ESOPs Demystified
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This document discusses employee stock ownership plans (ESOPs), including: - The key stages of an ESOP including grant, vesting, exercise, and sale - Factors to consider when designing an ESOP like number of shares to grant, strike/grant price, and vesting schedule - Implementing an ESOP through steps like designing the plan, communicating to employees, and issuing grant letters - Additional considerations for founders like their agreement, equity treatment if leaving, and more The document provides an overview of ESOPs to help understand how they work and what goes into designing and implementing an effective ESOP for a company and its employees.
ESOPs Demystified
- 1. @manish_saarthi Backing Ventures in Deep Tech creating 10x differentiated businesses Demystifying ESOPs Manish Singhal @piventures#chAI_esop_talks
- 3. piVentures2019AllRightsReserved Understanding ESOPs Designing ESOPs for your team Implementing ESOPs Overall Structure
- 4. piVentures2019AllRightsReserved A chunk or pool of the company dedicated for employees as remuneration (Employee Stock Option Pool) These ESOPs when exercised converts into common shares of the company At the time of exit, the shares are also acquired at a price giving the opportunity to cash in for the employees Understanding ESOPs
- 5. piVentures2019AllRightsReserved ESOP Life-cycle Grant Right offered to an employee to buy a certain number of shares in the company's stock for a set price (Strike Price / Grant Price / Exercise Price)
- 6. piVentures2019AllRightsReserved ESOP Life-cycle & Terms Grant VestReceives the right Vesting is a time bound (or milestone bound) schedule to earn the rights to exercise a certain number of shares
- 7. piVentures2019AllRightsReserved ESOP Life-cycle Grant Vest Exercise Receives the right Earns the right Exercise is the process of buying the vested shares from the company
- 8. piVentures2019AllRightsReserved ESOP Life-cycle Grant Vest Exercise Sale Receives the right Earns the right Exercises the right Sells the shares
- 9. piVentures2019AllRightsReserved ESOP Life-cycle Grant Vest Exercise Sale Receives the right Earns the right Exercises the right Sells the shares Options Granted Strike Price Shares Company
- 10. piVentures2019AllRightsReserved Grant Stage: Number of ESOPs & Grant Price (Also called Strike Price / Exercise Price) Understanding ESOPs
- 11. piVentures2019AllRightsReserved Vesting Y1 Y2 Y3 Cliff - 1 year Vesting - monthly, quarterly or yearly
- 12. piVentures2019AllRightsReserved Vesting Y1 Y2 Y3 Cliff - 1 year Vesting - monthly, quarterly or yearly 100 25 50 75 100 Grant Vest
- 13. piVentures2019AllRightsReserved Other forms of Vesting Performance Based Vesting Backloaded Vesting
- 14. piVentures2019AllRightsReserved Seed/ pre- Series A Series A Series B Series C Exit FMV Grant Price Grant Stage Discount @ Grant Exercise Stage Tax @ Exercise * Sale Stage Capital Gains Tax on Sale Exercise * Tax laws vary in different countries. For example in India, this tax liability will get added to your income as perquisite and taxed according to your income slab. * Estonia, Israel, Canada are the most tax friendly countries from ESOP perspective
- 15. piVentures2019AllRightsReserved Sale M&A IPO Company Buy Back Secondary Sales (post exercise)
- 17. piVentures2019AllRightsReserved Grant - Number and Strike Price Whom all to grant? Vesting Curve Exercise Terms Key Decisions to be made
- 18. piVentures2019AllRightsReserved How to determine # Science or Art? Compensation Reward Can be on-going basis as well
- 19. piVentures2019AllRightsReserved How to determine # Using FMV Cash ESOP Shares Market Salary 20 L INR Cash Available 13 L INR ESOP Compensation 7L * 4 = 28L ESOP Shares 28L/280 = 10000 Current FMV = 280 Rs / Share This gives you a starting point. You can then use this to come up with the appropriate number using other factors Assuming ESOPs vest over 4 years
- 20. piVentures2019AllRightsReserved How to determine Strike Price Keep it as low as possible for as long as possible Typically increment from Series A and beyond
- 21. piVentures2019AllRightsReserved Strike Price Curve Strike price $0.14 Strike price $0.54 Strike price $0.80 Strike price $0.91 FMV $4 FMV $12 FMV $30 FMV $60 FMV $136 Seed Series A Series B Series C Series D
- 22. piVentures2019AllRightsReserved Strike Price Curve Strike price $0.14 Strike price $0.54 Strike price $0.80 Strike price $0.91 FMV $4 FMV $12 FMV $30 FMV $60 FMV $136 Compensation more than reward Reward more than compensation Seed Series A Series B Series C Series D
- 24. piVentures2019AllRightsReserved Vesting Decisions Vesting Curve 4 year curve, 1 year cliff, quarterly vesting is generally quite a good option Leaver Scenarios
- 25. piVentures2019AllRightsReserved Bad Leaver / Good Leaver Scenarios Typical Practices Scenario Vested Shares Unvested Shares Resignation Remains with the employee Lapse Retirement Remains with the employee Lapse Death / Incapacitation Remains with the employee Accelerated Vesting Leave for Cause Lapse Lapse M&A Gets bought by the company / Acquirer Depends upon the acquisition terms* * Accelerated vesting on M&A is also a practice. However, it can lead to hurdles in M&A
- 26. piVentures2019AllRightsReserved Exercise Decisions Time given to exercise at the time of resignation Infinite 90 day period Few years extendable on board request Bad Leaver / Good Leaver Scenarios
- 28. piVentures2019AllRightsReserved Key Steps Designing steps Pool, Grant Price, Allocation, Exercise terms etc Work with a lawyer to get an ESOP Policy drafted Communicate with Employees Register your ESOP policy with the appropriate authority and give grant letters to folks
- 29. piVentures2019AllRightsReserved Communication Explain how ESOPs work Communicate the value of ESOPs Work out an exit price estimation Issue Grant Letters promptly
- 30. piVentures2019AllRightsReserved Founder Considerations Founders Agreement Vesting Curve Assignment of IP Confidentiality Non compete / Non solicit Equity treatment in case of founder leaving
- 31. piVentures2019AllRightsReserved For more information manish@piventures.in Team pi *Thanks to Prof Shivaram from IIT Mumbai for the phrase J AI HIND*