Worried that you will lose control over your company by offering shares to new investors as you grow your company? Founders often struggle with this issue of share dilution on their ownership. That is where super-voting common stock for founders can help. The main idea behind this can be interesting for founders who are concerned about losing control of their own company.
This is a special class of stock becoming common among startups. But even though it has become more popular, it faces pressures from investors, index providers, and regulators. Keep reading to know all about it.
What is super-voting stock?
Super-voting stock is a class of stock that offers shareholders larger proportional voting rights as compared to any other class of stock issued by the company. This allows only a limited number of shareholders to control a company. Normally the purpose of super-voting shares is to offer the main members greater control over the voting rights of the company.
And with this, the members would also have much more control over the board and the corporate actions. With the existence of super-voting shares, hostile takeovers would have an effective defense as the main members can maintain most of the voting control in the company without actually owning more than half of the outstanding shares.
Understanding Super Voting Stock Structure
Under the normal single-class structure, each share of the company has equal voting power and equity. Super-voting and dual-class structures contain two or more classes of shares. One of these would have significantly more voting power than the other. As per the super-voting structure, the shareholders would get one vote per share, with the founders getting shares with multiple votes.
Normally, the ratio for super-voting stock is 10 votes per share, although the number of votes can vary. This permits the founders to easily keep good control over the company even as they issue new stock to employees and third parties. As a matter of fact, companies that have selected the dual-class structure have risen over recent years. Companies like Snapchat, Facebook and Google have also utilized such a structure. Your company too can easily benefit from this structure.
Super Voting Structure Example
A lot of founders raise concerns about protection against dilution in the company. The main concern of the founders is that as they grow their business and issue stocks to advisors, employees, and investors, their voting power and shares would be diluted. So, the founders look for ways to protect themselves from losing control over the company. And this normally leads to “Super Voting Common Stock”.
This has a very simple structure but a different class of shares that offer multiple votes per share. The number of votes per share can vary from 2 to infinity, although the most common number is 10 votes per share. To explain better, let us use the following cap table:
|Key Employee 1||50||5%|
|Key Employee 2||50||5%|
|All other employees||700||70%|
In this example, the founders have 30% of the company in their hands, which is a sizable position but not enough to control any stockholder vote. Even though they can put the voting agreements, it is very tricky and no employee-friendly founder would like to enforce these agreements.
With the super-voting common shares, Founder 1 and Founder 2 would be issued Class B common stock when they form the company. Each of these shares would have 10 votes per share. The rest of the service providers and employees would get Class A Common Stock, which has 1 vote per share. This is called a dual-class common stock structure. So, as the cap table would still look like what was seen about, this what the voting power would look like:
|Votes||% Voting Power|
|Key Employee 1||50||1.32%|
|Key Employee 2||50||1.32%|
|All other employees||700||18.42%|
With this structure in place, the founders can easily keep good control over the company as they give out equity to investors and employees. But things are not that simple. This is because problems come up when your company wants to raise outside capital from institutional investors and VCs.
If everything is going well, the investors would put up with a high valuation and other company-friendly terms. But history has proven that investors usually do not invest in a structure where there are one or two unproven founders who have complete control over the destiny of the company.
This is also one of the main reasons why you can see many companies with dual-class common stock structures unwound when the first round of VC financing comes in. With such a structure in place during the early days of the company, it would scare off any investors that do not want to battle with what they wrongly might feel is an arrogant founding team.
With this in mind, once the company has become successful and the founding team has proven their worth, the investors are usually more willing to implement the dual-class structure. And one of the most common ways to implement this is in advance of an IPO. It should be a year or so before the IPO.
The reason behind this is that super-voting shares are offered to every pre-IPO holder and the single vote shares are sold to the public during an IPO. When the pre-IPO holder starts selling their shares to the public, these shares would automatically convert from the Class B (super-vote) shares to Class A (single vote) shares.
The main result from this is that the shares convert from a high-vote to a low-vote stock. And the pre-IPO holders who do not sell the shares after the IPO would have their voting power go up. This would potentially influence the control they have on the company.
There are a lot of types of multi-class structures and when implemented, the management and Board team has to be careful in considering their fiduciary duties and the justification for the structure. And even though these structures can be great, they also have been the subject of significant investor scrutiny and stockholder litigation.
In the end, using a dual-class structure for enjoying the benefits offered by super-voting common stock for founders is a great option for everyone worried that they would lose control over their company. But for this, it is better to take help from a professional before you implement this plan. To know more about being a founder, check out the various knowledge-based articles shared here!