Now what?
We recommend an equal equity split for co-founders. Many of the problems founders worry about with equal equity split are resolved by having a good vesting schedule. Vesting is the idea that if someone leaves the company before a certain period of time elapses, they forfeit a portion of their shares. If all the company’s value is created in the future, you want to avoid a situation where if one co-founder quits after a month, they still own half the company at year ten.
How does vesting normally work?
Having a vesting schedule is the common best practice around the world. A conventional schedule dictates that a founder must work for four years to get 100 per cent of their shares. If they leave within the first year, they typically get nothing. After twelve months, you hit the ‘cliff’ and ‘vest’ 25 per cent. This means that if you leave the day after your first anniversary, you would keep a quarter of the shares you started with. After that, your shares vest in equal monthly instalments until you reach 100 percent of your shares vested at the end of the fourth year. If you leave after that, you keep everything you started with. This schedule – ‘four years with a one-year cliff’ – is typical, but vesting schedules can vary from startup to startup.
What if you don’t have vesting?
The feeling of ownership founders have around their ideas can create negative emotions around vesting. ‘I poured myself into starting this company – what do you mean I get nothing?’ But the minute they start to think of themselves not as the person that leaves but as the person who stays, it starts to feel like a very good idea. Vesting is one of the most important founder protections you can have when legally establishing a company. It helps to resolve the question about equity split. You might start 50/50, but if someone isn’t pulling their weight, and they leave, their ownership will fall. That way, the value is weighted by who actually does the work over a period of time, rather than trying to decide how much the work you’ve done in the past should translate to the value you get in the future.
If you don’t have vesting and a founder leaves early on, they will keep all their shares. This is tough if you’re the remaining founder: half of the benefit of everything you do in future goes to someone no longer contributing to your company. But it also often makes your company uninvestable. You’ll struggle to find any good early stage investor who’ll invest without you agreeing to vesting, and later stage investors might ask you to re-vest a portion of your shares again. If a large chunk of the company’s equity is held by a former cofounder, there usually isn’t enough equity left to properly incentivise the founders, executives, employees, and investors who’ll need to build the company in the future. In short, vesting is essential.