Paytm in the hot seat again: Can Vijay Shekhar Sharma emerge unscathed from SEBI's ESOPs notice?

Beleaguered One97 Communications, which runs fintech major Paytm, is under the regulatory scanner yet again. This time, for issuing employee stock option plans (Esops) to its Founder and CEO Vijay Shekhar Sharma, who does not fall under the promoter classification. The company has received a show-cause notice from the markets regulator, the Securities and Exchange Board of India (Sebi).

The issue dates back to FY22, when the company granted 21 million Esops to Sharma prior to the initial public offering (IPO), with the intention of vesting them equally over the next five years. The scrutiny now centres on Sharma’s classification as a public shareholder, considering his role and influence within the company. This is critical because Sebi’s regulations strictly forbid promoters from receiving Esops. The company has stated that it is in compliance with the relevant regulations in its response to Sebi’s notice. “There is no impact on the financial results,” it claimed, referring to the ‘issue’ as an old one.

The crux of the matter revolves around Sharma being classified as a public shareholder rather than a promoter in Paytm’s IPO documents filed in November 2021. According to its offer document, Paytm stated that it is a professionally managed company with no identifiable promoter. Under regulations, an identifiable promoter is an individual or entity that has control over the company and is responsible for its management. It is mandatory for promoters to contribute a minimum of 20% of the post-issue capital in an IPO. This requirement ensures that they hold a substantial stake in the company, which helps align their interests with those of other shareholders. Sebi has been insisting that large shareholders, especially in IPOs of professionally-run start-ups, classify themselves as promoters if they hold more than 10% stake.

Gaurav Sahay, Practice Head (General Corporate & Technology), Fox Mandal & Associates, a full-service law firm, says that the distinction between control—typically understood as the ability to influence key decisions and often linked to ownership or voting power—and promoter in the law is somewhat ambiguous. This can have big effects on compliance, transparency, and stakeholder alignment. Sharma’s case highlights critical legal questions. “One such question is the interpretation of control versus the classification of the promoter. The regulations focus on control, but the classification of a promoter is not solely dependent on this,” says Sahay.

In January last year, Institutional Investor Advisory Services India Ltd (IiAS), a proxy advisory firm, also highlighted the issue. “Testing whether Sharma has control over Paytm is not a one-time assessment conducted solely at the time of the IPO; regulators must periodically evaluate whether Sharma and other founders not classified as promoters exert control over their companies or if the boards of these companies are accustomed to acting under the founders’ advice, direction, or instruction.” IiAS had also suggested that Sebi evaluate whether Sharma’s personal equity holdings, as well as those held on behalf of the Sharma Family Trust, should be aggregated to determine compliance with the 10% threshold set out under Indian regulations and Paytm’s Esop scheme.

A series of transactions has further complicated the issue by changing Sharma’s direct shareholding. Before the IPO, Sharma transferred 5% of his shareholding to a family trust named VSS Holdings Trust. This move resulted in a reduction of his stake to 9.6%, which is just below the 10% threshold that typically raises the concerns about ‘control’ or ‘promoter’. Sebi, according to experts, is currently examining the transfer deal to determine if this was sufficient to exempt Sharma from being classified as a promoter.

For instance, in August 2023, Sharma acquired an additional 10.3% stake in Paytm from Antfin Holdings (Netherlands) through his wholly-owned overseas entity, Resilient Asset Management BV. Sharma directly and indirectly holds 24.3% stake in Paytm. Although this stake in an overseas entity falls under the category of ‘foreign direct investment’, Sebi’s investigation might look into this deal for ‘control’.

IiAS points out that this trend is commonly observed in companies with private equity investors in their pre-IPOs. “These founders enjoy several of the perks that promoters have, including board permanency, board control, and management leadership,” the IiAS report states.

According to experts, the regulator is not comfortable with founders owning stock options that grant them similar rights to those of promoters. Sahay says this new trend reflects a broader concern about fairness and accountability in corporate governance. “The situation creates a regulatory gap where founders can exercise substantial influence without being subject to the same disclosure and compliance obligations as promoters,” Sahay explains.

“While Sebi’s approach may challenge some existing corporate structures, it aligns with the principles of transparency and fairness, which are crucial for investor confidence and sustainable growth in the market,” says Sahay, adding that that is a proactive measure to close potential loopholes in corporate governance, ensuring that all players are equally accountable for their influence and control within the company.

@anandadhikari