The ultimate truth of startup life when it concerns employee stock ownership plans (ESOPs) is that…they don’t matter much. IT services company Infosys and e-commerce giant Flipkart are regarded as “ESOP poster boys” in the industry. But no other company has come close to replacing them in the ESOP hall of fame.
Despite that, ESOPs have emerged as an unlikely tool of leverage among startups and unicorns after the onset of the Covid-19 pandemic. The likes of food delivery company Zomato, scooter rental startup Bounce, e-grocer Grofers, and budget hotel chain OYO are compensating their employees for pay cuts with ESOPs. They’re also being used as a tool to acqui-hire companies on the cheap, said at least two venture capitalists The Ken spoke to.
On average, India’s new economy companies have 5-10% of their equity locked in an ESOP pool. Now, that pool is, almost counterintuitively, set to grow. “[Established] companies are seeing their ESOP pool grow by 25%,” said Neeraj Aggarwal, co-founder of xto10x xto10x The Ken Startup school to SaaS: Binny Bansal’s xto10x stepping stone Read more , a consulting firm that works with multiple startups.
As it is, the value of unexercised ESOPs, or paper money, is staggering. The top 30 unicorns in India record close to US$80 billion in valuation. Almost 10-15% of the valuation of these companies resides in ESOPs, estimates Hari TN, head of human resources at grocery delivery unicorn Bigbasket.
Employees, however, have not been able to realise these gains. ESOPs are the promised land of riches, but one that can be unlocked only when companies go public or get acquired.
The incentive tool that startups have relied on to get the smartest talent ranges from 50% of cash compensation in late-stage companies to 200% in early-stage companies. Still, ESOPs are losing their sheen.
“The whole equity game was at its peak when the understanding of equity was low,” said Anandorup Ghose, partner at consulting services firm Deloitte. “People understand the pitfalls of it better now. So equity as a real differentiator is going down.”
While the rekindled fire for ESOPs isn’t warming up employees, companies and investors see it differently. “Companies are cash-strapped cash-strapped The Ken The Covid-19 barricade on startup runways Read more and ESOPs are a non-cash expense,” said an investor who didn’t wish to be identified. “We are replacing the salary with a higher value of equity. If the valuation is currently lower, employees get more shares.