Equity · Startups

How much equity to give a new team member in a startup?


May 24th, 2016

I want to describe my situation and get your thoughts - as many as possible - on what is a fair offer to a new team member in a startup.

I started my company a year and a half ago of which I am CEO. During that time:
+ I brought in a CTO and a full-time developer to build version 1.0 of a platform - the CTO put in 5 months of unpaid sweaty equity, and the full-time developer 10 months
+ Put together a world-class advisory board includign well-known names, and brought in a head of BD with deep connections with truly major investors
+ Put in $70,000 of my own money, brought in $25,000 from an angel
+ Launched the scalable platform with various partners 
+ Got some modest/moderate success which led us to realize I need to expand the offering (the expanded offering uses the technology we built and adds to it additional features)

I am considering bringing on board a good friend of mine who's deeply knowledgeable in the industry. He has past experience fundraising as well, and would own fundraising for our second round. He'd start as COO with - if he does well - become CEO. He's been part of the discussions to expand our product offering. 

Few questions (would love your thoughts on):
+ How much equity is fair to give him (e.g., X% of company)? 
+ Should there be vesting? If so, how long?

Obviously, there's different viewpoints but would like to know what you'd think is fair. Thanks for your thoughts! The more the better.

Alex Chan Co-Founder at DataNovo, Inc.

May 24th, 2016

Not to get overly mathematical, but there's a formula that you might be able to use as a starting point. If "X" is the average outcome for the company with the addition of this friend of yours, then he is worth "Y" such that X = 1/(1 - Y). For the company, this translates into Y = (X - 1)/X.

In your case, if you feel that his tenure and contribution would increase the average outcome of the whole company by 20% ("X"), then Y is (1.2 - 1)/1.2 = .167. So you'd break even if you trade 16.7% of the company's equity for him.

It's very difficult to make any assessment without knowing whether he is being brought in as a co-founder and whether he's being compensated financially. If he is for both, then you should up the ante. If you are recruiting him as one of the first employees, a different set of rules governs. Generally, you try to strike a balance between his compensation and his equity. Higher compensation means lesser risk, which yields lower equity (and vice versa).

"Standard" vesting is 4-year vest with 1 year cliff, as Nick has succinctly stated. I would not recommend deviating from this standard unless you have a reasonable justification.

As a side note, most early-stage startups do not go out and recruit COO. Hiring an experienced, full-time COO may cost you more than you pay yourself. Are you willing to make the financial sacrifice? Can you realistically forecast additional revenues you'll gain from the decision? Put another way, will hiring the COO free up enough of your time that you can focus on generating additional sales or raising capital for the company? Or will product quality improve as a result of the new COO that will in turn improve client retention and repeat business? Maybe that you are better able to control costs because the new COO will be accountable to do so? If your responses contain more than 2 maybe's, I'd reconsider and not recruit one at this time. Maybe's, unpredictability, and unforeseeability are key recipes to disaster.  So avoid them at all cost. 

Until you can answer these questions for yourself with great certainties, it would be unwise to invest your time to recruit, hire, and train a full-time COO for your company. Instead, you might want to consider hiring one on a part-time basis-perhaps some random John Doe or Jane Smith with relevant work experience or a retired executive-to test whether your decision makes the most economical sense.

Richard Benkendorf Managing Partner Technology Impact Partners

May 25th, 2016

make it performance based​

John Barley Insurance Broker | Risk Management Expert | Organisational Health Coach

May 24th, 2016

I have been told that you should never do or go into business with a friend . If it all goes pear shaped 1) you loose a friend 2) it gets really really ugly .

If you wish to have a partner it may be prudent to find a person or persons that add real value and can be a contrast to yourself but you need that person to provide a balance.

Furthermore if you keep friendships out of the equation then you not being swayed by the heart and more from the point of logic and thus your questions resolve themselves    

Mike Moyer

May 25th, 2016

This is a simple problem. Use the Slicing Pie model. Slicing Pie provides a formula for creating a perfectly fair split based on each person's contributions.

Think of a startup as a game of Blackjack. You and I each bet $1 on the same hand and agree to split the winnings 50/50. This makes sense. We each bet half of the total bet.

The dealer deals two aces, we weren't expecting that, but we want to take advantage of the opportunity. So we split the aces and double down...but I'm broke so you put in $2 more.

Now you've bet $3 and I've bet $1. Does the 50/50 split still seem fair? Probably not. 75/25 is much more logical.

Your share of the winnings should equal your share of the bets placed.

Your startup is no different. When a person contributes to a company and is not paid for their contribution they are, in effect, betting on the startup. The company's profits are the winnings.

The value of each person's bet is based on the fair market value of the contributions they make.

- You have bet 1.5 years of your time (doing what you do best) and $70K in cash
- Your advisors have bet some of their time
- An angel has bet $25K in cash

In the future you will all continue to bet time and money and new people (like your friend) will join the company and bet time and money.

Eventually, you will generate enough revenue so that you don't need to invest your own money and you can pay everyone for their time.

At this point, you can easily see what was contributed. This will serve as the basis for your equity split.

This model is described, in detail, in my books and you may have a copy of one if you contact me through SlicingPie.com

Any other method you choose is  going to lead you down the wrong path.

Think back to the game of Blackjack. Pretend we win the split hand and it's time to split up the money. Is it fair for me to ask for 50%? We agreed to it, after all. But wouldn't you feel at least a little ripped off? Most equity deals end this way.

Don't let it happen to  you.

Use Slicing Pie.

Giles Crouch Digital Behavioural Economist | Speaker | Writer | Technology Strategist | on Twitter @Webconomist

June 3rd, 2016

Sounds like you also need to consider the equity the CTO and others need to receive as well. There is no true formula to calculate equity. Anyone who says there is has never been in the situation of when money is actually realized. All these conversations about equity are nice, until real money is put on the table. When actual investors come along, then things will get real. In a very greedy way. Just reality. So my view is, if it's your idea and you put cash in and time, you should have the majority share and ownership. While a COO (which is really just titleitis in a small biz) comes in late, but has done little to build the value, then the original crew deserve more equity. Having titles like CEO or COO in a company of just a few people is a bit silly to begin with. Focus more on actual contribution and less on titles.

Joseph Wang Chief Science Officer at Bitquant Research Laboratories

June 5th, 2016

I think the best approach would be not to start with percentage of the company and just start off with dollar figures.  How much money in hard cash do you think would be a fair compensation.  Once you have that number then you can put in the valuation of the company and then work back to figure out what a fair percentage of the company is.  This then requires you to figure out realistically what the company is actually worth.

One benefit for this is that you can figure out what a partial cash/partial equity compensation would look like.  A vesting schedule is pretty important otherwise he gets more compensation if he immediately quits, which doesn't sound like a good way of structuring things.

Nick Damiano Co-Founder & CEO at Zenflow

May 24th, 2016

Is he getting paid from the beginning? That's a very important consideration. I'm guessing not, or only minimally, since you don't have much money into the company. Something around 20% sounds right, but it also depends on how you split it initially with the two technical founders.

Always have vesting. Standard is 4 years with a one-year cliff.

Jonathon OBryan

May 24th, 2016

20% is way too much... But, would need to know how salable your product is, that is very important, when considering... How much revenue per year for the next 3 years, with this guy aboard is possible, then start running numbers, and the percentage will jump right up and smack you in the face, trust me... And it will be fair for both parties... Resolve this issue now, so you can continue your momentum, by all means don't let this splitting of equity be a major factor... win/win/win situation, is always best, the third win is the business itself!!!  Based on what I read, I believe you start at 5%, which is fair enough, this is assuming you earn 100k NET in sales per year... Just take action, and the answers come all on their own, like this format here...

Nick Damiano Co-Founder & CEO at Zenflow

May 24th, 2016

@Jonathon Assuming he's not getting paid, this is a co-founder. He's also a potential CEO who may be the most critical person in the company. From what he describes, this company is far from a slam dunk on product-market fit, and the overwhelming majority of the work lies ahead. Companies always make the mistake of overestimating what proportion of the work is behind them. They're frequently off by an order of magnitude. At 5% he would be getting absolutely fleeced. 

Jonathon OBryan

May 24th, 2016

They provided very little information on product or pricing, or fit for that matter, really hard to determine, but she could do a pre-investor evaluation on their business for free...  And I said 5% as a starting point, so many other factors to consider... Too many to mention as you probably agree...  I wish them luck, and much success!