padlockA restricted stock purchase agreement is common among startups and ventures, but many founders wonder why it is used, its advantages, and disadvantages. Here’s a quick guide that provides an overview.

What Is A Restricted Stock Purchase Agreement?
A restricted stock purchase agreement often comes up during the course of issuing stock to the new owners of the startup. Stocks and shares in a new entity can be simply issued to the new shareholders, or they can be issued subject to a written agreement. A restricted stock purchase agreement is a type of written agreement that places restrictions on the stockholder’s rights with respect to the shares being issued.  The restrictions generally restrict selling, transferring, etc. of the shares and grant a series of rights in favor of the Company to buyback shares, exercise a right of first refusal, and others.

Practical Uses in Investor-Backed Ventures
RSPAs are often used with founders and founders’ shares in investor-backed ventures for a number of reasons.  Importantly, with respect to investor-backed ventures for which the goal of the startup is to eventually head towards an IPO, investors generally want to see the founders’ shares to the founders being taken in a manner that preserves the company’s ability to take action if things are not working out with the founder.  It is often hard for founders to separate themselves from the company, especially since  the founders are the company, at least at the beginning. But angels, investors, and venture capital firms rarely feel the same way about a company that the founders do – it is an income vehicle, like any other, and not a lifelong passion, dream, or pursuit as it may  be for the founders.  From and investor perspective, not all founders make good CEOs, and there may be circumstances in which the company and the founders have to eventually part ways. That is where the restricted stock purchase agreement comes in – it’s the equivalent of a prenuptial agreement between the founders and the company.

Common Terms, Rights, and Restrictions
RSPAs tend to involve similar types of provisions, and below is an overview of what founders are typically asked to commit to. As with all things in the startups & ventures industry, there are no black/white rules, and instead, many gray areas that are the result of what an investor is and isn’t willing to agree to, so some of these issues may not even come up, especially if the founders are not following the conventions for investor-backed ventures. Some startups, for example, are businesses that the founders want to run for life – regardless of whether investors can be found or not.

  • Vesting. Investor-backed ventures typically ask that the founders take stock subject to an RSPA that contains a vesting schedule.  Vesting spreads out the ownership of the stock in the founder over time, so that the founder takes shares over a 3 or 4 year period of time. From the investors’ standpoint, this prevents  a situation whereby the founder owns his/her shares, gets a huge investment, and then quits, keeping all of the shares as their own. When a vesting schedule is used, the shares being issued to the founders “vest” over a period of time.
  • Right to Repurchase. An RSPA will typically allow the Company to buyback shares from the founder through a repurchase option. The repurchase option can be triggered by a number of events, including the founder being fired or force to quit.
  • Single / Double Trigger Acceleration. These provisions refer to a right that the founder retains to “accelerate” the founders’ vesting and ownership in shares in the event the founder is fired without cause, or if there is a change in control of the company that results in the ousting of the executive.

AXIS Legal Counsel has helped advise numerous entrepreneurs, founders, and business owners about starting their own businesses and dealing with legal issues that arise after the business has been formed.  AXIS can assist with startup formations, contracts, deals, and transactions, business administration, corporate governance, operations, risk management / insurancelabor/employment matters, intellectual property, healthcare, crisis management, directors/officers, private/data security, technology, statutory/legal compliance, and business litigation. AXIS represents California and Delaware startups,  Corporations, LLPs, LLCs, Partnerships, Small Business, Startups, and other business matters involving corporate law.

For information on retaining AXIS Legal Counsel to represent your startup or business  in connection with any legal matter, contact or call (213) 403-0130 for a confidential consultation. Axis’ managing attorney Rabeh M. A. Soofi is ranked as one of the “Top Women Lawyers of Southern California” by SuperLawyers Rising Stars, and represents businesses and start-ups throughout Los Angeles and California.

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