Key Considerations for Founders
For startup founders, determining the number of shares to issue at incorporation is a critical decision that impacts ownership structure, employee incentives, and future funding potential. This memo outlines the key factors to consider when allocating shares in your new venture.
Understanding Startup Shares
What Are Startup Shares?
Shares represent ownership in a company, divided into smaller units that can be bought, sold, or distributed. The allocation of shares serves several important purposes:
Recognizing Founder Contributions
- Founders receive a significant portion of shares for initial company development
- Reflects the risk and effort of establishing the business
Employee Incentivization
- Shares can be part of compensation packages
- Creates long-term commitment and alignment with company success
Investor Attraction
- Provides a mechanism for equity financing
- Allows investors to gain ownership stake in exchange for capital
Share Allocation Strategy
Typical Share Structure
Most startups follow a standard approach:
- Total Authorized Shares: 10 million
- Employee Pool: 10%–20% (1–2 million shares)
- Additional Reserves: Up to 10% (1 million shares)
- Remaining Shares: Distributed among founders
Practical Example
Consider a three-founder startup:
- Total Authorized Shares: 10 million
- Employee Pool: 1.5 million shares (15%)
- Additional Reserves: 1 million shares (10%)
- Founders' Shares: 7.5 million shares (2.5 million per founder)
Important Distinctions
Authorized vs. Outstanding Shares
- Authorized Shares: Maximum number of shares the company can issue
- Outstanding Shares: Actual shares currently issued to shareholders
Key Recommendations
- Set Aside Adequate Reserves
- Prepare for future hiring and potential executive additions
- Avoid costly certificate of incorporation amendments
- Balance Ownership Carefully
- Distribute shares to incentivize key contributors
- Avoid over-dilution of founder equity
- Consider Future Funding
- Maintain flexibility for investor negotiations
- Preserve option to issue additional shares
Potential Scenarios
Unissued Shares Scenario
If additional reserves remain unissued:
- Shares are held as treasury stock
- Do not impact voting or ownership percentages
- Provide future flexibility without legal complications
Conclusion
Determining the right number of shares requires careful consideration of:
- Current team composition
- Anticipated growth
- Employee incentive strategies
- Potential investor requirements
Consulting with legal and financial advisors can help refine your specific share allocation strategy.
Disclaimer: This memo provides general guidance. Specific circumstances may require tailored legal advice.
Frequently Asked Questions
FAQs
Why do most startups authorize 10 million shares?
Ten million is a common standard because it allows for flexible allocations to founders, employees, and investors without needing early amendments to incorporation documents.
What happens if we run out of authorized shares?
You will need to amend your certificate of incorporation, which requires board and shareholder approval and additional filing fees.
Do unissued shares affect ownership percentages?
No. Only outstanding (issued) shares count toward ownership percentages. Unissued shares remain in the company’s treasury until granted.
How large should the employee equity pool be?
Most early-stage startups reserve 10%–20% for employee incentives, with flexibility depending on hiring plans and growth stage.
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