Set your option pool at 10% to 15% of your fully diluted shares at incorporation, sized to the hires you expect before your first priced round. State every equity offer as a number of shares, not a percentage. A bigger pool isn’t free. Unallocated pool shares count toward the pool investors require at your seed or Series A, so the cost of the pool falls on the founders either way.
Key takeaways
- Size the pool to your hiring plan, not to a round number.
- Put share counts in offer letters. A percentage means different things depending on what you divide by.
- At a priced round, investors set the pool size in the term sheet, and the founders absorb that dilution.
- Before granting options, you need a board-adopted plan, stockholder approval and a 409A valuation.
Three numbers to know
- Authorized shares: the maximum number the charter allows the company to issue.
- Outstanding shares: shares actually issued and held by someone.
- Fully diluted shares: outstanding shares plus every option, warrant and unallocated pool share, as if all of them were issued.
Offer letters and term sheets almost always mean “fully diluted.”
How big should the pool be at incorporation?
Almost every startup we’ve set up has landed between 10% and 20%. Within that range, size it to your hiring plan: how many people you’ll hire before your first priced round, and how much equity each will get. Our default:
- 10% if it’s the founding team with no near-term hires
- 15% if you plan to hire 3 to 5 people before a priced round
- 20% only if you’ll hire aggressively before raising
The pool can cover restricted stock as well as options. Very early hires often receive restricted stock at par before the company has a 409A valuation.
Why does the pool size change what “1%” means?
Take Gregarious Games, Inc., with 10 million shares fully diluted. The founders hold everything outside the pool. Their first hire, Kiera, is offered “1% fully diluted,” which is 100,000 shares. Here is what that 1% looks like against the shares actually outstanding:
| 10% pool | 15% pool | 20% pool | |
| Founders’ shares | 9,000,000 | 8,500,000 | 8,000,000 |
| Unallocated pool | 1,000,000 | 1,500,000 | 2,000,000 |
| Kiera’s grant (1% fully diluted) | 100,000 | 100,000 | 100,000 |
| Kiera’s share of outstanding stock | 1.10% (100,000 ÷ 9,100,000) | 1.16% (100,000 ÷ 8,600,000) | 1.23% (100,000 ÷ 8,100,000) |
The difference matters in two places:
- Voting. Stockholder votes count outstanding shares, not unissued pool shares.
- A sale. Unallocated pool shares are often cancelled in an acquisition, and then the proceeds follow outstanding shares. With a 20% pool, Kiera would get about 12% more than with a 10% pool, and the founders correspondingly less.
Why should offers use shares, not percentages?
A percentage depends on what you divide by, and the denominator changes every time you grant equity or raise money. A share count doesn’t change. Write offers like this:
“You’ll receive an option to purchase 80,000 shares of common stock, subject to board approval, at an exercise price equal to fair market value on the grant date. As of [date], the company has 8,000,000 shares outstanding and 10,000,000 shares on a fully diluted basis.”
Giving both denominators lets the candidate work out the percentage on either basis, and it leaves no room for disagreement later. See Why Use Exact Share Numbers, Not Percentages.
How does the pool change at a financing?
Investors set the pool size in the term sheet, usually in the valuation term:
“…a fully diluted pre-money valuation of $X (which pre-money valuation shall include an unallocated and uncommitted employee option pool representing Y% of the fully diluted post-money capitalization)…”
This means the pool must equal Y% of the company after the round closes, and any increase is created before the new money comes in. The new investors aren’t diluted by it. The existing holders, mostly the founders, are. The bigger the required pool, the lower your effective valuation. See Negotiating an Option Pool.
An example. An investor puts in $2 million at an $8 million pre-money valuation and requires a 10% pool after closing. The company is worth $10 million post-money, so the pool must be worth $1 million at the deal price. Because the pool comes out of the pre-money, the founders’ existing shares are effectively valued at $7 million, not $8 million.
Does a big pool at incorporation help? Not really. Unallocated shares already in your pool count toward the investors’ target, so you need to add less at the round. But you gave up those shares at incorporation. A big pool moves founder dilution earlier rather than avoiding it.
What size will investors ask for? Seed and Series A term sheets commonly target a post-money pool of around 10%, sized to the hiring plan through the next round. Build a hire-by-hire option budget through the next round: each role, when you’ll hire, and the grant size. Add it up and propose that total as the pool. A smaller pool can be worth more to founders than a higher headline valuation.
How do I add shares to the pool later?
The board approves the increase, and stockholders generally approve it too (they must, if the new shares are to be eligible for ISOs). If the charter doesn’t authorize enough shares, it has to be amended first, which also needs stockholder approval. Most companies top up the pool as part of each financing.
What do I need before granting from the pool?
- A stock plan (an equity incentive plan) adopted by the board. Reserving shares in the charter isn’t enough on its own. See Employee Stock Option Plan (ESOP) for Startups.
- Stockholder approval of the plan, within 12 months of board adoption if you want to grant ISOs.
- A 409A valuation before granting options, so the exercise price is set at fair market value. See 409A Valuations.
- Board approval of each grant, dated on or before the grant date.
Related: How Many Shares Should a Startup Have? · NSO vs ISO · Negotiating an Option Pool
