Establishing Written Default Vesting Timelines Prior To Formal Equity Agreements
Written default vesting records executed prior to formal incorporation bind early collaborators to explicit accrual schedules, eliminating unearned claims.
equity overhang
Meaning
Potential dilution arising from the total volume of granted but unexercised share options creates a measurable gap between current and fully diluted ownership. This equity overhang represents the weight of future shares that could be issued upon the exercise of all outstanding warrants and options. It measures the extent to which the ownership of current shareholders will be reduced if every claim on the stock is fulfilled.
Valuation Pressure
Calculation of a company worth must account for the shares that have not yet been issued but are promised to various parties. When equity overhang is high, the price per share that an investor is willing to pay often decreases to compensate for the anticipated dilution. This adjustment ensures that the post money valuation accurately reflects the economic reality of the capitalization table.
Pool Management
Maintaining a balance between rewarding employees and protecting existing shareholders requires careful monitoring of the total number of options available. A large equity overhang suggests that the company has been aggressive in its use of equity as compensation, which may limit its ability to issue more shares in the future. The board must decide whether to expand the pool or to seek alternative ways to incentivize the team.
Strategic Constraint
Future financing rounds become more complex when a substantial portion of the company is already spoken for by option holders. If the equity overhang exceeds industry norms, new investors may demand that the founders or existing employees take a greater share of the dilution. This requirement can create tension between different classes of shareholders during a capital raise.