Sweat equity involves the rescue of these early-stage startups which can’t afford to attract the correct talent. Sweat equity is a member of an employee or sometimes a co-founder who brings certain skills and expertise agreeable. However, drafting sweat equity agreements can be a tricky business. Why would someone stay with for a longer time period, when they got almost all their equity inside first year itself? Is there a guarantee the person would perform for the desired expectations despite getting the equity? These are just some of the questions which trouble early-stage startups if they think of issuing sweat equity shares. Most founders commit common mistakes for example not providing a vesting period or you cannot including limits within the number or area of equity shares. These mistakes may appear trivial but have long-standing consequences to the start-up. Let us see precisely what are these five common mistakes that you simply should avoid while drafting a sweat equity agreement.

Ø Unrestricted Amount of Equity

One cannot assign unlimited equity to a staff member, it doesn’t matter how much expertise they possess. Hence, it really is pertinent to locate a limit around the amount of sweat equity which can be issued. For instance, a set limit of 10% could possibly be placed. This 10% of equity could possibly be given for the employee based on the achievement of certain milestones and might be spread spanning a longer period of time.

Ø No Vesting Period

Vesting period means the timeframe for which somebody contributor should wait before he/she starts finding a share within the equity. In the absence of the identical, a staff member would not have any incentive to settle back. Hence, equity really should be vested in the staggered manner over the period of tie. The vesting period clause is often a necessary component of a sweat equity agreement. It is forced to build the organization’s trust and reliance around the individual and anyone’s interest inside company.

Ø No Milestones

Have set milestones to ensure how the employee is performing well. You can also link the situation of equity to the telltale milestones. Milestones refer to your specific achievements which should be reached to acquire equity. Milestones are determined in order to ensure that this employee that’s receiving the equity performs to your desired expectation levels. The milestone clause seeks to provide similar purpose as those of vesting period. It tests the commitment and value addition done by somebody and therefore assists in fairly deciding who actually has to get a share from the equity.

Ø Absence of a Performance Criteria

As sweat equity agreements aim to pay with the intangible contributions of individuals it’s necessary the scope with their contributions is clearly defined. Clearly defining the performance criteria becomes crucial here. Failing to have clarity about the same could unduly benefit and harm the parties based upon the situation. A clearly defined performance criteria ensures that this employee will not spend his/her sweat (labour and intellect) on those tasks in which he/she would not be obtaining a share and the employer will not have to cover in equity for your work which he/she either doesn’t require a specific employee to carry out at all or considers it as a a portion of some work which includes already been made a decision to be paid.

Ø No termination/exit clause

Proper exit/termination clauses needs to be outlined inside the sweat equity agreement. Events of default for instance the employee not meeting the laid down performance criteria or the staff member breaching company policies etc. must be mentioned as grounds of termination. Remember the staff member would be a shareholder within the company thus, have the exit process smooth. Moreover, there must be an understanding which the shares that contain not yet vested would lapse within the termination.