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Alex J.
Alex J., Solicitor
Category: Law
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Experience:  Solicitors 2 years plus PQE
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I am a co founder of a start up and we have already issued

Customer Question

I am a co founder of a start up and we have already issued shares to three separate investors for funding and they have signed an investor agreement with a built in shareholders agreement. We now want to issue sweat equity shares to business partners and consultancy for their services, could we consider these issuance as part of the agreed share option plan in the original investor agreement?
Submitted: 2 years ago.
Category: Law
Expert:  Nicola-mod replied 2 years ago.
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Customer: replied 2 years ago.
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Expert:  Alex J. replied 2 years ago.
Hi,
Thank you for your question and welcome.
My name is ***** ***** I will assist you.
Will the "Sweat Equity" shares be issued at a nominal value?
Are there restrictions against issuing shares in the investor agreement?
Do the investors have any pre emption rights they need to waive?
Kind regards
AJ
Customer: replied 2 years ago.

Hi Alex,

Sweat equity will be issued at nominal value.

There are no pre-emption rights for the investors. This is what is stated in one of the schedules:

2. The passing of resolutions of the Shareholders to:

(a) waive pre-emption rights in respect of the allotment and issue of the Subscription Shares; and

(b) grant the directors of the Company authority to allot the Subscription Shares.

Does this mean we can issue shares freely, i..e without having to issue another shareholders agreement to existing investors for them to sign? And do the terms of the sweat equity shares have to be the same as investors? i.e. can they have less voting rights as investors?

Expert:  Alex J. replied 2 years ago.

Hi, Thank you. The shareholders agreement will become useless unless all the shareholders are party to it. You can ask the incoming shareholders to sign a deed of adherence to the existing shareholders agreement - do not give them the option to re negotiate it unless absolutely necessary. Do you already have a special resolution passed where by the pre emption rights have been dis applied and the directors have been given authority to alot shares under S.551 of the Companies Act 2006? If so how many shares have they been given permission to issue/allot? Is it enough to cover the sweat equity? If you want the sweat equity shareholders not to have voting rights then you would need to issue a different class of share which would require you to amend the articles of association. If the sweat equity shareholders have less than 25% of the issued share capital, their vote will likely be of little value anyway. I look forward to hearing from you. Kind regards AJ

Customer: replied 2 years ago.

Is it possible they sign the same deed of adherence as the investors, even though they are not investing any money? We have an employee share option plan which would be enough to issue all the shares, can contractors who take a decreased contract rate be allowed in the employee share option pool if they sign a service agreement? Thanks a lot for this Alex btw!

This is in the Warranties

PART 2
Further matters requiring investor consent

1. Amend or waive any provision of the Articles or the memorandum of association.

2. Make any increase or reduction or alteration whatsoever (including by way of redemption, purchase, subdivision, consolidation, redenomination or redesignation) of the Company's share capital, other than pursuant to the Share Option Plan or the Articles.

3. Grant any option, warrant or other right to subscribe or convert any securities into shares, or require the allotment or issue of any such shares or securities whether conditional or otherwise, other than pursuant to the Share Option Plan or the Articles.

Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
I would not admit the contractors as employees - it is not worth the hassle - you would be giving them rights as employees and if you ever needed to replace them it would make your life extremely difficult.
It would be much easier to amend the articles and issue them with a separate class of non voting share.
Do the investors consent to this?
Kind regards
AJ
Customer: replied 2 years ago.

They do. Do they need to sign something saying as such?

if we didnt mind about voting rights, can they sign the deed of adherance from the investors agreement? allowing us to issue the shares?

Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
The deed of adherence is not essential to the share issue, but if you are issuing voting shares to new shareholders, then they should also be bound by the shareholders agreement otherwise it does undermine it. Does the shareholder agreement convey any rights or benefits that are just for the investors? If so these should be excluded in the deed of adherence.
If the directors have authority under S.551 already for the allotment, then I would get the existing shareholders to sign a letter giving up their pre emption rights and then the sweat equity people should write a letter to the company applying for the shares. The application should be conditional upon them signing the deed of adherence.
How many shares will be issued?
Kind regards
AJ
Customer: replied 2 years ago.

2. The passing of resolutions of the Shareholders to:


(a) waive pre-emption rights in respect of the allotment and issue of the Subscription Shares; and

I think theyhave already waived their pre-emption rights as this is in the investors agreement.

There are no special rights for the investors and the shares issued will be 50 ordinary shares that amount to 5%. So we want to issue these shares based on some deliverables i.e certain things they must perform to retain ownership of the shares, can we just give them the investors agreement and add conditions for which they need to satisfy to retain ownership of the shares?


Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
Maybe the best thing to do would be to give them an option agreement whereby they can apply for the shares if they meet certain Key Performance Indicators?
As these guys are in a minority you could also get them to adhere to the following additional terms in the deed of adherence:
- Drag along rights - you can force them to sell if they sell if you get a bona fide third party offer for the whole company;
- Pre emption rights - so that if they want to sell their shares the existing shares get first refusal;
- Good leaver and bad leaver clauses - for example if you terminate their contracts for material default you can claw back their shares at a "bad leaver price - that is pre determined at a discount" or at a "good leaver price" if they retire for example.
I look forward to hearing from you
Kind regards
AJ
Customer: replied 2 years ago.
This sounds really like the right track to take. Is the option agreement in addition to the current shareholders agreement and they need to sign both of them or just the option agreement.?
Thanks a lot again.
Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
An option agreement can just be one all encompassing agreement that contains:
- The KPIs and conditions that allow them to qualify for the shares:
- Adherence to the Shareholders Agreement;
- Any additional restrictions they must agree to.
Would you like to discuss any of these elements further?
kind regards
AJ
Customer: replied 2 years ago.
Thank you. So along as there are no restrictions in the original shareholders agreement we can offer shares via this option agreement? Of the clauses and terms I've posted in here so far do any of them seem as they restrict the company from issuing this shares if so all we need is a letter of agreement from the investors to go ahead ?
It seems these two clauses in the agreement conflict with each other
PART 2
Further matters requiring investor consent
2. Make any increase or reduction or alteration whatsoever (including by way of redemption, purchase, subdivision, consolidation, redenomination or redesignation) of the Company's share capital, other than pursuant to the Share Option Plan or the Articles.
2. The passing of resolutions of the Shareholders to:
(a) waive pre-emption rights in respect of the allotment and issue of the Subscription Shares; and
Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
I am just away from my computer.
I will revert to you on this by tomorrow morning at the latest?
Kind regards
AJ
Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
Those restrictions suggest that you need a special resolution to dis apply pre emption rights and give authority to allot shares.
When you refer to the existing option do you mean the employee option?
Kind regards
AJ
Customer: replied 2 years ago.

Hey Alex

Would we still need a special resolution if the director and I allocated these shares of sweat equity via our own holdings, so not to dilute their holdings?

And yep I do mean the employee option.

Thanks again

Expert:  Alex J. replied 2 years ago.
Hi,
Thank you.
I would not use the employee option unless you can use it without taking these contractors on as employees.
If you transferred the shares from your own holdings, you would not need a special resolution unless the shareholders agreements says that you must offer them to the existing shareholders first.
If you transfer the shares from your own holding this is not an allotment, it is just a share transfer.
Kind regards
AJ
Customer: replied 2 years ago.
Thanks Alex. When you say use it without taking them as employees what do you mean exactly?
Expert:  Alex J. replied 1 year ago.
Hi
Thank you.
What I mean is - you do not want to make the contractors employees ( I presume) - therefore do the terms of the option allow someone to exercise it if they they are not employees? If the answer to this is no, then I would not use the employee option to issue shares to the contractors. You should create a new option based on the key performance indicators you have created for the contractors.
Kind regards
AJ
Alex J., Solicitor
Category: Law
Satisfied Customers: 3609
Experience: Solicitors 2 years plus PQE
Alex J. and other Law Specialists are ready to help you
Customer: replied 1 year ago.

Thank you Alex. We're not opposed to making the contractors employees as long as it keeps our original compensation agreement in tact.

Expert:  Alex J. replied 1 year ago.
Hi,
Thank you.
What does the original agreement with the contractors contain?
Did it contain any details of the sweat equity?
kind regards
AJ
Customer: replied 1 year ago.

The current agreement we have with the contractor is with his company and just states standard monetary remuneration. But my partner and I have since agreed with the developer to offer him 4% equity as an employee offering services outside of what is in his original agreement, and therefore we would still owe him the monies as a contractor. So we have formed an agreement with his company but now want to take on the person as an employee.

Thanks Alex

Expert:  Alex J. replied 1 year ago.
Hi,
Thank you.
As a starting point have you offered this person an employment contract? Are they willing to be an employee?
Kind regards
AJ
Customer: replied 1 year ago.

Evening Alex,

We would like to offer them an employment contract in a leadership role with the remuneration in equity, and they would be happy to accept this as long as it doesn't affect our original agreement with their company, where we have hired him as a developer for our infrastructure (separate to leadership role)with a monetary compensation package.

I hope this is slightly clearer...

Expert:  Alex J. replied 1 year ago.
Hi,
Thank you.
My main concerns would be:
1) You do not want these people using their position to a way create a conflict with their existing companies - you need to include confidentiality and non compete obligations in their contracts;
2) You need to make sure that if the current agreement is with their company and the sweat equity agreement will be them personally, you do not end up double compensating them by having an obligation to give shares to their company and them personally.
Will they be on a zero hours contract or something similar?
Kind regards
AJ
Customer: replied 1 year ago.

Hi Alex,

Well they own the company they work for as they are independent contractors, and the employment agreement will be purely towards them as an individual rather than their limited company. It won't be a zero hours contract or anything like that.

Regards

Expert:  Alex J. replied 1 year ago.

Hi, Thank you. If they own the companies concerned, make sure that any right to the shares is assigned to them personally so you do not end giving sweat equity to them and their limited company. Always remember a company is a distinct legal personality. If you are giving them an employment contract this will have to be carefully worded to fit in with your share option scheme. I would recommend you ask a solicitor to draft this. Ultimately you want to have enough flexibility to remove these people if things do not work out, without the fear of them bringing an employment claim against your company. Kind regards AJ

Customer: replied 1 year ago.

Thanks a lot Alex! Great Help

Expert:  Alex J. replied 1 year ago.
No problem.
Please do not hesitate to contact me if you would like to discuss this further.
Kind regards
AJ

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