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Class FF Stock
Series FF stock is yet another variation of founder’s stock that has characteristics similar to a preferred class of share. The FF stock was originated with the Founders Fund, as part of their investment deals. As with most startup ventures, the FF class has been employed in Delaware corporate charters. The most notable characteristics of the class FF share is that: 1) it can be converted into regular common shares at any time, and 2) may be converted into a later class of preferred shares at a future equity financing round. The conversion into preferred shares allows the founder the ability to liquidate her shares, which is generally not the case for shares held by early founders. The conversion right into preferred shares only arises in the event of follow-on financing at some future date. The founder may elect to convert the FF class shares as part of the equity financing. The shares convert into the new class of preferred share offered as part of that financing round. Similarly to preferred shares, there is a mandatory conversion clause that forces conversion of the shares into common shares upon certain events (such as company sale or IPO). There are additional limitations on the ability to convert the shares, as follows:
- The purchaser must pay the same price for the class FF share as she or other investors pay for the preferred class of share, and
- The board must approve the conversion, or
- A majority of the class FF shareholders must consent to the conversion.
Generally, the number of class FF shares that may be converted in any financing round is capped at a set percentage of the total shares issued in the equity financing round. If the above conditions are met, the new holder of the class FF shares has the conversion option.
Concerns with Class FF Stock
Creating a unique class of stock with varying rights creates numerous issues for the business. For example, the class FF shares, like other common shares, will be exchanged for value. If the shares are issued at formation then the valuation is simply the par value (as the business has no operations and little value). Once the business is funded or has operations generating revenue, the business has substantial value. The founders will have to pay the equivalent value for these shares, or they will be taxes on the reasonable value of the shares as compensation from the corporation. Further, the class FF shares may be difficult to value given their diverse features. The value is obviously greater than regular common stock thanks to the greater liquidity and control rights, but that difference may be difficult to establish. Establishing the class of stock is not as simple as copying the founder’s fund certificate of incorporation. It will require custom drafting in the bylaws, subscription agreement, and any shareholder agreements. The board may have reservations about allowing the conversion of their shares to preferred stock. It can send a negative message to potential investors and it does not introduce new funds into the company. Lastly, investors may cram down any class FF liquidity rights in later funding rounds. Pressure from investors may cause the founders to accept a modification of the rights afforded by the class FF shares.