. He also is a solo founder requiring him to allocate a largish pool to attract key leadership team.
Ankur is building a unique company in the form of Nuclei. For starters, it’s bootstrapped and profitable. It has also implemented SARs (Stock Appreciation Rights) vs. ESOPs as the Long Term Incentive scheme for employees. Ankur has set aside 25% of the value of the company to be given out as SARs. Given the flexibility in structuring SARs provides (as it doesn’t need to adhere ESOP regulations), Ankur has done away with the 12 month cliff, hence units vest right from the first month. Plus there is indefinite exercise!
I enjoyed my interaction with Ankur earlier. Do read and watch.
As you can see, pool size tend to vary a lot based on founder preferences, hiring strategy and co-founder/senior leadership mix. In most startups it is in the range of 5% to 10%, while a few founders tend to allocate higher as seen above.
Last year, during the middle of peak pandemic, in an article titled ‘No more takers of ESOP Opera’, The Ken reported pool sizes of some of the large startups — Snapdeal, Delhivery, Zomato, Swiggy, Oyo, Byju’s, Paytm among others.
While the average ranged in the 5–10% bucket, the tables definitely seem to have turned with regard to perception of ESOPs among employees in the last 12 months. From being considered as a consolation prize given the cash crunch many startups faced in the peak of the pandemic last year, ESOPs have become serious instruments of wealth creation in this year with close to $300 million worth value unlocked in 2021 alone!
Further many startups have expanded their ESOP pool this year as well.
With regard to vesting schedule, the ecosystem is seeing a general acceptance in making vesting equitable and not back-loaded (i.e. a larger proportion is vested towards the end). A recent tweet from Amit Ranjan saw wide response from the ecosystem founders who have not only opted for equal vesting over 4 years, but also opted for monthly or quarterly vesting frequencies.
Exercise period is perhaps the most important variable of an ESOP policy that determines employees joining decisions. A policy that forces an exercise period of 0 to 6 months on leaving the company can be punitive to employees as they might need to shell out cash from their pockets to exercise their options.
In many cases, such short periods for exercise might lead to the employee forfeiting their vested options instead of paying up the exercise price and perquisite tax as there is uncertainty with regard to future liquidity.
A long period will ensure exercise can coincide with liquidity event thus putting cash in the hands of the employees to pay for the strike price and perquisite tax.
Many startups have come in the open and offered an indefinite or long exercise period:
Urban Company offers an infinite exercise period along with all the other good stuff — Re. 1 strike price, accelerated vesting, 4 year equal vesting etc.
ShareChat too offers very generous exercise and vesting clauses with Re 1 exercise price, infinite time to exercise post separation and quarterly, uniform vesting.
Other examples: Nuclei, Tortoise, BharatPe etc. (refer above links)
Here are also some words of wisdom from Shantanu Deshpande, CEO of Bombay Shaving Company
Hope this article helped you get a good sense of how other founders from the ecosystem are going about setting up their ESOP Plans.
In times of severe talent crunch, one needs more than just salary to incentivise the right people to join your rocketship and align their incentives to company goals. In this context, having the right ESOP Policy is a good starting point.
Know any startup founders who have spoken about their ESOP plans ? Do Tag them in the comments below. Let’s spread more #FablesOfESOP.
And if you need help in setting up your ESOP plan, do reachout to me and check us out at: www.qapitacorp.com
Connect with me: srikanth@qapitacorp.com; LinkedIn; Twitter
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