A question that we hear often from our new and prospective clients is: how many shares should a corporation authorize and issue?
Before we answer that, let’s quickly review some terminology. The term “authorized shares” refers to the maximum number of shares that a corporation is allowed to issue. The number of authorized shares is set forth in the articles of incorporation. The term “issued shares,” on the other hand, is simply the number of authorized shares that the company has actually issued to shareholders.
A corporation doesn’t have to issue all of the shares it authorizes. For example, the company can authorize 100 shares of stock, but choose to issue only 24 of them—all to Stockholder X. Later, the corporation can decide to issue an additional 6 shares, this time to Stockholder Y. The end result would be that the corporation has authorized 100 shares, of which 30 are issued and outstanding. Stockholder X would own 80% of the company, while Stockholder Y would own the other 20%.
So with that said, how many shares should a new corporation authorize? The answer: it depends. But we generally recommend for our clients to authorize 10 to 20 million shares. The main reason for this is that authorizing a large number of shares gives you two things: (i) room to issue enough stock to the founders while also leaving plenty of shares in reserve for the company’s future growth, and (ii) flexibility in determining how to distribute shares among the shareholders.
And how many shares should the corporation actually issue? Again, it depends—this time mostly on whether the founders think the corporation will have more shareholders in the future. If the answer is no, then the corporation will generally issue all of its authorized shares to the founders. But if the answer is yes, then we typically recommend that the founders issue 51% – 80% of the shares to themselves, and reserve the remainder for later issuance (i.e., for future investors and/or an equity incentive pool).
Note that this discussion pertains to California corporations. In some other states, such as Delaware, the number of authorized shares can have a big effect on the company’s annual tax liability.
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