How to give out share options (equity) in your start-up

By Margaux Black

Dec 06 2021

If you’ve founded a start-up, equity is an important commodity that needs to be treated as such. It has an important role in raising funds, giving ownership to the founding team, and importantly - motivating employees. If you don’t think about the way you want your cap table to look now and in the future, you run the risk of not having enough or the right structures in place to reward teams in the future or get additional funding.

Depending on your industry, business and revenue - the right amount of equity to give to investors varies a little, but typically sits in the 15-20% bracket. When it comes to employees, the typical amount to set aside to divide up in early stages is around 10-15%. However this is where it starts to get a little complicated if you don’t know everything we know (not to brag, but equity is what we do and what we know 😉 ).

There are many different plans and schemes (for example phantom shares - which you can read about here) that mean different things to your employees in regards to tax obligations and legal ownership - and this is the minefield we’re here to help you through.

Shares vs Share options - which is best

For investors, the equity that they receive will typically be straight shares, whereas for employees you also have the option to give away share options instead - which is usually the best method. We’ve done a more detailed summary of the difference between shares and options in this article here.

Giving someone shares means they become a shareholder right off the bat. This gives them voting rights, influence and also likely tax obligations. For an investor, tax is probably a non issue - they are likely to have their own accountants to figure these things out for them. In regards to influence, likely an investor will (assuming you’ve picked a good one) be able to help guide and grow the company from an advisory role - especially as now they have skin in the game they will work to help make your business a success.

However for employees - even if you would like them to stick around forever, the likelihood is they may move on in the future. If you’ve given them shares they get to keep those shares regardless, and maintain the voting rights too - which makes for a messy cap table and an inefficient process for getting sign off on business decisions.

This is why share options is the best way to go, not only for you as a founder - but also for your employees. Below we’re going to break down why exactly that is.

1. They’re an option not a share

Sounds silly considering those are just the words used in the title but it aptly explains itself. Share options are the “option” to shares at a later date for a set price. This means you can bring employees in as invested individuals who want to see the success of the company (not only for the company but also for themselves) without giving them the full slice of the pizza just yet. It's more like a taste or smell of what's to come as you wait, stomach grumbling for the pizza to come out of the oven.

2. They can vest - which means long term engagement

This can, if handled correctly, help ease the brain drain and keep employees invested for the longer. Basically vesting creates key milestones where the share options become “released”. Once these options are vested, employees can then choose to “exercise” (more on that if you click here) them, which converts them into actual shares. Employee retention is so important in start-ups, and having options on a vesting schedule can help keep them invested in key milestones on the horizon.

3. Tax becomes a lot easier

Unlike investors, chances are employees don’t have their own accountants or a lot of available cash to pay tax on a risky asset such as shares. This is another reason options are a much better bet. Since they don’t technically own anything yet, they simply have the right to own something, this means zero tax obligation on their side - until they decide to exercise. Tax is a whole big ugly topic, luckily in the UK they have this wonderful thing called an EMI Scheme  which means even after they exercise, if you’ve set it up correctly it can still be incredibly tax advantageous. We go into a little more detail on these things in this blog on HMRC requirements and this landing page on EMI Scheme breakdown.

So, now you’re convinced - how exactly do you give out share options?

The easiest answer to this question is to come talk to us. However we will also break this down a little more for you.

1. Decide on quantities

This is how much you want to give away total, and also how much you want to give away to each employee. Alongside this is figuring out what vesting schedules you’d like to factor in too. When working with us, we can talk you through industry norms and whats expected for certain roles in the business.

2. Create your schemes

This is creating the actual equity plan/contract. We really recommend creating EMI schemes for various reasons outlined here. But there are many different types and routes to get these created. When working with us we will take care of pretty much all of it with you, with just a few touch points to make sure you agree on the terms. Whereas some companies will still make you do a lot of the work yourself, or if you go through a lawyer it will be a pricey endeavour.

3. Share the agreements

Now you get to share these agreements with your employees for them to sign. This part can and should be exciting on all accounts, but we’ve found that 80% employees don't really understand their share option plans and therefore don’t get the excitement and long term motivation from it that they should. This is the part of the process that differentiates ourselves from competitors the most, when signing up with Pomelo, you get the actual agreement and a tailored education workshop and platform for your team so they can fully understand the weird finance words and what this really means for them in context. If you want to know a little more on the theory of why this is so important to educate your team you can also read about that here.

If you’re still not quite sure where and how to start, feel free to get in touch with us and we can walk and talk you through the process - as self proclaimed equity experts (although other people say we’re pretty great at this too ;) ) you can trust your employees and your slices of the start-up pizza are in safe hands with us.

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