[Kinjal Ahuja and Ashish Rawat are 3rd year B.A., LL.B. (Hons.) students at Chanakya National Law University, Patna]
In March 2025, the Securities and Exchange Board of India (SEBI) introduced a significant reform to its Issue of Capital and Disclosure Requirements (ICDR) Regulations, 2018. The amendment is widely hailed by the startup and tech ecosystem as it enables the companies to retain certain Stock Appreciation Rights (SARs) up to the filing of the Red Herring Prospectus (RHP), provided they fulfil certain conditions: (a) the SARs are equity settled; (b) they are granted exclusively to employees; (c) they are fully exercised prior to the filing of RHP; and (d) they are adequately disclosed in the Draft Red Herring Prospectus (DRHP). This was regarded as an attempt to align India’s Initial Public Offering (IPO) regulation to the practicalities of contemporary, growth-oriented businesses.
However, the Regulations are strikingly silent about a common type of SARs, ones that remain unvested through the DRHP or RHP stage. Unvested SARs are those that have been granted but have not vested, i.e., become exercisable due to time or performance-based vesting conditions and, therefore, currently lie in a legal grey area. The amendment explicitly states that SARs must be fully exercised before RHP and disclosed in the DRHP, thereby clarifying their eligibility. However, it states nothing about unvested SARs, those that vest in future based upon time or performance-based vesting milestone which may only be achieved after the IPO.
Understanding Unvested SARs
SARs are instruments that grant employees the right to benefit from the increase in a company’s share value over a defined period. They can be either equity-settled (resulting in share issuance) or cash-settled (resulting in a cash payout). Importantly, SARs typically include vesting schedules: an employee may only exercise the rights after completing a specified period with the company or achieving performance milestone. Until then, the SARs remain “unvested”, essentially a contingent promise.
In startups, SARs are often used to defer compensation and align employee incentives with long-term value creation. Unvested SARs are especially critical in such setups as they serve to retain talent during the company’s growth and transition phases. With IPO timelines often stretching over months or even years, it is common for a significant portion of SARs to remain unvested at the DRHP stage.
What the SEBI 2025 Amendment Says
The SEBI ICDR Amendment 2025 allows outstanding SARs to continue post-DRHP and only if they are equity-settled, granted to employees, and fully exercised before the RHP. While this provision brought clarity and relief for one category of SARs, it left unvested SARs completely unaddressed. The amendment does not specify how they should be treated, whether they must be cancelled, allowed to vest and be exercised post-IPO or disclosed in the DRHP.
This omission becomes critical because companies must ensure that their DRHP presents a fair and complete picture of the issuer’s capital structure and potential dilutions. Regulation 56 of the SEBI ICDR Regulations prohibits any further issue of specified securities between the filing of the DRHP and the IPO listing or refund, except pursuant to an Employee Stock Option Scheme (ESOP) or SAR, and only if full disclosures regarding the total number of specified securities or amount proposed to be raised from such further issue are made in the DRHP or RHP. However, since unvested SARs do not confer an exercisable right to equity until vesting conditions are fulfilled and the rights are exercised, it remains unclear whether they qualify as instruments requiring disclosure under regulation 56 and, if they do, how their potential equity impact should be measured and presented in the DRHP.
Legal and Strategic Ambiguities for Issuers
This regulatory silence leaves companies facing difficult choices in dealing with unvested SARs during the IPO pipeline. One available approach is to accelerate vesting before the filing of the RHP, ensuring that the SARs qualify as fully exercised and thus fall within the scope of the 2025 amendment. However, this approach has repercussions. Accelerating vesting compromises carefully designed retention policies that are typically meant to span the company’s transition from private to listed status. It also compels early recognition of compensation expense under IND AS 102, which could affect the company’s financial metrics at a sensitive stage. Further, converting SARs into equity leads to issuance of new shares, which dilute promoter or investor holdings earlier than planned.
In an alternative, companies may choose to cancel the unvested SARs entirely, with a view to reissuing ESOPs or SARs post-listing under a fresh scheme. While this may resolve the lack of clarity in regulatory compliance, it introduces significant internal friction. Employees may perceive the cancellation of long-term incentives as arbitrary or unfair, especially when there is no guaranteed timeline or binding commitment to reissue similar benefits after listing. For early employees who often accept lower salaries in exchange for long-term incentives like SARs, expecting to benefit when the company grows or lists, if these unvested SARs are cancelled pre-IPO, it can lead to disappointment and a sense of betrayal. This may result in employee attrition, low morale, and tarnished image of the company.
The third possibility is to hold the unvested SARs and offer them by way of disclosing them in the DRHP together with suitable qualifications and assumptions of how the SARs may affect the equity in future. Viable as this is under the wider goal of transparency under SEBI’s disclosure regime, it has no regulatory support. SEBI has issued no clear guidance or illustrative disclosures for unvested SARs, which leaves companies and their advisors unsure about the format, valuation methodology, or legal acceptability of such disclosures. Given SEBI’s heightened scrutiny of IPO disclosures and its emphasis on preventing investor misinformation, even well-intentioned disclosures carry the risk of regulatory queries or delays.
Comparative Analysis
Learning from global practice, other capital markets offer useful benchmarks. In the United States (US), SEC Form S‑1 registration statements require comprehensive disclosure of all outstanding equity awards, whether vested or unvested. Under Item 402(k)(2)(iii)-(iv) of Regulation S-K, registrants must include an Outstanding Equity Awards at Fiscal Year-End Table listing unexercised options and unvested stock units, clearly demonstrating how these awards could dilute equity if exercised eventually.
In the United Kingdom (UK), IPO prospectuses are governed by the FCA’s Prospectus Regulation Rules and Technical Note 619.1. UK IPO prospectuses must disclose details of capital under option, including securities issued under employee share schemes, with information such as exercise terms and potential dilution. This ensures that investors are informed about equity-linked arrangements that could impact shareholding post-listing, unless the effect is immaterial. By comparison, India’s approach to SAR disclosure requirements, particularly for unvested instruments, continues to lack clarity.
Conclusion
The recent SEBI ICDR Amendment of 2025 represents a meaningful advancement in India’s capital market regulations, particularly in clarifying the treatment of fully exercised equity-settled SARs within the IPO process. Yet, the amendment’s lack of guidance on unvested SARs has created significant uncertainty for companies during their most critical growth phase. While these instruments may not be immediately exercisable, they constitute substantial future obligations that could materially affect ownership structures and employee confidence. This regulatory gap complicates compliance strategies and raises fundamental concerns about market transparency and investor safeguards. Companies now struggle with difficult choices between accelerated vesting, pre-IPO cancellations, or comprehensive disclosure approaches, each carrying distinct operational and reputational consequences without clear regulatory guidance.
The regulatory approaches adopted in the US and UK markets illustrate how well-designed disclosure frameworks for unvested equity awards can enhance transparency while preserving operational flexibility. India would benefit from adopting similar harmonized standards. SEBI has the opportunity to develop standardized disclosure templates or modify current regulations to explicitly address unvested SARs, thereby providing much-needed consistency and regulatory certainty. Such measures would strengthen market integrity while supporting the innovative startup ecosystem that depends heavily on creative compensation arrangements. Ultimately, incorporating unvested SARs into the IPO regulatory framework represents more than regulatory completeness; it constitutes an essential element in developing a sophisticated, transparent, and internationally competitive public market infrastructure.
– Kinjal Ahuja & Ashish Rawat