How to Split Equity in a Startup

The word "equity" spelled out in scrabble letters

Dividing up the equity of your startup is one of the more complicated issues you will confront as an entrepreneur. Many clients have a general sense of what they want—50/50 split, 20/80, etc. However, they need to consider many issues with their California startup attorney before they can make a thoughtful choice.

Think about the Future

Some clients intend to never raise capital or issue other equity shares. In that situation, splitting equity might be easy. But you also need to consider the following:

  • Do you want to offer ownership to people beyond the original founders? For example, you might want to offer equity to employees in the future. If so, you’ll probably need to create an options pool.
  • Do you intend to raise capital in the future? You might need to put shares aside right now for that purpose.
  • What business form do you want to take? You can’t have an options pool with an LLC, so you will need to choose a different form if you want to create options.

Vesting

Another consideration is a vesting schedule. If equity immediately vests, then one founder can leave the startup in a week and take a portion of the company with them. That is not ideal. Neither is buying the person out.

Instead, with a vesting schedule, you can delay the point when people gain access to equity. Many plans will give a founder access to 25% of equity after a certain amount of time (say a year) and then increase the percentage for every subsequent month they are with the company. Every company is different, and coming up with a vesting schedule requires thinking critically about how committed every founder is to the startup.

Allocate Equity Correctly

Dividing equity equally between all founders might be the simplest method. And you might like the idea that all founders are “equal” in importance. But is that really the case? Often, one or more founders are more important to the success of the company.

You should talk with your attorney about the relative contributions of all people who will receive equity. Is there one person who is absolutely critical to your success? If so, he or she should probably get more equity in the company—and the other founders should be okay with that, since they also see how necessary this person’s contribution is.

Disputes over equity allocation can often reveal fundamental problems in a startup that the founders are trying to avoid. For this reason, splitting equity is often not a simple, one-stop type legal issue that can be solved in an hour. Instead, many startup founders need to take a fresh look at their company and where it is headed before they decide on an equity split.

Speak to a California Startup Lawyer Today

At Kalia Law, we represent startups and small business owners and handle all of their business formation issues. For more information, please contact us today to schedule a consultation by calling 650-701-7617.

 

 

 

- Claire Kalia

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