Chris Dixon

  • April 21, 2009
Founder vesting

The most important term in a startup term sheet that no one seems to think carefully about is founder vesting.   There are two key points about vesting:

1) All startup employees – including founders! – should vest over 4 years from their start date (with a one year “cliff”).  When I used to work in VC I can’t tell you how many companies I saw where some random former founder who was long gone from the company and was only there for some short period of time owned some big chunk of the company.  Not only is this just plain unfair, it also means there is a lot less room for giving equity to employees and for raising new capital.  Even if you are founding a company with your best friend – actually, especially if you are founding a company with your best friend – everyone should have vesting.   If you have a lawyer who tells you otherwise, get a new lawyer.

2) Founders should always have acceleration on change of control!  In particular, you should have full acceleration on “double trigger” (company is acquired and you are fired).  In addition you should have partial acceleration on “single trigger” (company is acquired and you remain at company).  I prefer a structure where you accelerate such that you have N months remaining (N=12 is a good number).  This gives the acquirer comfort that the key people will be around for a reasonable period of time but also lets the founders get the equity they deserve without spending years and years at the acquirer.  Consider the scenario where your company gets acquired 1 year after founding and you have 3 years of vesting remaining.   Suppose further that you just aren’t a big company type and leave after 1 year.  In that case you would forgo half your equity.  It’s always surprising to me how much time founders spending focusing on valuation that might change their ownership by a few points when vesting acceleration (albeit under certain circumstances – but I have seen this happen) can have a far larger impact on their ultimate equity ownership.

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  • TS

    At the five startups I’ve worked at four years is an eternity… too much changes in that span for tech startups!

  • Mick

    The only point I would make is that some foudning teams should have something upfront. If you have set your company up correctly, the founders have been on a vesting schedule from the day they incorporated. From that time, until the time of the funding, they have been vesting shares. It is not unreasonable to negotiate some percetage, either the full percetage of already vested shares, or some discount of them, into the final vesting clause. This is especially true of founders who have been bootstrapping and creating value for a good period of time. Most reasonable investors/VCs will negotiate this point.

  • chris

    Re founder vesting upfront – People always think of this point as founder vs VCs, whereas in my experience founders should also be thinking about what happens when a co-founder leaves. In early stage deals, the investors are almost always betting on the founders, and the last thing they are going to do is whimsically fire them. Meanwhile, cofounders get burnt out, circumstances change, etc.

  • Steve Kane

    agree wholeheartedly — made this mistake big time and regretted it even bigger

  • http://conduitlabs.com nabeel hyatt

    Yup. Every time, don’t learn this one the hard way it’s shouldn’t even be a debate. First startup had SIX co-founders.. how many were fully involved at our exit even though it was just 15 months later?

    Three.

    Thankfully everyone was vesting, and I definitely do it for myself now just to be fair to everyone around me.

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  • http://wac6.com William Carleton

    Bravo! I don’t think 4 years is the right span for every venture, and I don’t think you need to wait for a term sheet to do this. In fact, founders should do this when they incorporate (even if they have to revisit it on outside funding later, which, often, they don’t). It is totally demoralizing to deal with a situation where a founder leaves the others building the wealth, yet taking too much of the equity the others build. And the cap table never recovers; you can never really accomplish a re-cap without hurting the deserving, too.

  • chris

    William – thanks. I’m going to keep repeating myself on this issue over and over until it gets through. It’s really a shame how many companies have legacy founders using up the cap table.

  • http://www.keymetric.net Michael

    I personally think 4 years is too long in most cases; I guess because I believe if a company is not situated, financially and otherwise, in that time then there are more critical matters to be concerned about. I have always positioned a 2-3 year vest for founders at time of incorporation; with acceleration based on company milestones and achievement. If after 2 years the company is generating profit and has maintained fiscal upswing than the contributing founders (and employees) shoud ensure they are protected for the next phase – be that acquisition or growth capital. Seems to me it helps transition everyone to focus on generating revenue instead of raising capital. However I do agree however that it is insane to award unvested ownership in any venture. Cap tables are only worth as much as the efforts by people vested in them.

  • John Gannon

    Chris- any thoughts regarding vesting based on value created instead of strictly time based? For example, letting a founder vest x% of shares when they hit a key milestone?

  • vsagarv

    Your post is very timely. We’ve just met our lawyer to draft the founder vesting agreement. Still discussing full/partial acceleration on triggers. And yes, the vesting clock should start from the day the idea is bootstrapped (and not necessarily delayed until formal incorporation happens).

  • http://thedreaminaction.com Ryan Graves

    Chris – Extremely helpful post, I’m going through the process of writing up these docs and am about to get a lawyer to help finalize them for us.

    Very much appreciated.
    Cheers,
    Ryan

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  • http://twitter.com/tylernol tylernol

    the founder who gets forced out early and gets a bunch of shares does not bug me as much as the VP brought in late, in one case a month beforehand, who gets a huge chunk for essentially doing nothing to get the company acquired. I have seen this at both the startups I have worked at.

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  • http://12monthstolaunch.com Veronika Sonsev

    Very helpful post. Follow up question: Lets say your company is acquired for cash. If you have a year left after acceleration (in the case of a single trigger), who is taxed on this? Let's assume you already filed an 83b.

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  • http://twitter.com/tommyrusso Tommy Russo

    Great advise. Yes, it can be quite draining to grow a company in which a former partner has everything to gain from your success while no longer contributing. The more you succeed, the more you’ll have to pay to get your shares back.

  • Anonymous

    You’re right, Chris. From a simple mathematics perspective, the impact of vesting on the Founders is likely to be two or three times as important to their ultimate payout as the successful conclusion of valuation negotiations.

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