Posts Tagged ‘founders’

Issues with Equity Misalignment

Q: In our startup we have 4 founders, two of whom are not full time.  We’ve all put in a good sum of cash thus far.  The two founders with the least equity happen to be the two tech founders.  Some of us feel that we made a mistake when allocating shares in the beginning – there is one founder in particular who does not do any work, and he has the second-most equity (the split goes like this: 32%, 26%, 10%, 7.5% with the rest for employees + advisors).  To me, it seems like any outsider would see this as a big disparity and wonder what happened, but one of our guys (Mr. 32%) seems to think that if we can get funding, the VC will correct this wrong.  I’m rather doubtful of that – what VC will want to fund a team that didn’t have the foresight to motivate the biggest contributors and keep them interested?  I’m looking to convince him that we need to fix our own mistakes before pursuing funding.  Am I off base?

A (Brad): You aren’t off base. Furthermore, this is a common problem and one of the reasons I strongly encourage every founding team to have four year vesting on their stock.

While some founders thinks this simply gives future investors a way to claw back equity in the future, it’s much more often the case that this protects the founders from each other, in cases like this or situations where one of the founders simply leaves.

In your case, you feel like the 32% founder doesn’t do any work. If your other two founders believe this also, the three of you should directly confront Mr. 32% right now. Don’t wait, don’t defer, don’t let more time pass. Deal with the issue – up front and directly. It’s an easy thing to solve – if you all agree (including him) that he should only have 15% of the company, then he can simply forgive (or give back – the mechanism will depend on how the company is structured) 17% of his equity. Then, each of you will end up with an increase of your pro-rata percentage of his equity.

If you have equity alignments early in your company, deal with them. Don’t let them fester.

Does Being The First Full-Time Paid Employee Affect That Founder’s Equity In The Company?

Question: I am one of three founders of a company.  Up until now we have been bootstrapping the company from our own funds and working part time on the company while having full time jobs.   However, we are now looking to raise some private funding and one of us will be transitioning to the first full time paid employee of the company.   The question is, does being the first full-time paid employee affect that founder’s equity in the company?     I can see two sides to this issue.  The first is the founders that are not yet paid employees would think that the other is  getting paid so FTE’s equity should decrease.  The second is the found that is now a paid employee is putting themselves at higher risk as they left there prior job to go fulltime at the new company.    How have you seen this structured in the past?

You do an excellent job of looking at both sides of the question. While the founder who is working full time for the company is getting paid and the other founders are not, the other founders presumably are still getting paid from the day jobs.

Usually in these kinds of situations, the comp being paid is (or should be) modest – just enough so the full time founder can cover his basic living expenses. Assuming this is the case, I think you can comfortably separate out the equity as a separate concept. Specifically, whatever the equity splits are separate from the compensation should remain.

Now, the full time founder could make the argument that he should get more equity since he’s working full time for the company but the other two founders aren’t. This is a stronger argument if the founder working for the company isn’t drawing a salary.

Of course, the equity doesn’t necessarily have to be split three ways between the founders. However, if you can separate the compensation from the actual equity splits, you can usually have a more rational conversation.

Regardless, it’s never easy. Just have the direct conversation and keep working through it openly until you get to a happy place. If you can’t reach a consensus among the three of you, then you will have bigger problems down the road.