Shares given to the Founders of the Company
Shares given to the Founders of the Company
Founders stock refers to the equity that is given to the early founders of an organization. The stocks differ in a few ways from common stocks in a secondary market. The key differences being that founder’s stock can only be issued at face value, and it comes with a vesting schedule.
Founders stock is not a legal term per se. It’s simply used to describe the shares issued to the early participants of a firm. It could be investors and any other individual who helped transform the idea of a company into reality. Consequently, a firm’s bylaws may not even include the term.
As already mentioned, one unique characteristic of founders stock is that it comes with a vesting schedule. The schedule determines the exact time that shareholders are allowed to exercise their stock options. For instance, if an individual owns shares vested over a five-year period, it means that they become exercisable after five years. As such, the shareholder would need to work for the firm for that period before he can be allowed to exercise his stock options.
But why would an individual consider a vesting schedule for their founder’s stock? Two reasons: one, if one of the early founders chooses to leave or is asked to leave when the company is still young, a vesting schedule helps to protect the other founders from the “free rider” problem. Although most founding teams remain united from the start to the end, it is not unusual for one or more of the founders to part ways. When such an event happens, a vesting restriction ensures that the departed founder does not get any more benefits resulting from the efforts of those who remain to build the firm.
Secondly, a vesting schedule is prepared if the company is expecting a future investment like a venture capital and angel investors who usually ask for these kinds of vesting restrictions. An individual may decide to wait up to the time of investment to address the issue. The drawback for the founders playing the “wait and see” game is that it puts them at risk of getting fair allocations of company equity. The investors who put their money into the firm later may come up with a more onerous proposal of how to divide equity compared to the one that the founders would’ve created if they were on their own.
The guiding principle when dividing equity among the stakeholders is fairness. In fact, the practice is more important than getting the largest stake in the firm. So, how should founders stock be shared out?
First, an individual should keep in mind that just as his firm is expanding, then so does the number of employees and participants involved. It can be described as adding people in “layers.”
For a majority of organizations, each layer takes about one year. So by the time the firm expands to the point of going public, it has five or more layers of employees.
Now, when dividing equity, the very first founders should get at least 50% of the company. Each of the subsequent layers should receive 10% of the company, which is then divided equally among all the employees in that layer.
Company owners don’t always need to adhere to the above formula when allocating founders stock. However, the main idea is that stripes of seniority or hierarchy be set up first so that those who risked the most receive the greatest share.
Founders stock refers to the shares issued to the originators of a company. Often, the stock does not receive any returns up to the point the dividend is payable to the common stockholders. Founders stock comes with a vesting schedule, which determines when the shares are exercisable. A vesting schedule is vital because it helps protect founders from the free rider problem if one of them decides to leave. It also protects the founders’ equity when other investors come into the equation.
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