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J.Hazelbaker
J.Hazelbaker, Attorney
Category: Business Law
Satisfied Customers: 4385
Experience:  Experienced and trained in the area of business law.
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I am a non-investing co-owner in a newly forming LLC. The three

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I am a non-investing co-owner in a newly forming LLC. The three partners have agreed that the initial founders shares will be allocated 40% to each of the two investing partners (each investing 50% of capital) and 20% to me (my ideal, intellectual property, rainmaker, etc.). We are all in agreement on that part.

We recently discussed the possibility of an ESOP if/when our revenues and growth warrant. One of the initial investors has suggested that shares for the ESOP should come out of my 20% equity rather than from all three owner's equity. That doesn't seem either necessary or right to me. Is that a standard arrangement when some owners are investing and some are not?

Thank you.
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J.Hazelbaker :

Hello. Thank you for using JustAnswer.

J.Hazelbaker :

No. That is not standard. And it doesn't seem fair either.

J.Hazelbaker :

Having said that, it sounds like it is getting the cart before the horse. At this point, it is unclear how valuable your intellectual property and rainmaking skills are. They could, ultimately, be more valuable than the initial investment. I would table this issue until when/if your revenue and growth develop more and your respective contributions can be more appropriately valued. If the idea/IP turns out to be marketable and you turn out to be a deal closer, then the more leverage you will have. At this point, they have the leverage because they have the money. It is to your advantage to delay this issue, which is legitimate since your are just starting out.

J.Hazelbaker :

I see that you are offline. Please let me know, if you have follow-up questions.

JACUSTOMER-r8b6raa2- :

Just got back on - didn't realize I'd have a chance to interact real time. Give me a second to look at your reply. Thank you

J.Hazelbaker :

No problem. Take your time.

JACUSTOMER-r8b6raa2- :

Understood and its good advice. However, I think we need to have the LLC formed in order to go forward and it seems like we need to have the initial equity allocation figured out in order to set up the LLC and write the operating agreement. That said, we've developed and had vetted our five year projected financials and if we are at all successful, I am perfectly comfortable coming out of the first round with a 20%stake. My issue with the ESOP proposal is that I think any dilution of original equity (whether from allocating shares to an ESOP or a second round of financing) should be shared among all three owners. If that is a fairly common arrangement then knowing that it is will allow me to be more comfortable advocating for it with my partners. Thoughts?

JACUSTOMER-r8b6raa2- :

Also, I am new to justanswer - please feel free to let me know if I am going beyond the level of information that is usually provided in this system. Thank you.

J.Hazelbaker :

You are fine.

J.Hazelbaker :

I agree the LLC formation and 80/20 split is reasonable.

J.Hazelbaker :

I think it is premature to discuss an ESOP at this time.

J.Hazelbaker :

It is to your disadvantage

J.Hazelbaker :

The taking it out of your 20% share is not standard

J.Hazelbaker :

It may be acceptable, but only:

J.Hazelbaker :

1) if an ESOP becomes appropriate, and

J.Hazelbaker :

2) if you have more data to value your intangible contributions vis-a-vis their tangible (and easily measured) contributions.

JACUSTOMER-r8b6raa2- :

I think you're right - deferring discussion of an ESOP is the best idea for now. There isn't either a need for one at the outset and trying to define the terms of one now would be to my disadvantage. I expect the partner who raised this issue will be open to deferring it until there is an opportunity to see who has really brought what to the table rather than who might bring what ...

JACUSTOMER-r8b6raa2- :

This has been very helpful. I'm on the subscription plan with justanswer and so have the opportunity to ask additional separate questions later. Is there a way to direct them to you if/when I do?

J.Hazelbaker :

I'm glad. You can either restart this thread by posting a new reply after you Accept. Or start a new thread and you will have an option to request me (or any other expert).

J.Hazelbaker :

Again, thanks for giving JustAnswer a try. I wish you success in your new venture!

JACUSTOMER-r8b6raa2- :

Thanks - I didn't see an option to request a particular expert when I started the thread, so not sure how to do that.

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