FORMING AN OPTION POOL

Some additional background:

An option pool is authorized but unissued stock which has been reserved for future grants of options to employees. Investors typically expect the company to have an option pool sufficient to attract needed additional employees. For example, a term sheet might specify that, in addition to the shares held by the founders and the investor, there should be a 10% option pool.

When an investor negotiates for a certain post-money percentage ownership, that percentage ownership is generally calculated on a fully diluted basis. Fully diluted means that any stock options are treated as if they had been exercised and any shares which have been set aside in an option pool for future option grants are treated as if they had been issued and exercised.

An option pool can be pre-money or post-money. In the case of a pre-money option pool, the percentage of the total shares in the option pool does not dilute the final ownership share for which the investor has bargained. In the case of a post-money option pool, all shareholders, including the new investor, share pro-rata in the dilution required to form the option pool.

So, for example, assume that prior to the investment the founder owns 100% of the company, and that there are no options outstanding and no option pool for options to be granted later. If the investor bargains for a 40% share in the company, along with a pre-money option pool of 10%, the resulting ownership of the company would be described (on a fully diluted basis) as:

Founder: 50% Investor: 40% Option pool: 10%

If the same deal is negotiated except that the 10% option pool is post-money, then both the founder and the investor would be diluted proportionately to create the option pool, and the resulting ownership would be described as:

Founder: 54% Investor: 36% Option pool: 10%

Note: Answer all the questions below with shares of the company calculated on a fully diluted basis. Your answer for each question needs to be a percentage.

Question 2A: A founder owns 100% of a company and there are no options outstanding and no option pool for options to be granted later. An investor agrees to acquire a 30% interest in the company, and also requires the creation of a 20% option pool.

If the option pool is pre-money, what will be the resulting share of the company held by:

The founder? Answer: _________________

The investor? Answer: _________________

Question 2B: With the same facts as in Question 2A, but with the option pool post-money, what will be the resulting share of the company held by:

The founder? Answer: _________________

The investor? Answer: _________________