Get Updates by Email

Saturday, 27 August 2016

Why you need a vesting agreement from day 1

There was a CTO who worked for free at his friend's startup.

His name was Julian Ee. He was working "freelance" for a Singapore company. Then his friend asked him to join their startup as CTO, and become a shareholder.

He didn't really "work for free", because he expected that he would be come a shareholder. The founders told him that he could join them as a shareholder.

The startup had been founded late 2015. Six months later, they only had a simple website. They had a contact form and a data dump. The "matching algorithm" was an intern who called the numbers from the contact form. That was when the original CTO (chief technology officer) left and Julian joined.

During hyperinflation, in the Weimar Republic (modern day Germany), children used to play with money like this. The little kid on the right has been left out. He's thinking, "Where's my share?" (He was told that he would get get a piece of the pie.)

Julian worked hard and in two months, they had a website, a mobile app, a CMS, and other tech. The startup raised funds. 

Then the founders registered a company. Julian found that he hadn't been allocated any shares.

When he confronted them, they offered him 10% equity vested over three years. Some salary allowed. He was furious, and he blogged about it. And his blog piece became viral.

There are a few lessons to learn from Julian's experience.

Lesson 1: You need to be clear on expectations. All parties included.

Julian had a discussion, but it was verbal. The founders told him that he would get 10%. He'd heard the founders saying that 50% would be reserved for investors. But he heard wrong, it was actually 15%.

In his blog post, he shared what his thoughts were at the time.

1) He thought that there were 6 team members.
2) 50% for investors meant 50% for founders.
3) If 50% was shared between 6 persons, it meant each should get 8.3%.
4) Therefore, them giving him 10% was generous.

Remember, A-S-S-U-M-E means: Making an A-S-S of U and M-E.

Later he found out that the company was registered with only three shareholders. The team hadn't included him in the list of shareholders. The three founders took 95% for themselves and gave 5% for someone important.

He found that they had considered him an early employee (given shares through vesting), not a founder (entitled to shares, no vesting required).

If he had discussed these uncomfortable terms early on, it would have gotten things out of the way. The black and white could have been drawn up within a few days and they could have signed. Everybody would know where they stand.

Lesson 2: They should have tied up the IP

After he found out about the shareholding structure, he was understandably fed up. He made a decision. "I left, taking the web, driver app, and everything else with my name on it along with me."

If he was an employee, all work done under an employment contract would have belonged to the company. 

But there was no company when the work was first done up and when it was eventually completed. Who owned the IP?

It seems as though Julian did.

If the startup founders were smart, they would have asked Julian to assign the IP to the startup. Copyrights, you know.

Maybe they thought that they could get a team from India to do it up from scratch. So in their minds, the tech guy was not essential.

Lesson 3: Confidentiality counts

There was nothing signed to prevent team members from talking about the startup's internal affairs. If there was, Julian might have thought twice before publishing his blog post.

Maybe they'll think about defamation instead.

But the damage has been done. People are going to look at the founders a little bit differently. And it's a small community.

Being more explicit is sometimes a good thing.

Lesson 4: They should have thought about their investors.

When investors put money into your company, there will be terms. Binding terms. If there are breaches, there will be consequences. If there was misrepresentation, there will be consequences. If there was fraud, there will be consequences.

Maybe the investors will ask for their money back. Maybe not.

At any rate, it's going to impact any other startups that the founders start in the future. Will people invest? The future investors will think twice. Maybe future investors will ask about the ownership of the tech.

Thanks for reading.

Share this article :