DIVIDING EQUITY AMONG FOUNDERS

What Makes Someone A Founder?
There is much confusion over what makes someone a founder, and whether it has any legal significance. A founder is really nothing more than a designation that the original promoters of an idea bestow on one another to identify to the outside world who is credited with getting the company off the ground. Often a key hire may come in well after the company has been formed, and in the end be described as a founder.

The expression has no legal significance per se. However, venture capitalists ("VCs") do distinguish founders from other employees for certain reasons. For example, VCs often require the founders to make certain representations and warranties individually at the time of the first round of investment. In addition, VCs might want to impose certain vesting restrictions on the stock of founders, but not be so concerned with the other employees on the theory that the founders really constitute the brain trust. (Nonetheless, late hires, especially late executive management hires, are often treated like founders by VCs for such purposes).

How Should Equity Be Apportioned Among Founders?
If three people jointly conceive of an idea that is based on a business model rather than a technology, it would not be unusual them to split the company evenly at formation. However, if one person conceived of the idea, wrote the business plan, and assembled the team, a 50/25/25% split might be more appropriate. In addition, it is often the case that when the business plan is based on a proprietary technology, the developer of the technology receives a significantly higher percentage of the company. However, if the technologist is fortunate to attract as a co-founder a CEO with established industry credentials and connections, the business experience of this person might level the playing field and suggest a more equal split of founders equity.

If you are the lead promoter of an idea, and are faced with making the initial proposal regarding the division of equity, keep in mind that nibbling around the edges of a prospective co-founder's equity position may not engender the level of trust and cohesiveness that is essential amongst the members of a founding team. The objective is to reach an allocation that is perceived to be fair and that leaves all of the founders feeling properly incentivized to do what is necessary to make the business a success.

 

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Niesar & Vestal LLC is a San Francisco Business Law Firm with a diverse transactional and litigation practice. Our clients include individuals, emerging businesses, government entities and publicly held companies. 

 

 

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