How to Slice the Pie: Vesting Schedules (Part 1)

This is Part 1 of a 5 part series on Founders’ equity in a startup. I recently spoke on this topic at Entrepreneurs of Knoxville and I figured I’d transform it into written format as well.

What is vesting? Vesting is the granting of full ownership rights in stock over time according to a schedule.

I’m going to discuss in depth the topic of vesting founders’ stock, but before I get too much into the nitty-gritty of what that is (in later posts), I feel it’s appropriate to outline why it’s important to implement a vesting schedule upon founders’ stock and how we should go about allocating that ownership in the first place.

Why is it important to vest founders’ stock?
Simply put, you need to vest founders’ stock because life happens, and at the time you start a business, you don’t have any idea what the future will bring. You don’t know if a fellow founder will drop out of the game for some reason, or even if YOU will need to leave the business after a few months or a year. It wouldn’t be equitable if someone owned a substantial percentage of the business without contributing his or her fair share of the work (if the work is what was earning the ownership, as opposed to strictly a capital contribution or intellectual property).

Sometimes people just don’t work out. Relationships amongst founders can deteriorate in a hurry. Vesting can make it easier for people to leave or be forced to leave without causing further trouble.

Which brings me to another point. When we’re vesting, we’re not only doing what is fair to the founders, we’re preventing potential disputes that can lead to litigation that could sabotage future business operations.

In Part 2 of this series, I’ll discuss factors that startups can use to decide how much equity each founder should receive.