While ESOPs are a key part of startup compensation, exercising them requires substantial upfront cash for exercise prices and perquisite taxes. This creates risk if company valuations drop or exits like IPOs are delayed. The recent experience at companies like Zepto—which offered employee loans before facing valuation headwinds—highlights why employees must look beyond potential wealth and calculate the real financial risk of converting options into shares.
Employee Stock Ownership Plans (ESOPs) are often framed as a wealth-creation tool for startup employees. However, for many, these options come with significant upfront financial commitments that are often overlooked. To turn these options into actual shares, an employee must pay an exercise price to the company and, more critically, a perquisite tax to the government. This creates a cash-flow event well before the employee can actually sell the shares for a profit.
The taxation structure in India complicates this further. An employee is taxed on the difference between the fair market value of the share and the exercise price at the time of conversion. Even if the shares remain illiquid and cannot be sold, the tax bill must be paid, which can amount to millions depending on the share quantity and the valuation at the time of exercise. For employees in high tax brackets, this upfront cash burden can be substantial.
The real danger emerges when there is a mismatch between the expected future value and the actual outcome. If an employee exercises options based on a high valuation, and the company later struggles or delays its IPO, the employee is left with illiquid shares that may be worth less than anticipated. This leaves the employee with a locked-in investment that cannot be cashed out.
The Zepto Case Study
The recent situation at quick-commerce firm Zepto serves as a practical lesson in these risks. To help staff participate in equity ownership, Zepto approved an interest-free loan of approximately ₹700 crore for its employee welfare trust. This initiative was intended to help employees bridge the gap for exercise costs. However, the company subsequently faced valuation challenges. While Zepto had reached a private market valuation of $7 billion in October 2025, market discussions regarding a potential IPO have since seen estimates drop to between $2.5 billion and $4.5 billion.
For employees who exercised their options when expectations were higher, this shift in valuation represents a significant disconnect. With the company deferring its IPO plans to focus on operational execution and private funding, these employees now hold shares in a company where the anticipated exit timeline has been extended and the potential valuation has been recalibrated by market investors. This underscores how valuation volatility can turn an expected gain into a waiting game.
Risks and Financial Planning
Beyond valuation, liquidity remains the primary concern. ESOPs are not like shares of public companies that can be sold on an exchange instantly. They often require a liquidity event—such as a buyback, secondary sale, or IPO—to turn into cash. If a company delays its public listing, employees may be trapped with an asset they cannot sell.
Furthermore, some employees borrow money to pay the upfront perquisite taxes. If the stock price falls or the exit is pushed back, the employee is left servicing a loan on an asset that has lost value or cannot be sold. This creates a double-sided risk: the loss of the initial capital used for taxes and the debt obligation incurred to fund that payment.
Financial experts emphasize that ESOP exercise decisions should be treated with the same caution as any other investment. It is important to assess the company’s path to profitability, the timeline for potential public listing, and the actual cash-in-hand cost of exercising options. Relying solely on paper wealth or peak valuation estimates can lead to significant financial strain if market conditions change before a clear exit path is available.