While the idea of instantaneous value may be exciting to founders (including yourself), if you have more than one employee, you will still want to have a vesting schedule firmly in place at the time you incorporate your company.
You may have heard that not having a schedule may give you additional “leverage” over your investors, but this almost never the case—the lack of a schedule is apt to drive away legitimate concerns, who will reasonably expect it to be in place.
Vesting, as a concept, essentially exists to ensure that essential employees, like founders, stay with a company through the initial lean years and for long enough to make the product a success. Most startups give employees, including founders, some form of equity compensation in the company’s equity.
The Vesting Period
If you’re already familiar with the concept of vesting, feel free to skip ahead. An employee or founder’s stock options, equity grants, or other limited benefits are said to vest when they receive the non-forfeitable right to exercise those options. In almost all cases, this is governed by a pre-set vesting schedule, which determines at what time employees will be able to exercise their options and in what percentage.
A four-year vesting schedule is the norm for most stock options. In a typical 4 year schedule, the default assumption in Capbase, 25 percent of options will vest after one year has passed since they joined the company—the so-called vesting cliff.
After the one year cliff, the remainder of stock options may vest at any predetermined rate, but at the mass of companies, they vest monthly for employees and quarterly for other personnel, like advisors.
Under this schedule, the holder has gained access to the full portion of promised stock (or vested equity) after four years—or the vesting period. They are then said to be fully vested. Before this time, you are liable to lose the un-vested portion of your stocks or options if you are terminated or leave the company.
Especially for founders, who have a special relationship with the company and have likely already devoted months—if not years—to the product, it helps to keep the option open to backdate their vesting schedule, adjusting it to begin at an earlier date to reflect the work they have already invested.
Co-founder equity is rarely the same. While the idea is romantic, it rarely happens that two (or more) founders of a startup bring equal portions of labor, intellectual property or material investment to the corporation. Each founder will bring something different to the company and likely has a different expectation of their time investment, and as such, the equity they receive will rarely be equal.
At the same time, most companies are served by splitting equity between founders in a balanced or equitable way, as in a 40/45 split rather than a heavily weighted 90/10 split. These issues are covered in expanded depth in the article How to Split Equity Among Co-Founders.
Vesting schedules are likely to be the same. Despite differences in equity, in most cases, companies will find it advantageous to maintain the same vesting schedule for all founders. This not only eliminates the appearance of inequality but may quell individual re-negotiations of terms by co-founders in the future.
Buying Your Founders’ Shares
In nearly all cases, the newly authorized founders shares are bought by founders at their par value at the time of incorporation. Founders may choose to purchase their shares outright or in some cases trade a portion of their technological IP for some of the final value.
The valuation of this IP is called consideration. We provide pre-filled forms for consideration handovers in Capbase. The importance of this particular process will be addressed in a future article
Once you, or an employee have purchased or been given a stock grant, you will more than likely want to make a section 83 b election, which will allow you to obtain special tax treatment related to your stock option grant price. The buying process itself is a slightly more complicated affair, which is why we’ve automated and provided a sample timeline for it in Capbase.