Meaning
A contractual mechanism that reduces the repurchase price of a departing shareholder’s equity when their departure meets specified negative criteria. The bad leaver discount occurs most frequently during the early stages of corporate growth when key participants leave the firm under hostile conditions or before an agreed milestone. This penalty helps protect the remaining team from the disruption of a sudden exit.
Financial Consequence
Legal agreements specify the exact events that trigger the application of this valuation reduction, which can range from termination for material breach of duty to joining a competitor. Under a typical bad leaver discount, the company holds the right to reclaim shares at a fraction of their fair market value, often down to nominal value. This clawback demands immense personal sacrifices from the departing founder in terms of uncompensated effort and lost equity value.
Equity Recapture
Board members execute the purchase using a formal company resolution to complete the transaction. Capital returns to the treasury or is distributed among the remaining founders to restore the cap table. This process minimizes the dilution for the active participants who continue to dedicate their attention and energy to the business.
Valuation Adjustment
Shareholders must acknowledge the long-term impact of these penalty terms on their financial security. When a bad leaver discount is applied, it permanently removes the exit value of the departing individual. The remaining board members retain full discretion.
