Reservation of common stock: Overview, definition, and example
What is reservation of common stock?
Reservation of common stock refers to the practice of setting aside or allocating a certain number of shares of a company’s common stock for future issuance, often as part of an agreement, such as in a stock option plan, private placement, or as a contingency for future investments. This reserved stock is typically not available for public trading but is held by the company to be issued when certain conditions are met, such as when stock options are exercised or when the company issues shares to new investors or employees.
For example, a company might reserve 500,000 shares of common stock to offer to employees under its stock option plan, allowing them to purchase the stock at a set price in the future.
Why is reservation of common stock important?
The reservation of common stock is important because it helps companies plan for future capital needs, employee compensation, or other strategic initiatives without needing to immediately issue new shares. By reserving stock in advance, businesses can manage their share structure more efficiently, ensuring that they have enough shares available for various purposes, such as raising capital, rewarding employees, or making acquisitions.
For businesses, reserving stock can be part of a broader strategy to attract and retain talent, raise funds, or ensure they are prepared for future growth opportunities without diluting the value of existing shares immediately.
Understanding reservation of common stock through an example
Imagine a startup company that is preparing for rapid growth and wants to incentivize its employees with stock options. The company reserves 1,000,000 shares of common stock for this purpose. As employees meet performance milestones or after certain periods of employment, they can exercise their stock options and purchase shares at a discounted price. The company has already set aside these shares, making them available for issuance when the options are exercised.
In another example, a company might reserve common stock in preparation for an upcoming private offering to raise capital. The company decides to reserve 250,000 shares for this offering to investors, ensuring the shares are available when the offering takes place.
An example of a reservation of common stock clause
Here’s how a reservation of common stock clause might look in a contract:
“The Company agrees to reserve [Insert Number] shares of its common stock for future issuance under its Employee Stock Option Plan. These reserved shares will be made available for issuance to employees, directors, or other individuals as determined by the Board, subject to the terms and conditions of the Plan.”
Conclusion
Reservation of common stock is a strategic tool for companies to manage their share structure and plan for future needs, such as employee compensation, capital raising, or acquisitions. By reserving shares in advance, businesses can ensure they have the necessary stock available when needed, without immediate dilution of existing shares.
For businesses, clearly reserving common stock can help attract investors and talent while maintaining control over the company’s equity structure. For shareholders, understanding the reserved shares can provide clarity on how future stock issuance may impact ownership and share value.
This article contains general legal information and does not contain legal advice. Cobrief is not a law firm or a substitute for an attorney or law firm. The law is complex and changes often. For legal advice, please ask a lawyer.