Text By: Dgillespie, www.koopermangillespie.com - 11/26/2015;
Title & Links By: George M. Sistrunk - 12-4-2015
"A typical founder’s restricted
stock transaction grants the founder (or employee) stock compensation but reserves a right for the corporation to buy back
any stock that is “unvested.” Initially, most of the stock is unvested, giving the corporation the ability to
buy back the stock if the employee leaves. Each year a percentage of the stock initially granted to the employee “vests”
and the company loses its right to repurchase those shares. Eventually, if the employee remains with the company, all of the
restricted stock will vest." {
Click here for "Restricted Stocks Vs. Stock Options"} {
Click here to learn more about the "Model Business Corporations Act" (MBCA)}
"The shareholder can elect to have
his shares taxed in one of two ways by either filing or not filing what is called an 83(b) election. First, if no election
is made, the value of the restricted stock is not taxable to the recipient until the stock vests. Once the restrictions lapse,
the current fair market value of the shares, minus any amount paid for the shares, is taxable as ordinary income in the year
the stock vests. Alternatively, under Section 83(b) of the Internal Revenue Code, the shareholder can elect to be taxed on
the value of all shares (including unvested shares) at the time of receipt. Although each option has its benefits, there are
several factors that weigh in favor of making the 83(b) election."
"With 83(b) Election
Value of restricted stock (minus
any payments for the shares) is taxable as ordinary income in the year shares are received.
• Share appreciation is taxed upon sale at capital gains rates.
• Dividends on all shares are taxed at the preferential dividend tax rate.
• No deduction is allowed if share value decreases.
• Shareholder controls timing of gain recognition (upon sale of shares).
• Holding period begins upon receipt of shares."
"Without 83(b) Election
• Value of restricted stock is not included in income until the restrictions lapse (the stock “vests”).
• Share appreciation is taxed at ordinary income rates and is recognized when the shares vest. This can cause problems
for the founder because he may incur substantial tax liability but not be able to sell the stock to generate the cash to pay
the taxes.
• Dividends on restricted shares are taxed as compensation (but are deductible to the corporation).
• Shareholder does not control timing of gain recognition (taxed as ordinary income on value of shares once stock
vests).
• Holding period does not begin until the share restrictions lapse (the stock “vests”)."
"The ideal scenario for an entrepreneur
to make an 83(b) election occurs when the founder pays fair market value for the restricted stock, and the share value is
expected to increase over time. This situation leaves the shareholder paying no or minimal tax upfront, but enables the shareholder
to control the timing of future gains (upon the sale of stock) and affords capital gains treatment rather than ordinary income.
Getting an attorney involved at the time of company formation can ensure that the founders can take advantage of this tax
planning opportunity." {
Click here to review "26 CFR 1.83-5 - Restrictions That Will Never Lapse"}
"If you decide that making an 83(b)
election is right for you, then be sure to file the appropriate notice with the IRS within 30 days of the receiving the restricted
stock—there is no grace period. The IRS does not provide a specific form, but the election must be in writing and filed
with the Internal Revenue Service Center where you file your return. IRS Publication 525 provides specific details regarding
83(b) elections."
"You should get in contact with
your attorney if you have questions about whether the issues discussed in this post apply to your or your employees’
compensation arrangements." [End of Source]
Principles Governing Unity
In addition to the above, everyone
at Unity should know the seven laws or principles that govern everything we do.
1. Divine Law:
Divine law is universal in nature and is best expressed in terms of Cause and Effect relationsips.
For every cause there is an effect and effects cannot exist without causes.
2. International Law:
International law governs the conduct of all corporate enterprises that use international waters and/or air space.
3. National Laws:
National laws governing corporate enterprises include all the rules, regulations and edicts that are enacted by congress,
the Securities and Exchange Commission (SEC), the Internal Revenue Service (IRS) and it also includes precedents and
rulings that have been decided by Federal Courts and in many cases, state courts.
4. State Laws:
Each state has its own laws governing corporate enterprises and their activities. In South Carolina, this is Title 33.
5.
ByLaws:
Bylaws are the prinicples and agreements that the shareholders and the incorporators agree to govern themselves. Bylaws must
also comply with all governing law/s and be incompliance with acceptable standards and norms of corporate governance.{
Click here to review SC Code of Laws Section 33-2-106}
Based on these realities, anyone
associated with Unity needs to apply our in-house principles of TMP, SET and PAY.
Whereby:
1. TMP: [TMP]
means The Mirror Principle. Whenever anyone has difficulty understanding why things are not happening as
they should, all the person needs to do is look in the mirror at himself/herself/themselves. 90% of the time the person/s,
will discover or come to realize that he/she/they/ is/are the cause/s of the problem.
3. PAY: [PAY]
means People Around You. After you have determined with a honest and thorough self evaluation that the source
of the problem is not you; then, you need to look more closely at the people around you. 90% of the time, he/she/they is/are
the source of the problem/s that is/are being encountered, when can prove the cause of the problem is not you.
"Founder's Stock"
By: Jonathan D. Gworek, www.mbbp.com - 11/26/2015
"To ensure that stock issued to
founders is properly "earned" by each founding stockholder, startup companies typically put in place stock restriction agreements
with each founder. The primary purpose of this agreement is to give the company a right to purchase shares held by a founder
in the event that the founder leaves the company for any reason. This purchase option generally applies only to shares that
are unvested at any given point in time, with shares becoming vested over a predetermined, usually time-based, schedule."
"There are several variables that
need to be determined when putting in place stock restriction agreements. They include the overall duration of vesting, whether
there is any up front vesting, what period of time, if any, must elapse before there is any additional vesting, and under
what circumstances there may be additional or accelerated vesting. For example; in connection with a change of control of
the company, or upon the termination of the founder. Venture capitalists have established certain acceptable ranges for these
variables."
"From the founders' perspective,
one of the most important areas of concern is the basis upon which their shares accelerate in the event they are terminated.
In the event the founder resigns voluntarily or is terminated for cause, no additional stock vests. However, if the founder
is terminated without cause, or resigns for good reason (in other words, is "forced out"), there arguably should be some compensation
to the founder out of fairness, and to deter the board from terminating key people in order to recoup equity."
"Occasionally founders are able
to negotiate for partial or even full acceleration. The definition of what constitutes "cause" for purposes of determining
whether termination triggers acceleration is critical but subtle, and any common stockholder should be aware of the drafting
options and seek advice of counsel to ensure his or her interests are protected."
"Related to the question of whether
acceleration occurs upon termination is the issue of what happens upon a change of control. Full acceleration is often a reasonable
starting point for negotiation. After all, if the company is sold, the founders who are still with the company likely made
significant contributions to put the company in a position to be acquired. Venture capitalists and other stockholders who
do not stand to realize any acceleration, however, are likely to oppose acceleration upon change of control. This acceleration
will simply result in dilution to them and reduce their share of the consideration received in the acquisition."
"If full acceleration cannot be
negotiated, an alternative is to request additional and possibly full acceleration if the founder is let go or resigns for
good reason within one year following a change of control-a mechanism that is sometimes called "double trigger" acceleration.
However, this compromise position only works well in practice when the change of control calls for the founders to receive
"replacement" equity with respect to their unvested stock."
"The "double trigger"
concept does not translate as cleanly where the consideration received by the selling stockholders is cash, and specific provision
should be made for this situation, again with advice of counsel. If full acceleration either at change of control or pursuant
to a double trigger is not acceptable, then the company and the founder may agree to a mechanism that is simpler to apply,
such as one year or 50% vesting upon a change of control."
"Founder's stock issues, especially
as they relate to vesting, can be quite complex and assistance of legal counsel can help improve a founder's situation significantly.
Founders should consider retaining separate legal counsel to advise them on these issues."
"Minority Shareholder Protections"
"While the founders in most startups
enjoy a high degree of mutual trust and camaraderie, their relationships can change and become strained over time. Any founder
who is a minority stockholder is at risk of being terminated at any time by the board of directors. Depending on whether the
founders have put in place stock restriction agreements, as discussed above, a minority stockholder could be terminated and
be completely divested of his or her equity position as well."
"This would seem to be a particularly
inequitable outcome if the terminated stockholder had previously contributed either cash or some other asset, such as core
intellectual property, that is critical to getting the company launched and that may even serve as the cornerstone of the
new company's business plan. Founders should understand basic corporate governance issues at the time of formation so that
they are not unpleasantly surprised if an issue arises that may result in their separation from the new company."
"If a founder is concerned about
the possibility of being oppressed by majority stockholders, consideration should be given to incorporating the company in
Massachusetts, the law of which affords minority stockholders greater protections than Delaware."
"Sophisticated company counsel
should be able to provide the legal framework necessary for founders to understand how they may be affected by decisions regarding
corporate governance and fiduciary duty issues. Nonetheless, an in-depth discussion on these issues is outside the scope of
what company counsel would typically be expected to do, and any founder that is sensitive to concerns in this area should
consider retaining separate counsel to focus more deliberately on these considerations."
"Non-Compete Agreements"
"Founders are typically asked to
sign a non-competition agreement with the company, if not at the time of formation, then certainly at the time it becomes
funded by outside investors. The terms of the non-competition agreement can have a chilling affect on the founder's ability
to pursue gainful employment after leaving the company. For example, most non-competition agreements prohibit the employee
from working in the same field for a period of time after leaving the company, regardless of the reason for departure, which
could include termination without cause in connection with the bankruptcy of the company or as a result of a major reduction
in force unrelated to performance."
"Well-informed employees might
seek to get the non-compete to terminate in the event that they are terminated without cause, or in the event the company
goes into bankruptcy. Alternatively, an employee may seek some severance payment for a period of time that runs concurrently
with the non-compete so that they do not bear the full economic burden that a restrictive non-compete poses."
"The scope of non-compete agreements
is certainly an area in which the company's interests and those of the founders are not aligned. The company's interest is
for the non-compete to be broad, while the employee would prefer that it be narrow so as not to restrict them upon their separation
from the company. The key to negotiating a fair non-competition agreement is to engage counsel prior to accepting the offer
so as to better understand what the areas of concern should be and what alternative proposals might enable the founder and
the company to strike a balanced deal that addresses the legitimate business interests of the company without unduly burdening
the employee."
"The Venture Capital Transaction"
"Several issues arise in the context
of venture capital financings in which the interests of the founders are not necessarily aligned with the interests of the
company. For example, founders may be asked to give broad representations and warranties in their individual capacities as
part of early rounds of financing. The company and its legal counsel may have no reason to object to such representations
on behalf of the founder. But the founders may not be comfortable offering up some or all of the requested representations
and warranties."
"In addition, the terms of a venture
financing have a direct impact on the future returns that the founder stockholders can realistically expect to achieve on
their founder stock. For example, venture capital firms often require a liquidation preference equal to their original investment
(or even a multiple of this investment) plus some accruing dividend. This liquidation preference gets paid before any proceeds
get paid out to the founders who are common stockholders. In a company that has raised tens of millions of dollars, common
stockholders may not realize any return on their stock unless the company eventually goes public."
"Moreover, when a company needs
to raise funding in a situation in which it has failed to achieve important milestones, the financing terms can be punishing
to both the founders and the earlier stage investors. In such a situation common stockholders often have their equity positions
"washed out" by subsequent investors."
"For these reasons, founders are
advised to fully understand the impact that a prospective financing will have on them personally as common stockholders. Before
a company commits to a transaction that has this impact on the founders' interests, the founders should consider what leverage
they have in the negotiation to improve their post-funding position, and be informed as to what protections they might seek
in the transaction."
"Founders may in fact have a sufficient
number of shares that their vote is required to close a subsequent round of financing. This is very likely for those companies
that have only been through one round of venture financing. Founders at this stage can use this vote to influence the structure
of a financing by threat of veto if they are concerned that the transaction stands to have an onerous impact on the holdings
of the common stockholders, and the likelihood that they will some day participate to any significant degree in a liquidity
event. Alternatively, common stockholders may use their collective leverage as the management of the company to affect the
structuring of a transaction."
"By exercising their leverage,
the founders may be able to negotiate for the right to participate in the liquidation preference at some higher level, thereby
leaving them with a more realistic opportunity to achieve liquidity. Alternatively they might negotiate for a management bonus
pool that entitles them to a contractual right of payment in the event that the company has a liquidity event. The important
point is that founders often have a legitimate reason to be concerned about the impact of a financing, and that they probably
do, in most cases, have more leverage than they realize. The key is to raise the concern and exercise the leverage early in
the negotiation process."
"Stay Incentives"
"In venture-backed companies, founders
are often members of the executive team and critical to the growth and success of the company, and to the company's ability
to execute on important strategic initiatives such as a financing or sale of the company. In connection with either a significant
down round financing or a change of control, certain key executives may begin to question whether it is in their best interests
to remain with the company through such an event."
"Founders in this position might
consider approaching the president or board of directors to request an incentive to keep them motivated through the closing
of the transaction or some later date. Bonus arrangements, often referred to as "stay bonuses", are one vehicle for accomplishing
this objective. Another might be to provide a severance package that would give the concerned employee/founder a cash payment
in the event he or she is let go following the financing or change of control. A third mechanism would be to provide for additional
stock vesting upon the occurrence of the transaction. Most stay packages incorporate elements of cash and stock incentives."
"While having such an incentive
in place may be in the best interest of the company and employee/founder alike, it may well be that the company does not recognize
the issue or recognizes the issue but has decided not to be proactive in addressing it. As such, it may be incumbent upon
the affected executives to protect their own interests by approaching the company with a proposal. While working through such
stay incentives can often be done with the assistance of company counsel, founders should consider consulting with their own
legal counsel as to the options available and the pros and cons of each."
"Acquisition Scenarios"
"Acquisitions are often rife with
issues that have a direct impact on the founders both as members of the broader group of common stockholders, and as prospective
employees at the buyer company. For example, many employee incentive plans provide that the board of directors of a company
can decide at the time of an acquisition whether to accelerate unvested stock options or restricted stock grants. Accelerating
such grants would allow the employees to hold a greater number of shares at the time of the acquisition, and thereby result
in more of the proceeds being paid out to the employee stockholders."
"Another consideration that arises
in acquisitions is the extent to which the founders and other common stockholders will be required to indemnify the buyer
company in the event that certain representations made by the target company in connection with the acquisition agreement
turn out to be false resulting in damages to the buyer. As a final example, for those founders who will be offered employment
with the buyer, a whole range of issues arise around the terms of employment going forward, including salary, equity and the
scope of a new non-compete."
"In all three of the cases described
above, the company's interests are not aligned with the interests of the founders and separate legal counsel is advisable.
With advice of counsel a well coordinated founder group may have the opportunity to interject itself into the negotiation
process early, improving the outcome for the founders and other common stockholders alike."
"Summary"
"While it is very common for founders
to rely on the advice of company counsel at the outset of the formation of the company, there are certain situations that
might suggest that founders should have separate counsel to protect their own interests. As a company grows and takes on outside
investment, the interests of the founders diverge. Company counsel will inform any founder who raises an issue that may be
contrary to the interests of the company that it represents the company, not the founder's interests, and that the founder
should seek separate counsel."
"A founder should seriously consider
engaging separate counsel at the time of the formation of the company to deal with a number of issues that are determined
around the time of formation. Having legal counsel "on retainer" can then be helpful to a founder at future points in the
lifestage of the company. Counsel can then point out to the founder when representation is necessary or advisable-situations
that might not be apparent to other than the most sophisticated founder."
