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How to allocate Stock to founders in a startup

Updated: Oct 8, 2020

When founders start a company often their main focus is on product development, customer acquisition and maintaining a growth trajectory. However, founders should also use this beginning period of the company to make management decisions such as clarifying roles and responsibilities. One question that each start up that has been founded by more than one founder is often faced with how to allocate equity amongst the founders. Questions such as who gets what percentage of the company or what will each contribute to the firm etc. Allocating stock as the company grows and the shares increase in value will be more difficult down the line. It’s best that founders sign a founder’s agreement that defines the allocation of shares.

Allocating or distribution of stock refers to how much of stock should go to the founders of the company relative to the total amount of stock outstanding. There is no perfect allocation, however, when a company has several founders, its best to split the stock equally. If apart from the founders, there are no other investors then in such a scenario, 80% of the stock should be allocated to founders with the remaining as outstanding shares reserved. Depending on the specifications of the company i.e. number of founders, investors etc., allocation may be accordingly done. There’s no right or wrong answer—only a solution that each of the founders can agree with. However, allocating too much equity to a founder whose ultimate contributions will not be equal to other founders or who is looking to work on the startup only part time, may seem unfair. The rationale is that cofounders often have something different to offer or contribute to the startup.

If the founders find themselves in a situation where an equal split is not just, then usually they tend to consider the following factors while deciding on how to allocate stock:

a) Formulation and execution of the Business idea

b) Expertise in the industry including any connections to venture capitalists or other investors

c) Contribution to technology (if the company involves patented technology)

d) Level of responsibility that the founder will be taking i.e. allocation based on actual work done.

e) Time allocated by the founder towards the start up i.e. whether the founder will be working full time or part time

When discussing the relative contributions of cofounders, aspects such as effort in prior research, involvement in ideation or intellectual property, past financial and time investments, domain expertise, career risks, and entrepreneurial track record should be considered.

The factor that has been left out is capital contribution. Capital contribution should not be taken into consideration while deciding the distribution of stock. It’s better to allocate stock based upon each founder’s actual level of work contribution (called “sweat equity”) and treat financial contributions from a founder the same way that a startup would from an investor. No matter what the allocation is, the founder must be subjected to a vesting schedule. When company issues stock, it can do so either subject to certain conditions or outright. When the stock is issued subject to vesting, the holder of the stock owns only some stock and other shares are subject to forfeiture or repurchase if certain conditions are not met. For vesting, a different article will be put out soon!



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