Employee Stock Options & Equity - 5 Ways to Create an "Employee Pool" and Equity for Future Investors
Creating a way for your employees to invest in the company - with employee stock and options - while working at the company is becoming more and more popular every year. In fact, it is a great way to bring in quality employees who are, quite literally, invested in the success of the company they are working for. To create this double investment from your employees, many company are creating an employee pool. The employee pool definition is a shared stock reserve for employees. It is a great way to attract employees who will work hard to see the company successful. In the clause that many use, the employees only get the stock options once the company has reached a certain point of success, which drives them to work harder for the overall success of the company. Additionally, employees who start with the company earlier will get a greater percentage than those who join in later. So how can you create this pool for your employees?
The employee pool is one of the most important things you should create as you first begin your startup. So read these tips and be sure to share with other team members!
Percentage Based Stock and Equity Options
Stock pool divided by percentage
The first, and most common way that companies do this is through a percentage. Employees are promised a percentage of the stock pool when they are brought on. When you provide the percentage is completely up to you, however, it will need to be put into the contract. This percentage will stay the same until the provisions in the contract are met. Additionally, if you bring on new employees, you will need to keep the percentage the same for the current employees and, therefore, may need to add more stock options to the pool. This is to ensure that the percentage does not change for the older employees.
Success Based Stock and Equity Options
Rewarding employees for reaching company milestones
Another popular way of doing this is to promise a certain number of stocks to the employee(s) when certain company milestones are met. This allows you to continue making new milestones once the current ones are met and will encourage the employees to continue working diligently on the company's success. This is a very flexible option that provides for a continuously growing company. As long as the employees are performing, they will continue to add more stocks to their portfolio. This is an advantage to both the company as well as the employees and can work for a long time without having to be altered.
Time Based Options
Reward employees based on their duration with the company
If you want employees to stay with the company for a long time, then this is a great way to incentivize that. If employees know that they will get some stock options after being with the company for 6 months or a year and then every year after that, they are more likely to stay with the company for the long-haul. However, there is one downside to this. This does not incentivize employees to work harder for the company. It only encourages them to stay with the company for a long time. That is why this option is best paired with another method. However, it can work well for a company because it can reduce the amount of turnovers and money spent on the hiring and training process.
Restrictive Stock Vs. Options
Why restrictive stock can be a better option
Restrictive stock can be a much better tool when trying to get your employees to think and acts as owners of the company. This is because they are actually receiving common stock of the company. They can also begin earning capital gains as soon as it is distributed to them. This is generally only a good idea for startups because if the stock already has great value, it can be a bad option for employees who will have to report it as income.
Avoiding Employee Option Pool Dilution
Protecting outside investors
You will want to make the employee pool as small as possible so you can avoid the overall stock dilution. It needs to be large enough to attract quality employees but still leave you with enough room to grow. If you give all of the employee options away in the beginning, you will not have any room to give out new stock assurances in the future. To help with this, you will need to keep all of the stocks issued on the option pool term sheet and monitor it regularly.
If you'd like to learn more about how to create employee stock options and equity agreements for new employees, check out the book on startups by VC expert, Ross D. Blankenship.