Download Founders' Vesting Agreement Template
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As the saying goes, "a house is only as strong as its foundation." The same can be said for startups. For a startup to survive in the long run, it is crucial to have an ownership structure that could sustain the company's growth.
As a founder, you must provide a sustainable ownership structure to your startup at the initial phase. The ownership must be legally backed by a mutual agreement mentioning what, when, and how much part of the company your co-founders will own. The legal document that encloses all the clauses related to equity distribution is called a "Vesting Agreement."
As a company owner, a vesting agreement is one of the most crucial documents you'll ever sign to keep all other co-founders engaged during the initial years of the start-up. It contains all the equity-related terms you and your co-founders agree on.
You can approach a lawyer to draft a founders’ agreement for your company. Alternatively, you can even prepare one yourself by editing a pre-drafted template according to your specific needs.
For your convenience, we have attached a Founder' Vesting Agreement template at the end of the post that you can download and edit easily. However, you'll need to understand the agreement's importance and significance to avoid future discrepancies.
Let's delve deeper into the nitty-gritty of a Vesting Agreement and why you must have one, shall we?
The Meaning and Significance of Vesting
In general, Vesting is the point in time when the rights and interests arising from legal ownership of a property/stocks/equity are acquired by a person.
For Startups vesting is a process by which:
- The Company ensures the retention and commitment of a founder to a company.
- The Founders secure rights to their shares without actual ownership.
- The Ownership Rights to the shares are reserved for the future.
To own the full equity, the founders must stay in the company and fulfill their obligations for a specific term, as stated in the vesting agreement. Despite stock allocation, co-founders qualify for the same only after serving the company for such a period. Once eligible, the mutually agreed vesting schedule applies to them.
This duration of stay is formally called a ‘Vesting Schedule’ - decided as per the agreement between the founders.
What is a Vesting Equity Agreement?
A vesting equity agreement is a legal document laying down provisions for allocating your company shares to potential co-founders.
The terms of a vesting equity agreement:
- Facilitate the founders with vesting conditions
- Safeguard the company and its founders legally
- Enable the company to repurchase unvested shares
Unvested shares are stocks to be owned by co-founders once they work for the company for at least the pre-decided period.
What are Vesting Schedules?
A vesting schedule states how much equity a founder is entitled to with every passing year. The specific amount of equity shares earned year after year constitutes a Vesting Schedule.
For example, when a startup welcomes a co-founder with equity shares, a vesting schedule of six years would mean that the co-founder must stay at the company for six years to be eligible to redeem full ownership of such shares.
While stocks are allocated, the rights to these stocks are controlled by vesting schedules.
For better understanding, consider a scenario where a company with two founders, A and B, launches without a vesting plan.
Founders A and B each own 50% of the company and work equally hard to see it grow. However, if Founder B decides to leave the company one day, he may do so with 50% of the company's ownership while leaving Founder A with full management responsibility.
If the company is successful in the future, Founder B will also benefit from such success' fruits without putting in any effort.
This is where vesting schedules comes into play, safeguarding the company’s and the founder’s interests. The question arises, How?
Before learning how vesting schedules work, let’s help you understand what cliffing is.
Importance of Cliffing in Vesting Schedules
Cliffing means qualifying the co-founders for equity vesting after a certain period (ideally one year).
If a founder exits the company before the cliff period ends, the company can rightfully keep the shares as mentioned in its Founders’ Vesting Agreement. Cliffing acts as a trial period for co-founders - something so imperative for the owner of the company to understand and leverage.
Now you know what makes cliffing so important in vesting schedules.
How Do Vesting Schedules Work?
The typical vesting duration for founder shares in startups is 4-5 years, with a one-year cliff period. The vesting duration is kept longer to sustain the long-term motivation of the vesting mechanism because companies nowadays target absolute financial stability and growth - two essential grounds to hire an executive replacing a departing co-founder. The founders negotiate, discuss, and agree to a vesting duration and a vesting schedule.
Let’s take you through a standard vesting schedule for practical understanding.
Imagine the company has two founders, each owning 45% of the company. Assuming that the vesting duration is five years, and the vesting schedule is as follows:
The first year is the "cliff year," during which any founder who leaves will not receive anything from their portion of the company.
Similarly, if the founder leaves the company in the second year, he will only be entitled to 25% of his share, or 25% of 45, which will be an 11.25% share in the company's ownership.
However, if the founder leaves after the 5-year vesting term, they can keep all of their ownership (i.e., 45%) in the business, which they will have accrued after the 1-year cliff on a month-by-month basis.
The vesting schedule thus aids in establishing when the founder will be entitled to full ownership of their portion of shares and how much ownership the firm can recoup if the founder departs.
Front Loading
If you have a more extended vesting period in place, you can agree to distribute more shares than typical (perhaps 75% of the shares vest in the first two years and 25% in the final two years). This is referred to as "front-loaded vesting."
You can leverage from loading in case you value an initial contribution more than a later one. Moreover, it’s used to attract and convince a potential co-founder to consider your offer.
rewarded mainly
Back Loading
To encourage the team to stick around as long as possible, some businesses create "back-loading" vesting plans that allow more shares to vest in the latter years (for example, 10% of shares vest in the first year, 20% in the second, 30% in the third, and 40% in the fourth).
Here, you’ve got greater leverage over the potential co-founder as you ensure they complete the entire vesting schedule before being rewarded largely towards the end. If they cannot do so, they’ve got a lot to lose.
Types of Vesting Schedules for Founders
There are mainly three types of vesting schedules:
- Immediate Vesting
- Graded Vesting
- Cliff Vesting
Immediate Vesting
You have immediate vesting, which entitles you to 100% of the contributions made to your account by your employer. Any money your company contributed to your account is yours to keep, even if you quit after a month or two.
Graded Vesting
Employees acquire ownership of employer contributions made to their retirement plan accounts, traditional pension benefits, or stock options over time through a process known as graded vesting.
Cliff Vesting
Cliff vesting refers to a procedure in which employees acquire full ownership of all shares of an equity award given by their employer on a particular date (i.e., the vesting date) instead of steadily obtaining a portion of them.
4 Reasons Why Founders Need a Vesting Agreement
Vesting agreements preserve a company’s repurchasing rights regarding a co-founder’s vested equity. Apart from bestowing such power, Founders’ Vesting Agreements bring to the table wide-ranging benefits for the founders. Here’s why founders need a vesting agreement
1. Encourages Co-Founders to Stay Committed
While you and your co-founder may have committed to a business arrangement, there can be multiple reasons leading them to step back from their commitments. For example, better opportunities, workload, trust issues, and lack of interest, to name a few.
This is where a founders’ agreement protects the company and safeguards your interests. It keeps co-founders engaged and drives loyalty toward the business. Challenges of business capital, stability, and profitability are common among early-stage startups. However, a vesting agreement motivates the founders to:
- Keep the faith & stay committed to the company.
- Resonate with the company’s long-term objectives.
- Continue to put efforts toward steady business growth.
2. Protects the Business if any of the Co-Founders Exits
A Founders’ Vesting Agreement protects the company from losing equity when a co-founder exits.
In its absence, a co-founder could prefer to leave the company while overlooking its future potential. This would mean the co-founder would still own the company shares and voting rights, compelling the company to opt for a buy-out at market price.
3. Saves the Founders from “Free Riders.”
A co-founder who doesn’t contribute enough to the company's growth or shows negligence towards work is called a "free rider." If a Founders’ agreement is in place, such a co-founder is liable to lose shareholding rights if the performance contradicts any agreement terms.
This also highlights the increasing importance of drafting an effective vesting schedule for which you must choose the right Founders Vesting Agreement Template for your startup.
4. Attracts Investors’ Trust
Investors seek clarity, transparency, and stability among a company’s Founders before making investment decisions. Vesting Agreements help founders:
- Gain investors’ trust.
- Get investment opportunities.
- Fund their business with ease.
This is because venture capital (VC) firms and angel investors are particular about:
- Due diligence of the company.
- Financial soundness of the business.
- Equity protection from the departing Founders.
Download the Latest Founders' Vesting Agreement Template
Our ready-to-use Founders' Vesting Agreement template covers a full set of terms and conditions, including:
- Shareholders' details - Format
- Share allocation and types - Format
- Vesting criteria and schedules - Format
- Company buy-back options - Clause
- Confidentiality Clause - Template
- Detailed definitions and interpretations - Clause
- Exit terms - Format and Clause
{{vesting_agreement="/life-at-default/3"}}
Points to Remember When Drafting Vesting Agreements
- Before mentioning the vesting clause, the agreement should clarify who owns what percentage of the company and how many shares there are.
- Roles and responsibilities should be clearly established to create a founders' agreement for your company before establishing a business to lay a solid basis. These are possible wordings for the associated clauses:
- At the time of the company's establishment, the founders' names, share values, and share percentages must be reflected in the company's whole share ownership.
Conclusion
Founders' vesting agreements are essential for several reasons. They encourage co-founders to stay committed, protect the business if any of the co-founders exits, save the founders from "free riders," and attract investors' trust.
If you want a founders' agreement for your startup, you can download and edit the ready-to-use founders' agreement template. However, it is advised that you consult with a corporate lawyer to understand the legalities involved and customize the template as per your company's requirements.
As the saying goes, "a house is only as strong as its foundation." The same can be said for startups. For a startup to survive in the long run, it is crucial to have an ownership structure that could sustain the company's growth.
As a founder, you must provide a sustainable ownership structure to your startup at the initial phase. The ownership must be legally backed by a mutual agreement mentioning what, when, and how much part of the company your co-founders will own. The legal document that encloses all the clauses related to equity distribution is called a "Vesting Agreement."
As a company owner, a vesting agreement is one of the most crucial documents you'll ever sign to keep all other co-founders engaged during the initial years of the start-up. It contains all the equity-related terms you and your co-founders agree on.
You can approach a lawyer to draft a founders’ agreement for your company. Alternatively, you can even prepare one yourself by editing a pre-drafted template according to your specific needs.
For your convenience, we have attached a Founder' Vesting Agreement template at the end of the post that you can download and edit easily. However, you'll need to understand the agreement's importance and significance to avoid future discrepancies.
Let's delve deeper into the nitty-gritty of a Vesting Agreement and why you must have one, shall we?
The Meaning and Significance of Vesting
In general, Vesting is the point in time when the rights and interests arising from legal ownership of a property/stocks/equity are acquired by a person.
For Startups vesting is a process by which:
- The Company ensures the retention and commitment of a founder to a company.
- The Founders secure rights to their shares without actual ownership.
- The Ownership Rights to the shares are reserved for the future.
To own the full equity, the founders must stay in the company and fulfill their obligations for a specific term, as stated in the vesting agreement. Despite stock allocation, co-founders qualify for the same only after serving the company for such a period. Once eligible, the mutually agreed vesting schedule applies to them.
This duration of stay is formally called a ‘Vesting Schedule’ - decided as per the agreement between the founders.
What is a Vesting Equity Agreement?
A vesting equity agreement is a legal document laying down provisions for allocating your company shares to potential co-founders.
The terms of a vesting equity agreement:
- Facilitate the founders with vesting conditions
- Safeguard the company and its founders legally
- Enable the company to repurchase unvested shares
Unvested shares are stocks to be owned by co-founders once they work for the company for at least the pre-decided period.
What are Vesting Schedules?
A vesting schedule states how much equity a founder is entitled to with every passing year. The specific amount of equity shares earned year after year constitutes a Vesting Schedule.
For example, when a startup welcomes a co-founder with equity shares, a vesting schedule of six years would mean that the co-founder must stay at the company for six years to be eligible to redeem full ownership of such shares.
While stocks are allocated, the rights to these stocks are controlled by vesting schedules.
For better understanding, consider a scenario where a company with two founders, A and B, launches without a vesting plan.
Founders A and B each own 50% of the company and work equally hard to see it grow. However, if Founder B decides to leave the company one day, he may do so with 50% of the company's ownership while leaving Founder A with full management responsibility.
If the company is successful in the future, Founder B will also benefit from such success' fruits without putting in any effort.
This is where vesting schedules comes into play, safeguarding the company’s and the founder’s interests. The question arises, How?
Before learning how vesting schedules work, let’s help you understand what cliffing is.
Importance of Cliffing in Vesting Schedules
Cliffing means qualifying the co-founders for equity vesting after a certain period (ideally one year).
If a founder exits the company before the cliff period ends, the company can rightfully keep the shares as mentioned in its Founders’ Vesting Agreement. Cliffing acts as a trial period for co-founders - something so imperative for the owner of the company to understand and leverage.
Now you know what makes cliffing so important in vesting schedules.
How Do Vesting Schedules Work?
The typical vesting duration for founder shares in startups is 4-5 years, with a one-year cliff period. The vesting duration is kept longer to sustain the long-term motivation of the vesting mechanism because companies nowadays target absolute financial stability and growth - two essential grounds to hire an executive replacing a departing co-founder. The founders negotiate, discuss, and agree to a vesting duration and a vesting schedule.
Let’s take you through a standard vesting schedule for practical understanding.
Imagine the company has two founders, each owning 45% of the company. Assuming that the vesting duration is five years, and the vesting schedule is as follows:
The first year is the "cliff year," during which any founder who leaves will not receive anything from their portion of the company.
Similarly, if the founder leaves the company in the second year, he will only be entitled to 25% of his share, or 25% of 45, which will be an 11.25% share in the company's ownership.
However, if the founder leaves after the 5-year vesting term, they can keep all of their ownership (i.e., 45%) in the business, which they will have accrued after the 1-year cliff on a month-by-month basis.
The vesting schedule thus aids in establishing when the founder will be entitled to full ownership of their portion of shares and how much ownership the firm can recoup if the founder departs.
Front Loading
If you have a more extended vesting period in place, you can agree to distribute more shares than typical (perhaps 75% of the shares vest in the first two years and 25% in the final two years). This is referred to as "front-loaded vesting."
You can leverage from loading in case you value an initial contribution more than a later one. Moreover, it’s used to attract and convince a potential co-founder to consider your offer.
rewarded mainly
Back Loading
To encourage the team to stick around as long as possible, some businesses create "back-loading" vesting plans that allow more shares to vest in the latter years (for example, 10% of shares vest in the first year, 20% in the second, 30% in the third, and 40% in the fourth).
Here, you’ve got greater leverage over the potential co-founder as you ensure they complete the entire vesting schedule before being rewarded largely towards the end. If they cannot do so, they’ve got a lot to lose.
Types of Vesting Schedules for Founders
There are mainly three types of vesting schedules:
- Immediate Vesting
- Graded Vesting
- Cliff Vesting
Immediate Vesting
You have immediate vesting, which entitles you to 100% of the contributions made to your account by your employer. Any money your company contributed to your account is yours to keep, even if you quit after a month or two.
Graded Vesting
Employees acquire ownership of employer contributions made to their retirement plan accounts, traditional pension benefits, or stock options over time through a process known as graded vesting.
Cliff Vesting
Cliff vesting refers to a procedure in which employees acquire full ownership of all shares of an equity award given by their employer on a particular date (i.e., the vesting date) instead of steadily obtaining a portion of them.
4 Reasons Why Founders Need a Vesting Agreement
Vesting agreements preserve a company’s repurchasing rights regarding a co-founder’s vested equity. Apart from bestowing such power, Founders’ Vesting Agreements bring to the table wide-ranging benefits for the founders. Here’s why founders need a vesting agreement
1. Encourages Co-Founders to Stay Committed
While you and your co-founder may have committed to a business arrangement, there can be multiple reasons leading them to step back from their commitments. For example, better opportunities, workload, trust issues, and lack of interest, to name a few.
This is where a founders’ agreement protects the company and safeguards your interests. It keeps co-founders engaged and drives loyalty toward the business. Challenges of business capital, stability, and profitability are common among early-stage startups. However, a vesting agreement motivates the founders to:
- Keep the faith & stay committed to the company.
- Resonate with the company’s long-term objectives.
- Continue to put efforts toward steady business growth.
2. Protects the Business if any of the Co-Founders Exits
A Founders’ Vesting Agreement protects the company from losing equity when a co-founder exits.
In its absence, a co-founder could prefer to leave the company while overlooking its future potential. This would mean the co-founder would still own the company shares and voting rights, compelling the company to opt for a buy-out at market price.
3. Saves the Founders from “Free Riders.”
A co-founder who doesn’t contribute enough to the company's growth or shows negligence towards work is called a "free rider." If a Founders’ agreement is in place, such a co-founder is liable to lose shareholding rights if the performance contradicts any agreement terms.
This also highlights the increasing importance of drafting an effective vesting schedule for which you must choose the right Founders Vesting Agreement Template for your startup.
4. Attracts Investors’ Trust
Investors seek clarity, transparency, and stability among a company’s Founders before making investment decisions. Vesting Agreements help founders:
- Gain investors’ trust.
- Get investment opportunities.
- Fund their business with ease.
This is because venture capital (VC) firms and angel investors are particular about:
- Due diligence of the company.
- Financial soundness of the business.
- Equity protection from the departing Founders.
Download the Latest Founders' Vesting Agreement Template
Our ready-to-use Founders' Vesting Agreement template covers a full set of terms and conditions, including:
- Shareholders' details - Format
- Share allocation and types - Format
- Vesting criteria and schedules - Format
- Company buy-back options - Clause
- Confidentiality Clause - Template
- Detailed definitions and interpretations - Clause
- Exit terms - Format and Clause
{{vesting_agreement="/life-at-default/3"}}
Points to Remember When Drafting Vesting Agreements
- Before mentioning the vesting clause, the agreement should clarify who owns what percentage of the company and how many shares there are.
- Roles and responsibilities should be clearly established to create a founders' agreement for your company before establishing a business to lay a solid basis. These are possible wordings for the associated clauses:
- At the time of the company's establishment, the founders' names, share values, and share percentages must be reflected in the company's whole share ownership.
Conclusion
Founders' vesting agreements are essential for several reasons. They encourage co-founders to stay committed, protect the business if any of the co-founders exits, save the founders from "free riders," and attract investors' trust.
If you want a founders' agreement for your startup, you can download and edit the ready-to-use founders' agreement template. However, it is advised that you consult with a corporate lawyer to understand the legalities involved and customize the template as per your company's requirements.
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