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Startup Guide: Vesting Shares of Stock

Raymond Rodis 8 months ago

What if your co-founder with 50% ownership of the company leaves after only a few months?

That is the problem meant to be solved by vesting.

Instead of spending money to buyback those shares from the person who abandoned your startup, you would avoid such a situation if you had the foresight to implement vesting.

Vesting is simply earning your shares in a company either over a certain period (time-based) or after the accomplishment of specified milestones (performance-based).

Time-based vesting

The time-based method is more popular. Y Combinator says that a typical setup is to have four years of vesting with a one year “cliff”.

What this means is that to fully get the shares you are promised, you must stay the full 4 years. The cliff refers to the minimum period you are required to stay in order to get any shares at all.

If you leave after 1 year, you will only get ¼ of the shares as you only stayed ¼ of the time required. If you leave before 1-year cliff has lapsed, you will get 0 shares.

Illustration:

Elun is a founder of Tisla, an electric toy company. Tisla has 1000 shares while Elun was promised 400 shares over a 4-year vesting period with a 1-year cliff.

Elun will get 0 shares if he leaves after 6 months because of the 1-year cliff, 100 shares if he leaves after 1 year, and 400 shares if he stays the full 4 first years.

Rest assured though that vesting doesn’t have to be time-based. After all, what is stopping an underperformer from staying the full 4 years in order to vest the shares. This is sometimes known as the rest and vest

Performance-based vesting

Shares can be linked to achieving specified milestones. This can be amount of sales generated, investments raised, traction reached, features created, or any other key performance indicator you deem appropriate in order to incentivize certain behavior.

Illustration:

Elun will get 400 shares if he leads Tisla to P100,000 monthly recurring revenue and only 200 shares if only P50,000 monthly recurring revenue.

These time-based and performance-based structures can not only be applied to founders but to employees. We employ it ourselves at Digest to great effect.

Philippine Law on Vesting

Vesting is only limited by your creativity and the Revised Corporation Code. You can employ a hybrid structure based on a mix of performance-based and time-based vesting. You can vest different classes of shares such as common, preferred, or founders shares. You can provide that vesting occurs on a monthly, semi-annual, or annual basis.

Given it’s a relatively new practice, there are no specific rules on vesting shares in the Philippines.  To implement vesting in the Philippine setting, this can involve Founders Agreements, Employment Agreements, Deeds of Assignment of Shares of Stock, and other transaction documents. It can be done by simply determining the amount of shares, the vesting period, the cliff (if any), and the milestones to be performed (if any).

It would be up to the creativity of the startup founder in thinking of the best structure and of their lawyer in implementing it.

Whatever structure you choose, vesting is one practice your startup should definitely implement.

Atty. Raymond Rodis is one of the many lawyers you can find on Digest. Post your legal concern here on Digest and we will find you a lawyer that fits your budget and issue.

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