Most startups begin with founders splitting the shares on day one. It feels fair at the time. Everyone is committed, everyone is working long hours and nobody expects to leave.
Then, a year or two later, one co-founder steps away. They may have taken a job elsewhere, fallen out with the team or simply lost interest. If they still hold a third of the company, the people who keep building it are now working partly for someone who no longer contributes. Investors notice this quickly, and many will not invest until it is fixed.
Founder vesting and leaver provisions are the tools that deal with this risk in advance. This article explains how they work in South Africa, how recent changes to the Companies Act affect them, and what founders should agree before it becomes a dispute.
What founder vesting means
Vesting means that a founder earns full ownership of their shares over time, rather than all at once. A common pattern is a four-year period with a one-year “cliff”: nothing vests in the first year, a quarter vests at the end of it, and the rest vests monthly or quarterly after that. Some agreements also accelerate vesting if the company is sold.
In South Africa, vesting is usually structured in one of two ways:
- Reverse vesting. The founder receives all their shares upfront, but the company or the other shareholders have the right to buy back the “unvested” portion if the founder leaves early, usually at a low or nominal price.
- Staged issue. The founder receives shares in tranches as milestones or time periods are met, or receives shares that are only treated as fully paid as they render services.
Reverse vesting is the more common approach for founders, because it gives them voting and economic rights from the start and keeps the share register simple.
Shares for future services: the 2024 Companies Act change
Section 40 of the Companies Act 71 of 2008 governs the consideration a company must receive for issuing shares. Where shares are issued in exchange for future services, a future payment or an instrument whose value cannot be realised immediately, the company is not treated as having received the consideration until the services are performed or the value is actually received.
Under the original wording, shares issued in these circumstances had to be transferred to a third party to be held “in trust” until the consideration was received. This caused uncertainty about whether a formal trust was required. Amendments that took effect in December 2024 replaced that concept with a stakeholder arrangement: an independent stakeholder holds the shares under a written agreement with the company and transfers them once the conditions are met. Commentators have noted that these provisions are not available to JSE-listed companies.
For startups, this gives clearer statutory support for “sweat equity” structures where a founder or early team member earns shares by working. It also means the stakeholder agreement, the shareholders’ agreement and the board resolutions must be properly aligned.
Good leavers and bad leavers
Leaver provisions decide what happens to a founder’s shares when they stop working in the business. The usual approach is to distinguish between two categories.
- Good leavers typically include founders who leave because of death, permanent disability, retrenchment or dismissal without cause, and sometimes those who resign after a minimum period. A good leaver often keeps their vested shares and may be paid fair market value for any shares they must sell.
- Bad leavers typically include founders dismissed for misconduct, those who breach a restraint or confidentiality obligation, and sometimes those who resign within an early period. A bad leaver may have to sell some or all of their shares at a discount, at par value or at the lower of cost and market value.
The definitions matter far more than the labels. A vague clause such as “leaves in circumstances that are detrimental to the company” invites a dispute. Clear, objective triggers are easier to apply and harder to challenge.
Will a court enforce a bad leaver discount?
Founders who are forced to sell at a steep discount sometimes argue that the clause is a penalty. The Conventional Penalties Act 15 of 1962 allows a court to reduce a penalty or forfeiture stipulation that is out of proportion to the prejudice actually suffered. Whether a particular leaver clause falls within the Act depends on how it is framed. A price mechanism that reflects the value the founder has genuinely earned is easier to defend than a clause that operates as a punishment for leaving.
A restraint linked to a bad leaver clause must also be reasonable. Restraints are generally enforceable in South Africa unless the person bound by them shows that they are unreasonable, but courts will look at the scope, duration and area involved.
Company law and tax points to get right
Buy-backs. If the company itself buys back the leaver’s shares, it must comply with section 48 of the Companies Act and the solvency and liquidity test in section 4. A cash-poor startup may not be able to pass that test, so agreements often allow the other shareholders or a nominee to buy instead.
The MOI and pre-emptive rights. The memorandum of incorporation should not conflict with the leaver mechanism. If it gives all shareholders pre-emptive rights on a transfer, the sequence of offers needs to be spelt out.
Tax. Where a founder is also an employee or director, shares that are subject to restrictions can fall within section 8C of the Income Tax Act 58 of 1962. In broad terms, that section can result in the gain on vesting being taxed as income rather than as a capital gain. The tax consequences of the structure should be checked with a tax adviser before the shares are issued, not after.
A practical checklist for founders
- Agree vesting early. It is much easier to agree on vesting when all founders are committed than after someone has started to disengage.
- Choose the structure. Decide between reverse vesting and a staged issue, and make sure the section 40 requirements are met if shares are issued for future services.
- Set the schedule. Agree the vesting period, any cliff, and whether vesting accelerates on a sale of the company.
- Define the leaver categories clearly. Use objective triggers and deal with grey areas such as resignation after a few years or ill health.
- Fix the price formula. State how fair value is determined, who decides, and what the discount is for bad leavers.
- Identify the buyer and the money. Decide whether the company, the other founders or a nominee will buy, and how it will be funded.
- Align the documents. The shareholders’ agreement, MOI, employment or service contracts and any stakeholder agreement should all say the same thing.
- Take tax advice. Check the section 8C position and any capital gains tax implications for each founder.
How O’Reilly Law can help
We advise founders and early-stage companies on shareholders’ agreements, founder vesting and leaver provisions, sweat equity under section 40 of the Companies Act, and the MOI changes needed to support them. We also act when a founder leaves and the parties disagree about the shares, and we work with tax advisers on the structuring.
Contact us to put founder vesting in place before your next funding round.
Related reading: Founders’ agreements: what co-founders should agree early · Your startup’s first 90 days: the legal and compliance checklist
This article is general information and not legal or tax advice. Correct as at November 2026.