Explaination: ESOP refers to Employee Stock Option Plan. ESOP is given to a specific set of employees of the Startup as an incentive to retain and motivate them. It is necessary to keep ESOP in the term sheet as it will give an idea about their clear stake in the Startup and to ensure that there is no further dilution.
How it applies to Startup/Investor and its impact: ESOPs are one of the most important methods of providing incentives to employees of a Startup as Startups may not have enough funds to provide higher compensations to employees. Since, team is the most inportant factor for the growth of the business, ESOPs ensure the employees are invested in the Startups and have a greater chance of ensuring higher retention of employees.
Note for Startups – A Startup should always have sufficient amount of ESOP pool available to ensure it can incentive good talent to help build the business.
Note for Investors – Investors should ensure that all decisions to allot ESOPs over a certain threshold to any person is required to be specifcally authorized by the Investors.
Ideal position – Each Startup shall at all times have at least 10% ESOP pool available with them