Legal {Kenya Law} and Practical considerations when splitting Equity between Founders, raising financing for your start-up

1. FOUNDER EQUITY
&
STARTUP
FINANCING
uwakili.com

2. •US and Hong Kong Licensed Attorney
•Founder/Co-Founder for multiple startups
•Former General Counsel for a technology and new
media VC Fund/Incubator in Asia
•Angel Network Mentor/Investor
JOHN REYES FREEMAN

3. FOUNDER EQUITY

4. FounderEquity
•Founder Equity: Not a legal term but used in common parlance to
refer to the shareholding (ownership) given to someone who
participates in the initial creation and early stages of a startup. Also
referred to as Founder Stock
•Biggest question often faced by startups is allocating the equity
among the Founders
•Most startups equally divide Founder equity—Easiest way but not
best way to do
•In situations where a company’s equity is held equally among the
Founders and they no longer agree on direction, the lack of a tie-
breaking vote is often fatal to the company’s ability to make
decisions and move forward
•Founders need to be aware of dilution of equity over time

5. Founders’ Pie Calculator
The Founders’ Pie Calculator by Frank Demmler

6. VESTING
❖ Vesting is the process by which a co-founder or an employee accrues equity interest
in a startup
❖ Shares/Options granted do not automatically become the property of
employee/Founder, but are given over a period of time
THEREFORE
❖ Vesting is the method of tying equity ownership to time served with the company.
❖ Such Equity interest is no longer subject to forfeiture (or repurchase by the company
if the equity interest is restricted stock) upon the departure of such co-founder or
employee.

7. Common Vesting Terms:
❖ For employees is when 25% of equity vests after 1 year of
service (often referred to as a “one-year cliff”), and the
remainder vests monthly in equal installments over the next
three years.
❖ Founders will often have different vesting schedules to reflect
their early commitment to the company and higher level of
involvement.

8. • Vesting is to retain key staff (including Founders)
• Usually it is a 4 Year vesting period
• Outlined in a Vesting Schedule in Employment or other
agreements
• Vesting can be tied to milestones instead of time

9. CLIFF PERIOD:
• Cliff is a trial period where no shares are granted according to the Vesting
Schedule. Shares are vested at the end of the cliff period
• Normally this is 1 Year
• 4 Years with a One Year Cliff is the typical vesting schedule for startup founders’
stock.
• Under a 4 years with a one year cliff schedule, founders vest shares over a four
year period. Because of the one year cliff, the founders will not vest any shares
until the first anniversary of the founders stock issuance. Upon the one-year
anniversary, the founders will each vest 25% of their total shares. Vesting will
usually occur monthly after the cliff.

10. Vesting
4 Year
Vesting
1 Year Cliff

11. KENYAN LAW PERSPECTIVE
VESTING AND CLIFF
PERIOD

12. VESTING
❖ Not envisioned by New
Companies Act 2015
❖ But as can be dictated by private
contract.
❖ Therefore include Vesting
provisions in
Shareholders/Employee
Agreements
❖ Also can be included in Articles of
Association.
❖ Notify the Registrar of Companies
periodically upon vesting via
filling: Interim Annual Return,
Return of Allotment, and Board
Resolution (See @ uwakili.com)
CLIFF PERIOD
❖ Not envisioned by New Companies
Act 2015
❖ Dictated by private contract.
❖ Included in Shareholder or
Employment Contract.
❖ Also can be included in Articles of
Association.

13. SHARE TRANSFER

14. Right of First Refusal
❖Entitles the holder of the right to be the first to “refuse” a deal that
the person subject to the right receives for the purchase of stock.
❖From a founder perspective, this is the right of the company to buy
the founder’s shares if the founder tries to sell them to a third party.
Applies in the same manner from an Investor’s perspective.
See: Uwakili-Deal Dictionary.
❖Typical clause investors want to see, often in Shareholder
Agreement
❖Designed to control who can hold shares of the company

15. THEREFORE
• BEFORE a shareholder can sell shares to a third party, the Shareholder must
offer to sale on the same terms as discussed with third party via a Transfer
Notice to the:
1. Company, if company doesn’t want to
purchase
2. The other shareholders/investors, if they don’t
want to purchase then to
A. If more then one other shareholder, then they can purchase pro rata their holdings (i.e.
if hold 10% of shares, they can buy up to 10% of the offered shares).
B. Should a shareholder(s) not want to purchase, then the ones who do can
“oversubscribe” to buy more then their holdings percentage.
3. The third party buyer

16. • Usually covers all “transfers” of shares.
• Transfers include offers to sell, assignments, pledges (for example, to
secure a debt), transfer to family or trusts, involuntary transfers such
as those that happen upon death or divorce, mortgages, grants of
options, and encumbrances, of the shares themselves or any interest
in the shares
• Often smaller companies want to clearly state what transfers are
subject to ROFR, i.e. offers to sell
• Also state a time limit for each step so it doesn’t drag on for months
while a party decides if they want to purchase or not. I tend to say
10,15, or 30 days

17. Co Sale Provision (aka Drag Along, Tag
Along)
• A tag-along right is commonly used to protect minority shareholders'
rights. Majority shareholder sells shares the minority shareholder is
entitled to tag along with the majority shareholder, and sell their
shares. This is optional, minority shareholder doesn’t have to sale
• A drag-along right, however, protects the majority shareholders' rights.
According to the Shareholder Agreement of the parties, if
shareholders representing certain majority percentage of the shares
(usually I say 70-75%, but can be 51%) decide to sell their interest, the
minority shareholders are obliged to “drag along” and sell their interest
under the same conditions

18. Kenyan Law
Model Articles of Association

19. TRANSFER OF SHARES
Article 25 to Article 32
Article 25: Execution of instrument of transfer of shares
Parties to instrument of transfer are known as Transferor and
Transferee.
Instruments include, Agreement to Transfer shares and ….
Completion of Transfer is marked by having the Transferee’s name
entered into the Register of Members.
Article 26:Who may transfer shares
● Transfer of shares must be in writing.
● Form of writing can be as the directors may approve, or as per
regulations provided by the Registrar of companies.
Article 27: Decline of transfer of shares
Directors have veto power on Transfer of shares.
Article 28: Recognition and nonrecognition of instrument
of transfer of shares
Instrument of transfer may fail if:
---} A certificate of shares is not given.
---}Fee for certificate is not awarded
---}Transferee is a infant, partnership or person of
unsound mind.
Article 29: Duration of notice of refusal of transfer
● Notice of refusal to transfer shares by the directors should be
sent two months of company notification of the transfer
Article 30:Suspension of registrations of transfer
● The suspension should not be more than thirty (30) days in any
year.

20. PRE-EMPTION RIGHTS
ARTICLE 33
Sub Article 1: Pre-emption rights in relation to transfer of
shares
● Pre-emption rights have to be exhausted before any Transfer of
share is done.
Sub Article 2: Requirements of company members who
wish to transfer their shares
These are:-
● Members should give notice in writing to the Company.
● The price is agreed upon by the Vendor and Directors or the
auditor may give the fair price.
● Company may state that unless all shares are sold by the
Company, none should be sold.
Sub Article 3: Certification of the price of shares and the
requirements of the vendor in relation to the shares
● The auditor is asked to certify the fair price.
● Company should provide the vendor with the certificate.
● The vendor may cancel the Company’s authority to sell the
shares within 21 days after receiving the certificate of price.
Sub Article 4: Invitation of members to apply for the transfer shares
● The Company sends a notice to members informing them of the share
price and number of shares and to apply for the shares within 21 days.
Sub Article 5: Conditions governing allocation of transfer shares
● The directors allocate the applied shares to members.
● Applicants are not allowed to take more than the maximum number of
shares specified.
● Company gives notice of allocations to the vendor or company member.
● The time and place the shares shall be sold should be stated in the notice.
Sub Article 6: The position of the vendor and purchaser of the
transfer shares
● The vendor should transfer the shares to the purchaser at a specified time
and place.
● The purchaser is then registered as the holder of the shares.
Sub Article 7: The right of the Vendor with regard to transfer shares
● The vendor may be free to transfer shares not allocated by the Directors to
any person.

21. TRANSMISSION OF SHARES
Article 35 to Article 38
Article 35: Company recognition of persons who will have title to an interest in
the shares of a dead member of the Company
These are personal representatives of the deceased and survivors if the deceased was a
joint holder.
Article 36: Conditions for registration of the holder or transferee of shares
which are:-
● Member to produce evidence of entitlement to the shares.
● Member to elect himself or another representative to be the holder of the shares or as
transferee.
● Directors may decline or suspend registration.
Article 37: Requirements to be met by persons registering
● Send a written notice to the Company stating the person elected as the holder of
shares. This may be the member or another person of their choice.
● Testify to the election by executing a transfer of shares to the person chosen.
Article 38: The rights conferred on persons registering
● Persons to be entitled to the same dividends and advantages as other shareholders.
● Directors may withhold payment of all dividends, bonuses or money as they deem fit.
EXCLUDED TRANSFERS
Article 34
It provides instances where pre emption rights will not
apply. These are:-
● Where the transfer is approved in writing by all the
members
● Any transfer by a corporate member to an associated
company
● Any transfer by a corporate member to a company
formed to acquire the whole or a substantial assets
or part of the undertaking.

22. Departure
• Repurchase of Unvested Shares
• Usually initial grant/purchase agreements will have a
clause to repurchase unvested shares at cost Founder
paid.(i.e. 100 unvested shares @$1, then Founder is
paid $100)
• Vested shares Founder keeps or has the right to sell
(subject to the First Right of Refusal clause)
• This is documented and signed by both parties. Simple
note saying unvested shares repurchased for $XXX,
payment was given in full, and founder forfeits the rights
to such is ok

23. Departure
• Termination Certificate/Notice
• Make sure to get departing Founder to sign a notice of termination.
This usually is referenced when the Founders all sign their IP
assignment agreements at the formation/start
• Acts as part of governance and also as clearance to any work product
IP generated by Founder

24. Departure
• Directorship/Board
• If Founder is a Board member or a Company director,
have departing Founder sign a simple resignation
from such position
• File the removal with relevant government entities
• In the event this leaves open a Board seat, have the
Board change the quorum requirements (if
applicable)

25. Kenyan Law Perspective

26. Transfer & Forfeiture of shares
TRANSFER
Resignation letter
Transfer of Shares Agreement
Transfer Deed
Affidavit
FORFEITURE
Resignation letter
Interim Annual Return
Ordinary Resolution
Cessation of office
Need Transfer or Forfeiture of
shares documentation?

27. STARTUP FINANCING

28. TYPES OF INVESTMENT
• Convertible Debt
• Basically a loan to the company that may be exchange for equity
• Often done by providing the investor with a Convertible Note
• Equity Investment
• Typical investment where shares/stock of company is sold exchange
for money or valuable consideration (IP, work/idea, etc.)
• Often done by providing the investor a Term Sheet and a Share
Purchase Agreement

29. Convertible Note
• Investor loans money to company for a fixed period (normally 1 – 2
years) at a standard interest rate
• At the end of the loan term, investor can choose to either:
• Receive the money back plus interest; or
• Convert the amount of the loan into equity (shares)
• Conversion occurs with a discount and/or a fixed valuation
• i.e. 20% discount, so investor pays 80% of the value of the share ($100 share
value, they pay instead $80 per share)
• With fixed valuation, it should be lower then current valuation, so investor
receives more shares for same amount
NEED A TERM SHEET?

30. Term Sheet / Share Purchase Agreement
• Term Sheet outlines particulars of the investment, the company, how
much is being invested, how many shares the investor receives, and
the class of the shares (common, preferred, voting/non voting, etc)
• Preferred shares are normally given to investors. This means should the
company be wound up, they get first rights to receive any money
• Share Purchase Agreement outlines the particulars of the purchase
and the amount paid along with the actions both sides must take to
complete the transaction (i.e. issue the share certificates, sign
Shareholders Agreement, etc)
Need a Share Purchase Agreement?

31. DOCUMENTATION
uwakili.com

32. • Founder Equity Calculator
• Convertible Note
• Term Sheet
• Shareholder Agreement
• Share Purchase Agreement
• Transfer of shares by a company director
• Forfeiture of shares by director on cessation of
office