Successful negotiation of start-up funding leaves most new entrepreneurs flush with excitement. But investors will almost always slip an option pool into the equation, which means the share value to the founding group can sink in a flash. It can be a throttling experience for the uninitiated. Depending on the number and caliber of upper-echelon hires a new company must make, it’s critical to provide an option pool, which is an equity set-aside that can be issued at a later date to entice attractive new hires. These stock options are also used for board members, consultants and even vendors. Most high-quality start-ups give these kinds of key players a stake in order to remain competitive.
But the option pool is always a key point of negotiation for start-ups during initial funding rounds with venture capitalists. It’s a push-pull scenario because funders want the company to keep this pool fluid while the initial stock holders don’t want their investments diluted. The pool “is usually in the 10% to 20% range. A lot of times the investors want to see that because it’s a way to attract highly qualified employees and be
competitive. What usually happens during valuation is that the entrepreneurs think they have a lot of shares. But once you account for 10% to 20% after it’s financed, they see their ownership percentage declines,” says Tom Taulli, author of seven financing books including The Complete M&A Handbook, and an advisor to technology companies. It’s important for technology transfer professionals to orient new entrepreneurs to the concept
and process of option pools as a part of valuation so that the company founders clearly understand the value of their stakes, Taulli stresses. A detailed article on navigating option pool provisions appears in the February 2010 issue of Technology Transfer Tactics. To view the entire article and begin a subscription, plus gain access to the entire 3-year archive of how-to articles and best practices, CLICK HERE.