When ESOPs turn real: what the Unacademy moment means for startups

For many former Unacademy employees, a recent email from the edtech company felt like a deadline with a price tag.

The message asked exited employees to exercise their vested Employee Stock Ownership Plan or ESOP options within a short window.

They were left with two choices: Do it now, pay tax now, or let the options lapse. For people who had left believing equity was a distant possibility rather than an urgent liability, the email collapsed time. What was once abstract suddenly demanded cash.

That sense of shock is why this episode raises questions well beyond Unacademy. It has triggered a broader conversation across the startup ecosystem about how equity really works when valuations fall, exits are uncertain, and investor protections kick in.

At the centre of the story is a familiar but uncomfortable truth: ESOPs are not promises of value. They are claims that sit at the very bottom of a capital stack.

The moment that raises questions

Unacademy’s leadership has been explicit about the context. The company is in M&A discussions for a potential all-stock transaction at a valuation significantly lower than the capital it has raised over the years. 

In an email to ESOP holders, Co-founder and CEO Gaurav Munjal explained why the board chose to ask exited employees to exercise their options.

“When liquidation preference is properly enforced, ESOPs effectively become zero. But we did not want that to happen,” Munjal wrote. “So we requested the board to figure out a way to ensure that employees can get shares in the company if there is a stock deal, even if it is at a lower valuation.”

The logic, as Munjal laid it out, was about parity rather than payout. Exercising options converts them into common shares. In an all-stock deal, only shareholders can participate in a share swap. Unexercised options would be left out entirely.

“This will ensure parity for exited employees with common shareholders,” Munjal wrote.

The explanation is technically sound. It is also where the emotional and financial conflict begins.

Where the maths turns unforgiving

Across founders, investors, lawyers and former employees, there is rare agreement on the mechanics. Liquidation preference does what it is designed to do—it ensures that investors recover capital before common shareholders see anything.

The problem, as many point out, is not legality but consequence.

Former Unacademy employee Ravi Handa wrote a widely shared thread explaining the situation.

“Exercising ESOPs requires employees to pay tax upfront based on the current valuation, even though the shares are illiquid and may never generate cash,” he wrote.

Handa’s explanation stripped the situation down to its essentials. Exercising converts options into common equity. It does not change the order of payouts. If the deal value is close to or below the total liquidation preference, common shareholders may receive little or nothing.

“Being treated the same as other common shareholders does not mean you receive value,” Handa wrote. “It only means you are placed in the same queue.”

That queue, for many, looks bleak. The tax bill, however, is immediate.

Tax bill that changes how people think about ESOPs

The tax aspect is where the theory becomes painfully real. In India, exercising ESOPs in an unlisted company triggers tax on the difference between the fair market value and the exercise price. The tax is due even if the shares cannot be sold.

For many former employees, this meant paying significant tax on shares whose eventual value is unknown.

“For an unlisted company, an exited employee exercising ESOPs faces tax without liquidity, which is the core issue,” said Shivaarti Bajaj, Co-founder and Managing Partner, RSD Bajaj Global Law Firm.

“This does not pump any cash into the company,” Handa noted, pointing out that the exercise price itself is often negligible.

That mismatch between cash outflow today and uncertain value tomorrow has raised questions. HR leaders and founders say employees are beginning to reassess how they value equity.

“You can argue that legally, it’s right, which it is. There’s absolutely no legal loophole in that. But it’s basically around faith and in spirit,” said the founder of a large edtech firm, who didn’t want to be named.

“Trust is questioned strongly by this decision,” the founder added. “It takes so many years to build that and very little time to break it.”

Founders caught between reality and trust

For founders watching the episode unfold, the discomfort is acute. Many acknowledge that investor protections cannot be wished away. At the same time, they worry about the long-term cost to trust and hiring.

Shantanu Rooj, Founder and CEO of TeamLease Edtech, described the situation as a reminder that ESOPs in India need to be designed for local realities rather than copied wholesale from Silicon Valley. He pointed to the need for clearer exercise windows, buyback mechanisms and better communication around downside scenarios.

Others echoed that view. Naveen Tiwari, founder of Scrabble, said the episode should prompt boards to think harder about governance and empathy, arguing that founders need to anticipate how decisions land with people who do not have the same information or risk tolerance.

“More than anything else, this episode only affirms our approach. We, furthermore, would encourage our partners to align their ESOP exercise window in accordance with the laws of Indian start-up ecosystems,” Tiwari explained.

“This includes following a 3-6 months window as opposed to decade-long ones, to balance risk and retention,” he noted, adding, “In situations like this, leading with empathy and transparency really helps.”

The concern is not just reputational. Several founders said privately that they are already fielding tougher questions from candidates about liquidity, tax exposure and exit scenarios.

Investors and the limits of protection

Investors, for their part, emphasise fiduciary responsibility. Liquidation preference exists to protect capital, especially in down cycles. Few dispute that.

At the same time, investors and sector leaders recognise that the episode exposes a communication gap.

As Rooj noted, “ESOPs were introduced to democratise wealth creation, not to transfer balance-sheet or regulatory risk to former employees.”

Some investors say the lesson is not to dilute protections but to clarify expectations earlier. If employees understand from the start that ESOPs carry real downside risk, the shock is reduced.

What the law allows and what it does not

Legal experts stress that while companies have latitude in structuring ESOPs, there are limits.

Bajaj, who specialises in startup law, noted that once options are granted and vested, they form contractual rights.

“Any post-grant change that is prejudicial to the option holder can be challenged unless approved by shareholders via special resolution, properly disclosed, and demonstrably not adverse to employees,” she said. Unilateral changes, especially after exit, carry high legal and reputational risk, Bajaj added.

“If a company shortens the exercise window for already-vested options, it may trigger breach of contract claims, challenges under Rule 12 for prejudicial variation and allegations of unfair or oppressive conduct,” she explained.

Bajaj also pointed to practical mitigations that companies can adopt, including extended post-exit exercise windows, structured buybacks and secondary sales where feasible. On tax, she argued that clearer fair market value methodologies and explicit support mechanisms could reduce harm.

A recalibration already underway

Whether this episode becomes a turning point remains to be seen. But signs of recalibration are already visible.

HR firms report growing demand for higher cash components in compensation packages. ESOPs are increasingly treated as speculative upside rather than core pay. Some founders say they are revisiting vesting schedules and post-exit terms to avoid similar flashpoints.

Rooj suggested that startups may move towards shorter, more realistic exercise windows paired with clearer buyback rights, rather than long theoretical windows that collapse under pressure.

More than one company’s problem

In the end, the Unacademy ESOP episode is less about intent than design. It reveals a system built for boom times, grappling with contraction.

Munjal himself acknowledged the outcome was not what anyone wanted. “This is not the outcome that we wanted, neither for investors nor for employees,” he wrote, adding that the leadership had tried to ensure ESOPs did not go to zero.

The episode has been sobering for employees, a reminder to founders that equity rests as much on trust as on numbers, and a signal to investors that second-order effects cannot be ignored.

Whether the ecosystem responds with clearer rules and fairer structures, or treats this as an isolated case, will shape how startup employees value the promise of ownership.