20.10.2017 - Read in 6 min.
How to split equity among co-founders?
20.10.2017 - Read in 6 min.
Money… Money has always been a complicated factor that has been the cause of thousands if not millions of conflicts all over the world (maybe even other worlds, you can’t possibly know, right?). And starting a business is no exception. There’s no chance that starting your own company will be a conflict-free experience, especially if you’re not going solo but with co-founders.
And so, the moment comes when you have to decide what are the responsibilities for you and your co-founding colleagues. Who will do what? How to split equity among co-founders? What would a fair split look like? Should it be 50/50?
There could be hundreds of different questions which would make it even harder to make a decision. Especially if we’re teaming up with our friends or family.
To answer at least some of those questions, I met with Tomasz Popów, co-founder at RST LIFT-OFF Startup Accelerator, and we discussed a few possible situations. Let’s get to the business.
Question no. 1
The person who delivers results gets more equity?
Imagine a situation: you decide to go all-in, quit your full-time job, and allocate all your time and effort, maybe even money, into starting your dream business. You go to a local meetup for entrepreneurs, meet someone who likes your idea and is willing to cooperate with you and become a co-founder. But, they’re not going to quit their job and will work part-time. What do you do?
It’s quite simple: if one of you works more and dedicates more time and effort – they deserve more. To regulate this kind of situation you should think about signing vesting. What that is and how to use it, I will cover later in this article.
Question no. 2
The one who came up with the idea should have more equity?
This one is pretty simple. Gary Vaynerchuk once said, “Ideas are shit without execution” and that’s pretty much it. If you can’t turn your idea into reality – it has no value. For that reason, it doesn’t matter who came up with the idea.
Question no. 3
I’m a founder with a sales/marketing background but I want to create an app. Should I give more equity to my CTO co-founder because he has the knowledge needed to actually build the app?
This situation is quite common nowadays. IT people often tend to believe that they deserve much more because without them the product wouldn’t appear out of nothing. But the app itself doesn’t guarantee success. There are a lot of apps out there. Actually, according to statistics from PocketGamer.biz, only in 2016 alone there were more than 900k apps submitted to the iTunes App Store. How many of them are actually used and reached at least mild success? The answer is pretty obvious and leads to one very important conclusion: if you’re not capable of selling and marketing your product – it may become nearly impossible to succeed. And for that reason, even though you may not see a huge impact of your actions in the very beginning and you might think that the CTO does a lot more, don’t fall into the trap.
Question no. 4
Maybe I should not split anything with anyone and just go solo?
Even though it might work for some people, it’s recommended to find yourself one or two co-founders. Building a business is a very stressful process, not only business-wise, but also when social life comes into play. When you see your friends getting promotions in their corpo jobs, getting married, having kids and here you are spending most of your time building something you have no proof will ever work out, in the end, it might be pretty overwhelming. It may get worse if and when your family will start to point this out to you.
If you’re not mentally prepared to handle this, the chances of you giving up grow rapidly. The first 2-3 years are crucial for the startup. And that’s when having a co-founder(s) will help.
One of the most known accelerators, Y Combinator, says it pretty explicitly in their FAQ that they’re 10 times more likely to invest in a couple of co-founders rather than in a solo founder because doing startups is a tough task.
Question no. 5
What if I and my co-founder are both from sales backgrounds? How should we split?
Don’t. Don’t split and don’t become co-founders. Your founding team should consist of people with different skill sets and competencies.
Question no. 6
Does more equity equal more motivation? If yes, should we split equity 50/50?
Yes, it is true that more equity means more motivation, especially if you and your co-founder(s) work full-time on your startup. For that reason, it’s much better to split equity equally. It doesn’t have to be 50/50, it might be 42 and 58 but it has to be more or less similar.
Question no. 7
After you’ve decided how to split equity in your startup, it’s very important to plan ahead for any future changes in commitment. What if after a few months of hard work suddenly your co-founder decides he doesn’t want to work on the project anymore and quits? He leaves and yet he still has a 42% stake in your company. What are you going to do in a situation like this?
Don’t worry, there’s a solution. It’s called “vesting”. Vesting is a type of contract, in our case between co-founder(s), which regulates how the split occurs. It’ll be easier to explain using a brief example.
Let’s imagine a situation when both you and your co-founder want to feel secure, that you will work on your startup and no one will leave the other one to deal with it, while keeping their shares. You sign 24-months vesting which states that you won’t get any shares during the first 6 months. If you successfully go through this period, you’ll get your first 6% of the company. From that point on, you will each get an additional percentage every month until the vesting period ends, let’s say 2% per month.
That’s vesting in a nutshell. Of course, the conditions can vary, but the idea stays the same.
Tomasz’s personal favorite is a bit tweaked version of the above example in which you don’t get your 6% after the 6 months period but at the end of 24 months.
Question no. 8
How many shares should I give to investors?
First and foremost, remember to not look for one big round of funding and give a vast amount of shares to a single investor or a VC. It’s better to have 3 smaller rounds and give smaller parts of the company to different people. When looking for a seed round, don’t give away more than 20% of the company, try to go for a 15% as a perfect deal. And if you’re a B2B SaaS startup, start looking for investment only after you’ve reached 100k ARR (Annual Run Rate).
Question no. 9
I have a very loyal employee that worked with me from the very beginning, but they are not my co-founders. Should I consider giving them any part of the company?
When it comes to employees, make sure you have around 10% of the company shares reserved for the key ones. And I don’t mean your secretary but people who did bring a lot of value into the company. It’s not necessarily the very first employee of yours, but if they did a lot for the business to prosper then, of course, it’s a good idea to give them a small percentage of company shares. As I mentioned earlier, it is a great way to motivate an employee, since the person’s share value will grow only if the company grows.
Here’s a TL;DR summary:
- Rule 1) Try to split as equaly and fairly as possible
- Rule 2) Don’t take on more than 2 co-founders
- Rule 3) Your co-founders should complement your competencies, not copy them
- Rule 4) Use vesting. Always.
- Rule 5) Keep 10% of the company for the most important employees
- Rule 6) Don’t start looking for funding too early (if you’re a B2B SaaS, start only after your ARR (Annual Run Rate) reaches 100k)
- Rule 7) It’s better to get 3 smaller funding rounds rather than 1 big one
- Rule 8) When looking for a seed round, don’t give away more than 20% of the company, aim for 15% as a perfect deal.
I hope we answered some questions you might have had about splitting equity among co-founders.