Eighteen months before their Series A, the founders of a 25-employee B2B SaaS startup had begun issuing ESOP grant letters to their engineering team. By the time investor counsel reviewed the cap table, 11 employees had received grant letters for a combined pool of 7.5% of the company. The problem: not a single step of the mandatory ESOP compliance process had been completed. There was no AoA clause permitting ESOPs, no board resolution approving a scheme, and no special resolution passed by shareholders.
Under Section 62(1)(b) of the Companies Act, 2013, shares can be issued to employees under an ESOP only pursuant to a special resolution passed by the company. Without it, grant letters are contractually interesting but legally void as instruments of share issuance.
What the Investor's Counsel Found
The Series A investor's legal counsel issued a due diligence questionnaire that included a request for the company's ESOP scheme documents: the AoA clause, the board resolution approving the scheme, the shareholder resolution, and grant letters for each employee. The founders sent the grant letters. The rest did not exist.
Counsel's position was clear: the ESOP scheme was legally defective. The grant letters were unenforceable as mechanisms for share issuance. The 7.5% pool shown on the cap table did not represent legally valid option grants. Until remediated, the company could not close the round on the disclosed cap table.
Why This Happens
Most early-stage founders discover ESOPs through cap table management tools and template grant letters. The tools show a pool percentage and generate a grant letter — and the process feels complete. The statutory compliance layer — AoA amendment, board resolution, shareholder special resolution — is invisible in most startup resources and is not prompted by any government portal or bank process. It is simply missed.
The gap is compounded by the fact that employees rarely query the legal basis of their grants. A grant letter with a vesting schedule feels like a promise. The problem only surfaces when a sophisticated investor or acquirer asks for the underlying corporate resolutions.
The Remediation Approach
We had six weeks before the investor's deadline. The remediation required completing — retroactively where possible, prospectively where not — all the steps that should have preceded the first grant letter.
Step 1 — AoA Amendment
The Articles of Association contained no clause permitting the issuance of shares under an employee stock option scheme. A special resolution was passed at an EGM to insert the enabling clause. MGT-14 was filed within 30 days of the EGM.
Step 2 — Board Resolution Approving the ESOP Scheme
A formal ESOP Scheme document was drafted — covering the total pool size, eligibility criteria, grant price, vesting schedule, and exercise mechanics. The Board passed a resolution adopting the scheme.
Step 3 — Shareholder Special Resolution
A second EGM was called to pass the special resolution approving the ESOP scheme under Section 62(1)(b). The notice period, quorum, and voting were all properly documented and minuted.
Step 4 — Reissued Grant Letters
With the scheme now legally constituted, revised grant letters were issued to all 11 employees. Each letter referenced the board-approved scheme, the special resolution date, the specific number of options, the vesting schedule, and the exercise price. Employees were asked to acknowledge receipt and acceptance.
Step 5 — Cap Table and Disclosure Alignment
The cap table was updated to show the properly constituted scheme. The investor's counsel received the full compliance file: AoA, EGM notices and minutes, board resolution, shareholder resolution, scheme document, and all revised grant letters.
The Outcome
Result
- ESOP scheme fully remediated — AoA clause, board resolution, and shareholder special resolution all in place
- 11 employees issued revised, legally valid grant letters referencing the constituted scheme
- MGT-14 filed within 30 days of each EGM
- Investor counsel cleared the ESOP compliance file — round closed on schedule
- No employee required to forfeit existing grants — continuity of vesting periods maintained
What Founders Should Know
- 01
Grant letters alone are not ESOPs.
An ESOP is a scheme — a legally constituted mechanism for issuing shares to employees. A grant letter is the employee-facing document that sits at the end of that scheme. Without the scheme, the letter is a contractual promise but not a valid instrument of share issuance under the Companies Act.
- 02
The AoA must come first.
If the Articles of Association do not contain an ESOP-enabling clause, no board resolution or shareholder resolution can validly authorise the scheme. AoA amendment is Step Zero — before any other ESOP documentation.
- 03
Remediation is possible but time-consuming.
A defective ESOP scheme can be remediated — but it requires two EGMs, multiple board resolutions, reissued grant letters, and employee acknowledgements. Doing it correctly before a funding round takes four to six weeks. Doing it during due diligence, under investor timeline pressure, is significantly harder.
- 04
Engage a CS before the first grant.
The cost of proper ESOP structuring at the start is a fraction of the remediation cost — in time, legal fees, and investor credibility — when the defect surfaces in due diligence.