> The founders should end up with about 50% of the company, total. Each of the next five layers should end up with about 10% of the company, split equally among everyone in the layer
> What happens if you raise an investment? The investment can come from anywhere... an angel, a VC, or someone's dad. Basically, the answer is simple: the investment just dilutes everyone.
He gets into more detail on specifics, e.g. vesting, early employees who don't take salary, and investors taking a large stake.
(The podcast gets more into the sort of problem that plagues unicorns, but let's be honest: This sort of problem won't affect more than a handful of people reading this, if even, and a situation that rare won't be covered by a podcast or stackexchange answer even by someone as special as Spolsky or Horowitz)
Under this "canonical" answer, ONE of those layers owns as much as the rest of the company combined. By some curious phenomenon, this outsized layer belongs to... the person who invented the scheme. What a twist!
Founders should own as much as every single other contributor and investor, combined?? They should keep several orders of magnitude more than all the other professionals that give years of their life, and make important decisions and breakthroughs? Only greed and self-importance justifies this outlook.
The company's first non-founder employee takes a HUGE risk. He joins when no one else has taken that leap of faith. He joins maybe a few weeks after the founders started up. He takes a huge financial hit, foregoing that fat salary and bonus of the established company. And without those first employees, there will not be enough product or progress to show, to recruit the next batch. Derek Sivers explains this best in his First Follower talk [0]. That employee's reward? A percent (if he's a good negotiator). Compared to the founders' 50%. How equitable!
Agreed, I don't know why anyone would come in as employee number 1 at a startup. You take a large portion of the risk with almost no upside. At least if your engineer number 20 your getting full salary and benefits and you have no delusions about your stock option value. I think Joel's post is not correct. Most people have to just discount all options to zero value
Before coming to this site I never realized how shafted employee number 1 gets at most startups.
I've worked with the same CTO as employee #1 at various startups for the last ~10 years. I generally get around 5%. The idea that people would take 1% or less sounds crazy to me. It's just not worth the hours and stress it involves that early on.
In return I earn about 33-50% less salary than what I probably could elsewhere. So far it's paid off for me. But if I got less than 1% instead I would be worse off for it.
Simple. Look at early Google and PayPal employees (Marissa Mayer, Dave McClure, Keith Rabois, Reid Hoffman, etc). They are kings in the valley right now. It's an irrational aspiration, but if you happen to lock in early at "the next big thing", the opportunity doors swing wide open.
Sergey and Larry had 30 BILLION dollars in stock on the day of IPO. Google made a lot of multi-millionaires, but the wild discrepancy between founder and non-founder equity was present there as well.
Yes but that doesn't take into account that startups are far more likely to hire someone in a growth/reach position. Yes the employee takes a risk, but in many cases the company is taking a risk hiring them as well. Joining a startup early isn't the best choice for everyone, but for someone looking for a new role, or significant responsibility growth, it can be a great opportunity to prove yourself that you otherwise wouldn't be offered at a bigger company.
Examples of this can range from someone coming out of a bootcamp into their first engineering position, or a senior engineer from a bigger company joining as CTO of a startup.
The company takes a risk on the employee. The employee takes a risk on the company.
When the company IS finally successful, it's due to EVERYONE's work. Not in equal amounts, certainly, but not at a ratio of 50-5000x from founders to every other individual.
> Not in equal amounts, certainly, but not at a ratio of 50-5000x from founders to every other individual.
I'm not sure I can agree with that statement. All I can say is that if you think you have a deal that isn't fair to you you should leave. But I can certainly imagine scenarios in which a founder contributes 50x more value than an early stage employee.
This is a nice way of saying the company can't/won't pay for some "ideal" candidate.
or significant responsibility growth
This is a nice way of saying "will be taken advantage of".
~
The issue I have taken with your stance is that it seems to presuppose some business that is automatically a big hit were it not for a potentially terrible hire, instead of a business that won't go anywhere without good execution by a team.
It's a subtle but important difference, and not recognizing that difference leads to treatment of employees as tools instead of (effectively) later-stage cofounders.
>This is a nice way of saying "will be taken advantage of".
Or it's a recognition that if you are serious about growing your career you need to do so by demonstrating you are capable of handling greater levels of responsibility. If you think you are being exploited then don't join the copmany. But the idea that more responsibility means more exploitation and that you don't gain anything from that is incredibly short-sighted.
> The issue I have taken with your stance is that it seems to presuppose some business that is automatically a big hit were it not for a potentially terrible hire, instead of a business that won't go anywhere without good execution by a team.
I don't agree that's my stance. If you've never run an engineering team and you get an opportunity to do so out a startup that fails, you've still gained from that experience significantly. The company paid a lot of money for you to make mistakes that you wont make when you go on to lead your next team. It's difficult to calculate the value of that, but it's absolutely real and it's why a lot of people transition to smaller companies in order to grow their careers.
Early employees (and I am one) are absolutely not later stage cofounders. My suggestion to people who are in a position where they feel like a later stage cofounder without the upside is to leave that position. I'm currently at a company where I absolutely know I could not do what the founder/CEO does, and I don't feel like the deal I got is exploitative at all despite having, of course, significantly less equity than the founder. YMMV.
Edit: to further clarify the last point: this company absolutely could have succeeded without me, it could not have succeeded without the founder and a few key hires. If you are joining a typical "lean startup" that is just some engineers who are trying to figure out a business, then yeah, sure, you are a fool to join as an early employee. If you are joining a business with a founder who deeply understands an industry and how to execute, then it's a completely different deal you are signing up for. Apples and oranges.
I'd argue that in many cases, employee #1 takes a much, much greater risk than the founders.
Now, before someone "disproves" my point by showing a counter-example, I'll admit this doesn't apply to all founders in all companies, but founders tend to have plenty of money to fall back on. That cushion is what allows them to be founders. If the business fails, well, kinda sucks for them--they potentially lost a chunk of it, but they're not homeless. They'll dream up the next idea and go at it again. Because they can afford to.
Employee #1 on the other hand, is working for a living. They're likely dependent on their employer. They're foregoing a more lucrative salary somewhere else, not to mention savings, 401k's, health insurance. They need to make rent next month. If the business fails, they're scrambling to find another job ASAP. Sure, in terms of "raw number of dollars", they're not risking as much as the founders, but in terms of financial security/stability, future earnings, and career growth, they're taking a huge risk. Shouldn't their reward be commensurate with this risk?
I was Employee #1 at thredup.com, which just raised $81 million at a $500 million valuation. I'm no longer with them (parted amicably), but I still have a bunch of stock there. At the time, I had it reviewed by a lawyer, but as a tech guy, I probably didn't get a great deal.
The CEO and CTO have not responded to any inquiries by me yet on what the current valuation of whatever I still own might be. I'm sure they're too busy growing the company :P
Totally disagree. Many VCs will limit founders' salaries to 100k or 120k or 150k. Many founders, esp the technology co-founder can easily earn 250k+ elsewhere. They are getting a larger slice of the equity because they are "investing" their paycut into the firm. They are founders, workers AND investors.
Totally disagree. Many VCs will limit founders' salaries to 100k or 120k or 150k. Many founders, esp the technology co-founder can easily earn 250k+ elsewhere. They are getting a larger slice of the equity because they are "investing" their paycut into the firm. They are founders, workers AND investors.
It's not about what's equitable, or fair, or "reasonable." It's about what the market will bear.
Individuals with a realistic worldview, a little background information, and the ability to do simple math will conclude that startup equity offers are typically worthless. The fractions of the company are too small, the protections given to founders and investors too large.
Startups are not getting the best talent with these compensation packages. And the people doing the hiring don't care. They clearly do not want any better than what they're getting. If there were unsatisfied demand for better staff, we would see more compelling offers.
Hiring irrational optimists, the math-impaired, and folks who fail to do basic research on the field seems to be working out OK.
I still meet a ton of engineers, who while being surprisingly analytical in other aspects of their life, think their worthless equity packages are worth something. Some people don't even know what percentage their shares represent. They definitely don't give enough thought to dilution, liquidation preference, lack of voting rights.
I'll say it over and over again - if you're asked to take a total compensation cut i.e. turn down public stock or salary from an established company to take options at a startup you are an investor. In fact a bigger portion of your net worth and income is invested then the typical VC's portfolio. And yet you don't get voting rights, you get screwed by liquidation preference etc, and the standard response is "well, you're not an investor, so you don't get preferred shares."
Engineers are often hilariously bad at finance and even worse at negotiation.
I asked about the value of my shares. They're subject to dilution, and the company won't tell me what % of the company they represent, nor the board-evaluated value of the company. Thus I have to consider them entirely worthless until proven otherwise.
If the work is interesting and such, sure, but my take is that beyond simply being unable to value your own equity, behavior like this suggests lack of maturity in the founders and implies amateur-ishness.
Having been around the startup block a few times now, there are some tells that are definitely warning signs for me.
The most ridiculous are things like demanding a NDA to even discuss the company. If a founder asks for a NDA just to have coffee, I am out - in my experience it's a 100% indicator of someone who has no idea what the fuck they're doing.
Secrecy around valuation, options pool, etc, are less damning but still very much a yellow flag when it comes to how they treat employees and how much experience the founders have. In general I find that inexperienced and immature founders tend to focus on secrecy in the wrong places (and conversely, lack of secrecy where it matters).
> If a founder asks for a NDA just to have coffee, I am out - in my experience it's a 100% indicator of someone who has no idea what the fuck they're doing.
Indeed. I've seen this countless times, even occasionally in SV where people should know better. Starting a company is really really hard. It's fundamentally about deciding where to channel your energy when you have a completely green field but only enough resources to execute on 0.01% of your ideas. The focus must be pinpoint and relentless to even have a chance. The idea that the risk of someone stealing your idea is worth devoting any mental energy to indicates that you don't have your priorities straight. Hell, even in a worst case scenario where you have a great non-obvious idea, and someone steals it, if you want an NDA so you can sue them then you're essentially betting on their superior execution capability.
Yeah. Personally it feels like people who are obsessed with the security of their idea are also the ones who over-value ideas over execution.
And ultimately a startup is nothing but relentless, on-point, highly competent execution.
But in any case that may be ascribing psychology where there is none. Invariably though the founders I meet who are like that are also very inexperienced and 100% of the time have never built a product before, which is probably why they value idea over execution.
at least 50% of companies will refuse to tell you when making an offer to you. It is insane that they tell you about these shares and play it up like it is great compensation then when you turn around and ask a very simple questions "how many outstanding shares are there?" they will refuse to answer. Once i hear this i immediately assume the shares are worthless. I cant understand people who put any value to made up numbers they tell you, companies deliberately create more and more shares so they can give away more shares to employees that are even more worthless but people hear a big number and think it is great
Perhaps so, but this may reflect a lack of power rather than a lack of awareness. I was in a startup once where a new CEO talked about allocation of shares - he referred to the number of shares with no extra context. I asked, in the meeting, how we could calculate our ownership under the exit scenario he described, and clearly there was an uncomfortable vibe in the room after I did that. The disinclination to ask about this may reflect a lack of power rather than cluelessness.
Also, it does need to be stated, many of the employees were H1B workers with green card sponsorship. I'd say that they were behaving rationally by sticking with the company, especially since a couple of them were close to completing the process.
This and many other experiences have convinced me that while I generally look on immigration positively, I believe that workers need to be free and full agents in a labor market (this includes there right to change fields entirely, not just jobs, and it also includes the right to go without a job for a while). I'm convinced that a great part of the appeal of the H1B is that it creates a class of engineers who lack this freedom. Truth is, you don't need all your workers to lack freedom of movement, as long as the percentage is high enough to set a standard.
Absolutely. I'm a co-founder of an less than 10 employee company. I make sure to make it clear that our offered restricted stock grants (that are between 0.1 - 0.25% at this point) are not replacements for compensation. They are instead bonus/retention plans that act as a bite of the apple if the company were to sell and they are still employed by us. Otherwise, salaries are intended to be at or above market.
In other words, I care more about getting good talent with those "realistic worldviews" than attempting to pull the wool over the eyes of those that get caught up in the type of thinking of planning purchases when they win the lotto because they bought a ticket once.
If only more startups worked that way, instead of leveraging those types of individuals to get more hours at below-market pay because everyone is an "owner." It's almost criminal...
> I make sure to make it clear that our offered restricted stock grants (that are between 0.1 - 0.25% at this point) are not replacements for compensation. They are instead bonus/retention plans that act as a bite of the apple if the company were to sell and they are still employed by us.
Your stock grants are not a bonus/retention plan simply because you believe your cash compensation is at or above market. Pre-IPO stock grants are a lottery ticket. Period.
Here's an exit scenario: your company sells for $50 million after four years[1]. Assuming no dilution and no liquidation preferences, an employee with 0.25% earns $125,000 pre-tax, the equivalent of a $31,250/year bonus that was never guaranteed and deferred for four years.
Why would you think this to be a strong driver of retention for in-demand employees with "realistic worldviews"? In today's market, your best employees can probably get 50-100% of that hypothetical annual bonus in real cash just by switching jobs.
[1] Your company isn't likely to have a liquidity event, but if it does exit, the value of the event is likely to be $50 million or under according to exit data in recent years.
It's a retention/bonus plan because there are means to liquidity via secondary markets even pre-IPO. Obviously the liquidity event is the ideal outcome, but there are still many ways for an employee to exit his/her position prior to that point, and the idea is that you ride the valuation curve up so that what is on paper a $20k annual "bonus" becomes a $60k annual bonus, for example.
That being said, you're right - the problem here is that startups in general are only willing to pay "market" for base salary, ignoring that good engineers can get completely liquid equity at major companies worth as much as, if not more than, the level of equity being offered to startup employees.
In your typical "$X base + $Y equity" startup offer, only $X is competitive. You can likely get $Y (or more) from an established post-IPO company where the comp is (almost) as good as cash.
$Y in pre-IPO, illiquid, risky early-stage equity is not worth the same thing as $Y cash in hand.
> It's a retention/bonus plan because there are means to liquidity via secondary markets even pre-IPO. Obviously the liquidity event is the ideal outcome, but there are still many ways for an employee to exit his/her position prior to that point, and the idea is that you ride the valuation curve up so that what is on paper a $20k annual "bonus" becomes a $60k annual bonus, for example.
Most early-stage startup employees can't get liquidity on secondary markets, either because there's no demand for their company's stock or they are subject to transfer restrictions.
When looking at the big picture, proponents of equity as an effective bonus/retention tool will have to explain why most vested options go unexercised.
Fair, this is also why I'm very leery of options in general. RSUs seem more financially complex for the company, but also more equitable for employees
It seems patently bullshit that early-stage employees, whose contributions are disproportionately large to the success of the company, are generally completely unrewarded on the equity side because of lack of liquidity, and cost of exercising options. It seems like a cheap way to cheat people out of what they rightfully earned.
Absolutely and totally agree on all points. Your $50 million is the exact number and breakdown (except on a 3 year timeline) I use for candidates that have made it far enough into the interview process such as having an offer on the table or have asked during the process how we approach equity.
> In today's market, your best employees can probably get 50-100% of that hypothetical annual bonus in real cash just by switching jobs.
I did not mean to imply that is the only bonus plan. Cash bonuses and significant raises generally yield an additional 20% of pay over the course of a year. We absolutely have to combat the switching of jobs yielding that in raises, especially as we are a software engineer heavy organization.
It's more that we don't want to not offer stock grants/equity at all just because they suck or are a lotto ticket. Especially in order to reward long term employees in an additional way. We more or less say "here's this lotto ticket, pretend this doesn't exist for now." The retention aspect may kick in if we appear to be nearing a sale event, but on day one means nothing.
Your startup has fewer than ten people, and the grants are .1-.25%. Let's say it sells in three years for $50m, with no further dilution because you never hired more or took more investment.
He gets $50-$125K. How much equity do you have yourself as founder? 50% ($25 million)?
What do you dream of doing with your millions once you exit? What do your employees dream of doing with their hundred thousand or so?
We are a 7 year old company. I have only ever had one candidate find a problem similar to the point you are making. Most understand that the risk profile makes a world of difference for a profitable company now versus 7 years ago where skipping payroll for the co-founders was common.
Your math is slightly off in assuming that the .1-.25% carries for the bulk of the ten, but your point valid all the same as a potential concern for individuals.
We often struggle with being labeled a startup due to our age and risk profile, but due to our size, we accept it! Ha.
Why even offer equity at all? If you're profitable and able to offer cash bonuses and raises, why not use alternative retention tools? Do you offer a 401(k) with generous company match? Do you have a profit sharing plan? Profit sharing into a 401(k) can be especially appealing.
While I obviously don't know anything about what your company does and what its financials look like, if I was a prospective employee, the fact that you're sub 10 employees at seven years in would lead me to conclude that you're not the kind of high-growth company for which 0.1 - 0.25% equity has any chance of translating to a really big payout. So why pretend? I'd find it far more appealing if your compensation package was realistic/honest about where you're at as a company.
401(k) is something we are planning on early next year, yes.
As for the seven years in with 10 employees, definitely valid point. However, I always make sure to point out to candidates that we were 3 employees 2 years ago and are now getting significant traction with bigger clients. We are in an extremely slow moving B2B industry so it takes significant time to get that initial traction. It is very much a referral based sales process and potential customers like to bucket themselves based on size. Effectively, we've had to work our way up the food chain to get to the bigger fish. We expect to be 20 by the end of next year, so it carries more weight now than it would have 2 years ago. This is the same reason we even foresee a sale event in the next 2 - 3 years with the growth we've had over the last 18 months.
Perhaps that's stockholm syndrome speaking (kidding) :p
You hit it on the head with "irrational [sic] optimists" even though you whiffed it with "typically worthless."
There are at least two very much rational psychological pieces at work here. The first is that people who are inclined to be optimistic about a tiny stake are qualitatively different. The second is that the stake's expected value (EV; probability * outcome) is not a sufficient metric upon which to estimate its utility to actual humans.
1. People who are, relative to a theoretically precise EV, optimistic about a tiny stake act qualitatively differently toward the organization than those who are neutral or pessimistic / jaded.
For example, a good friend of mine in school used to argue, "why vote? one vote can't ever move the needle." And he was, after a fashion, right: the expected value of your single vote in terms of affecting the outcome is nil. But if you were looking to build an organization of people to achieve some political or social outcome, you would ceteris paribus want those who DO vote despite that expectation; voting here is a proxy for caring, motivation, social cohesion, deontological orientation, etc., not as the jaded comments here might suggest by analogy, mere innumeracy.
Similarly, and I want to take care to say that I hold this position only toward the case of creating high-growth uncertain ventures (startups) and not as a general prescription for society or the economy, those who eagerly accept and seek even a small ownership stake in the enterprise are going to be qualitatively different. And you may very much want that, just as they want to be part of something they have some ownership in.
2. Convexity and utility functions. Get over the idea that a dollar is worth a dollar. The first dollar to the guy who needs that dollar for a bus ride home in the rain is worth more than the 1001st dollar to a similarly situated guy -- an easy proof of non-constant marginal utility. But if you look into things like indivisibility and status tournaments, there's lots of good research that points out that playing the lottery can be rational even with a negative expectation under certain utility functions.
In other words, a 5% cash raise, to a comfortable software dev whose needs and retirement at a middle-class level are nearly certain, may be less desirable than a smaller EV shot at a life-changing sum. It may well be worth $10k to buy a "lottery ticket" at a one-in-two-thousand chance of a $10 M outcome ($5k EV).
I don't think many employees have a 1 in 2000 chance of a $10M outcome. I'm OK with the 0.005% odds on a multi-billion exit. Let's stick with that. The problem isn't the odds, it's the returns. As another article on HN pointed out, currently, 100% of billion dollar startups (every single "unicorn") have significant investor liquidation preferences.
As a result, for a non-founder, a 1% early-stage stake, at the exit of a billion dollar "unicorn", is quite likely to come out as a nice annual bonus at a "normal" firm: $10k to $100k. The one-two punch of dilution and liquidation preference eats up employee equity.
a %0.005 chance at $100k comes out to an expected value of $500. Even after we consider the odds, that $100k is four years in the future, with a one year cliff and a lot of individual risks involved, unconnected to the firm's fortunes. The present value is conceivably much lower than the expected value of $500. It's essentially nothing.
--
As a postscript: There's nothing intrinsically wrong with offering equity stakes with a negligible present value. Clearly, startups still find talent that satisfies them. The system is working.
As a result, for a non-founder, a 1% early-stage stake in the exit of a billion dollar "unicorn" is quite likely to come out as a nice annual bonus at a "normal" firm: $10k to $100k. The one-two punch of dilution and liquidation preference eats up employee equity.
Your math has to be completely off. If you started with 1% of a company, even after a lot of dilution and liquidation preferences, a $1B exit will give you north of $3M. Not $10k to $100k.
It is entirely possible for a $1B exit to leave you with literally $0.
Let's say your company has accepted $500 million in funding, with a 2x LP, at a $1 billion valuation. The company exits for $1 billion. Investors take a their 2x LP, for the entire $1 billion. Founders and employees get $0, despite a "billion dollar exit."
This is the trivial case. It is not even considering dilution, founders retention of "preferred" shares, the complicated ownership structures that can result from 3-5-10 rounds of funding, or lengthy employee lockouts after an IPO.
Nobody raises $500M with a 2x liquidation preference at a $1B valuation. And if they did, they wouldn't exit at $1B. This is a complete fantasy scenario.
I guarantee you their liquidation preference is not 2x (or indeed above 1x). And 30% is not 50%. Even if for some unfathomable reason the liquidation preference was 2x, and even if for some even more unfathomable reason the company promptly exited at $1B, that would leave $400M to be distributed to everyone else who had stock.
Investor liquidation preferences should not affect the value of employee shares if the valuation of the company has gone up steadily. I mean, if you have a "$1B exit" from a company that raised money at a $10B valuation, then, well, yes. But that's not really a $1B exit.
It seems like a lot of people assume that the success or failure of a startup is entirely random. A statistic is not the same thing as a probability, and it's dangerous to conflate the two. Just because less than 1% of startups succeed to the degree that you can retire on your equity, it doesn't mean that there aren't ways you can tell when your equity is that valuable. You can look at the team, the product, the marketplace, your customers, and your overall gut feeling to decide that. Treating the statistic as a probability ignores all of that valuable information.
This is a really good podcast--I love the idea of progressive equity, and Ben and Andrew do such a thorough job of talking through the implications on employee motivation, secondary sales, pro-rata vs flat, ...
Has anybody aside from Detour implemented progressive equity so far?
I think the current trend of 4 year vesting with a 1 year cliff (and 0.1%-0.5% for very early engineers in startups less than 7 people, as it seems on angel.co job postings) is totally messed up. It seems every startup wants to you take a $40k salary cut at least and isn't giving you equity anywhere close to that value (even optimistically, though it really should be at net present valuation. EG: If your last funding round was an incubator which put in $20k for %5, then your valuation is $400k, and each year that engineer gives up $40k in salary, he should get %10 of the company... until you do another round, at which the $40k will buy less of the company. But nobody is doing that...)
Don't even get me started on the one year cliff. Can you imagine any other investor in a startup taking a one year cliff? "Ok, we'll take your venture capital, but you're going to vest and it's got a cliff. If you act like jackasses in the first year we're going to cut you off and you get nothing"
Here's the magical thinking: Somehow investor dollars are more "real" than employee sweat, or lost salary the employee gave up to come work there.
Hell, if they pay you %60 of a market salary and then give you %40 as deferred salary, you should still get probably %4 of your salaries value in equity to compensate for the risk that the deferred salary will never be paid.
And why don't startups use deferred salary? Just each funding round, pay off some of the deferred salary. Make the interest on deferred salary something like %5. You're gonna grow a lot faster than %5 right?
Oh, that's right... Companies don't use deferred salary because Investors don't want the company to have liabilities-- investors want the first place in line when the company gets liquidated.
More magical thinking-- their dollars contributed by pension funds and tied to "you must pursue the higher risk strategy, we don't care if it destroys the company" pressure is more "real" than the salary employees give up to do the actual work.
I'm far from a unionist, but I blame founders for putting up with this kind of employee hostile thinking. Look to bright lights like Basecamp and Github-- you don't have to sell your soul to start a company. Bootstrap and it will let you treat your employees well. And then if you do want to take VC money, like Github did, you can do it on your own terms, not theirs.
Too many founders seem to come out of an incubator (which is coaching them for demo day- seemingly the whole point of many incubators) thinking that their purpose is to get VC money. IT's not. It is to build a business. VC money is a loan that is an ongoing drag on the business (even more expensive when you consider the advice of VCs.)
Never ever take a salary cut when moving from established company to a startup. In fact engineers should also take into account bonus, 401k match that will not be typically offered at a startup.
No wonder most friends I speak to are more attracted to tech unicorns that have higher probability of success than early stage startups and can match or offer higher base salary than established big companies.
In this bubble, if you are joining a funded startup you should not take a below market salary, period. If the bubble bursts, your equity won't matter anyway.
If you are taking a salary cut because you are joining a pre-funded or seed stage company, you better be getting near founder level equity.
You put in your shares as a percentage, the cost to exercise, and the opportunity costs of taking the job for 4 years (or whatever the vesting period is.) It spits out a grid of the various payouts for various exit prices and funding round dilutions. Feel free to clone and play with the numbers or hack on it for your own needs.
Ultimately I ended up passing on the offer because they were pretty stingy on the equity, and wouldn't budge. The amount they offered would've had to be an exit well above 100M to be a "good deal" versus what I was giving up, even without considering the risk of it failing completely.
I get paid a good salary. I also have options. Options to buy some fraction of the company. Those options could be a bonus if a Desirable Event occurs. Otherwise, I'm still being paid very well to do what I do on a daily basis.
If you've been offered a decreased salary and shares to compensate (or [$DEITY forbid] options) for the lack of salary, then negotiate or politely decline.
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[ 82.6 ms ] story [ 824 ms ] threadIn short, here are the two key points:
> The founders should end up with about 50% of the company, total. Each of the next five layers should end up with about 10% of the company, split equally among everyone in the layer
> What happens if you raise an investment? The investment can come from anywhere... an angel, a VC, or someone's dad. Basically, the answer is simple: the investment just dilutes everyone.
He gets into more detail on specifics, e.g. vesting, early employees who don't take salary, and investors taking a large stake.
(The podcast gets more into the sort of problem that plagues unicorns, but let's be honest: This sort of problem won't affect more than a handful of people reading this, if even, and a situation that rare won't be covered by a podcast or stackexchange answer even by someone as special as Spolsky or Horowitz)
Founders should own as much as every single other contributor and investor, combined?? They should keep several orders of magnitude more than all the other professionals that give years of their life, and make important decisions and breakthroughs? Only greed and self-importance justifies this outlook.
The company's first non-founder employee takes a HUGE risk. He joins when no one else has taken that leap of faith. He joins maybe a few weeks after the founders started up. He takes a huge financial hit, foregoing that fat salary and bonus of the established company. And without those first employees, there will not be enough product or progress to show, to recruit the next batch. Derek Sivers explains this best in his First Follower talk [0]. That employee's reward? A percent (if he's a good negotiator). Compared to the founders' 50%. How equitable!
[0] https://sivers.org/ff
I've worked with the same CTO as employee #1 at various startups for the last ~10 years. I generally get around 5%. The idea that people would take 1% or less sounds crazy to me. It's just not worth the hours and stress it involves that early on.
In return I earn about 33-50% less salary than what I probably could elsewhere. So far it's paid off for me. But if I got less than 1% instead I would be worse off for it.
Examples of this can range from someone coming out of a bootcamp into their first engineering position, or a senior engineer from a bigger company joining as CTO of a startup.
When the company IS finally successful, it's due to EVERYONE's work. Not in equal amounts, certainly, but not at a ratio of 50-5000x from founders to every other individual.
I'm not sure I can agree with that statement. All I can say is that if you think you have a deal that isn't fair to you you should leave. But I can certainly imagine scenarios in which a founder contributes 50x more value than an early stage employee.
This is a nice way of saying the company can't/won't pay for some "ideal" candidate.
or significant responsibility growth
This is a nice way of saying "will be taken advantage of".
~
The issue I have taken with your stance is that it seems to presuppose some business that is automatically a big hit were it not for a potentially terrible hire, instead of a business that won't go anywhere without good execution by a team.
It's a subtle but important difference, and not recognizing that difference leads to treatment of employees as tools instead of (effectively) later-stage cofounders.
Or it's a recognition that if you are serious about growing your career you need to do so by demonstrating you are capable of handling greater levels of responsibility. If you think you are being exploited then don't join the copmany. But the idea that more responsibility means more exploitation and that you don't gain anything from that is incredibly short-sighted.
> The issue I have taken with your stance is that it seems to presuppose some business that is automatically a big hit were it not for a potentially terrible hire, instead of a business that won't go anywhere without good execution by a team.
I don't agree that's my stance. If you've never run an engineering team and you get an opportunity to do so out a startup that fails, you've still gained from that experience significantly. The company paid a lot of money for you to make mistakes that you wont make when you go on to lead your next team. It's difficult to calculate the value of that, but it's absolutely real and it's why a lot of people transition to smaller companies in order to grow their careers.
Early employees (and I am one) are absolutely not later stage cofounders. My suggestion to people who are in a position where they feel like a later stage cofounder without the upside is to leave that position. I'm currently at a company where I absolutely know I could not do what the founder/CEO does, and I don't feel like the deal I got is exploitative at all despite having, of course, significantly less equity than the founder. YMMV.
Edit: to further clarify the last point: this company absolutely could have succeeded without me, it could not have succeeded without the founder and a few key hires. If you are joining a typical "lean startup" that is just some engineers who are trying to figure out a business, then yeah, sure, you are a fool to join as an early employee. If you are joining a business with a founder who deeply understands an industry and how to execute, then it's a completely different deal you are signing up for. Apples and oranges.
Now, before someone "disproves" my point by showing a counter-example, I'll admit this doesn't apply to all founders in all companies, but founders tend to have plenty of money to fall back on. That cushion is what allows them to be founders. If the business fails, well, kinda sucks for them--they potentially lost a chunk of it, but they're not homeless. They'll dream up the next idea and go at it again. Because they can afford to.
Employee #1 on the other hand, is working for a living. They're likely dependent on their employer. They're foregoing a more lucrative salary somewhere else, not to mention savings, 401k's, health insurance. They need to make rent next month. If the business fails, they're scrambling to find another job ASAP. Sure, in terms of "raw number of dollars", they're not risking as much as the founders, but in terms of financial security/stability, future earnings, and career growth, they're taking a huge risk. Shouldn't their reward be commensurate with this risk?
It's like people who complain about how much garbage men/some other shitty job make but then don't become garbage men.
The CEO and CTO have not responded to any inquiries by me yet on what the current valuation of whatever I still own might be. I'm sure they're too busy growing the company :P
Individuals with a realistic worldview, a little background information, and the ability to do simple math will conclude that startup equity offers are typically worthless. The fractions of the company are too small, the protections given to founders and investors too large.
Startups are not getting the best talent with these compensation packages. And the people doing the hiring don't care. They clearly do not want any better than what they're getting. If there were unsatisfied demand for better staff, we would see more compelling offers.
Hiring irrational optimists, the math-impaired, and folks who fail to do basic research on the field seems to be working out OK.
I'll say it over and over again - if you're asked to take a total compensation cut i.e. turn down public stock or salary from an established company to take options at a startup you are an investor. In fact a bigger portion of your net worth and income is invested then the typical VC's portfolio. And yet you don't get voting rights, you get screwed by liquidation preference etc, and the standard response is "well, you're not an investor, so you don't get preferred shares."
Engineers are often hilariously bad at finance and even worse at negotiation.
I would walk away from that situation. Any startup that's unwilling to do everything Sam outlined above is IMO not worth my time.
Hell, refusing to answer something as simple as "what percentage are these shares worth"?! I'd run, not walk, away from that one.
If you want to encourage workers by making them investors in the company, then treat them like it.
Having been around the startup block a few times now, there are some tells that are definitely warning signs for me.
The most ridiculous are things like demanding a NDA to even discuss the company. If a founder asks for a NDA just to have coffee, I am out - in my experience it's a 100% indicator of someone who has no idea what the fuck they're doing.
Secrecy around valuation, options pool, etc, are less damning but still very much a yellow flag when it comes to how they treat employees and how much experience the founders have. In general I find that inexperienced and immature founders tend to focus on secrecy in the wrong places (and conversely, lack of secrecy where it matters).
Indeed. I've seen this countless times, even occasionally in SV where people should know better. Starting a company is really really hard. It's fundamentally about deciding where to channel your energy when you have a completely green field but only enough resources to execute on 0.01% of your ideas. The focus must be pinpoint and relentless to even have a chance. The idea that the risk of someone stealing your idea is worth devoting any mental energy to indicates that you don't have your priorities straight. Hell, even in a worst case scenario where you have a great non-obvious idea, and someone steals it, if you want an NDA so you can sue them then you're essentially betting on their superior execution capability.
Run don't walk from this kind of hot air balloon.
And ultimately a startup is nothing but relentless, on-point, highly competent execution.
But in any case that may be ascribing psychology where there is none. Invariably though the founders I meet who are like that are also very inexperienced and 100% of the time have never built a product before, which is probably why they value idea over execution.
This is totally unacceptable
Also, it does need to be stated, many of the employees were H1B workers with green card sponsorship. I'd say that they were behaving rationally by sticking with the company, especially since a couple of them were close to completing the process.
This and many other experiences have convinced me that while I generally look on immigration positively, I believe that workers need to be free and full agents in a labor market (this includes there right to change fields entirely, not just jobs, and it also includes the right to go without a job for a while). I'm convinced that a great part of the appeal of the H1B is that it creates a class of engineers who lack this freedom. Truth is, you don't need all your workers to lack freedom of movement, as long as the percentage is high enough to set a standard.
In other words, I care more about getting good talent with those "realistic worldviews" than attempting to pull the wool over the eyes of those that get caught up in the type of thinking of planning purchases when they win the lotto because they bought a ticket once.
If only more startups worked that way, instead of leveraging those types of individuals to get more hours at below-market pay because everyone is an "owner." It's almost criminal...
Your stock grants are not a bonus/retention plan simply because you believe your cash compensation is at or above market. Pre-IPO stock grants are a lottery ticket. Period.
Here's an exit scenario: your company sells for $50 million after four years[1]. Assuming no dilution and no liquidation preferences, an employee with 0.25% earns $125,000 pre-tax, the equivalent of a $31,250/year bonus that was never guaranteed and deferred for four years.
Why would you think this to be a strong driver of retention for in-demand employees with "realistic worldviews"? In today's market, your best employees can probably get 50-100% of that hypothetical annual bonus in real cash just by switching jobs.
[1] Your company isn't likely to have a liquidity event, but if it does exit, the value of the event is likely to be $50 million or under according to exit data in recent years.
It's a retention/bonus plan because there are means to liquidity via secondary markets even pre-IPO. Obviously the liquidity event is the ideal outcome, but there are still many ways for an employee to exit his/her position prior to that point, and the idea is that you ride the valuation curve up so that what is on paper a $20k annual "bonus" becomes a $60k annual bonus, for example.
That being said, you're right - the problem here is that startups in general are only willing to pay "market" for base salary, ignoring that good engineers can get completely liquid equity at major companies worth as much as, if not more than, the level of equity being offered to startup employees.
In your typical "$X base + $Y equity" startup offer, only $X is competitive. You can likely get $Y (or more) from an established post-IPO company where the comp is (almost) as good as cash.
$Y in pre-IPO, illiquid, risky early-stage equity is not worth the same thing as $Y cash in hand.
Most early-stage startup employees can't get liquidity on secondary markets, either because there's no demand for their company's stock or they are subject to transfer restrictions.
When looking at the big picture, proponents of equity as an effective bonus/retention tool will have to explain why most vested options go unexercised.
It seems patently bullshit that early-stage employees, whose contributions are disproportionately large to the success of the company, are generally completely unrewarded on the equity side because of lack of liquidity, and cost of exercising options. It seems like a cheap way to cheat people out of what they rightfully earned.
And that is the options everyone in the company gets and had no risk
> In today's market, your best employees can probably get 50-100% of that hypothetical annual bonus in real cash just by switching jobs.
I did not mean to imply that is the only bonus plan. Cash bonuses and significant raises generally yield an additional 20% of pay over the course of a year. We absolutely have to combat the switching of jobs yielding that in raises, especially as we are a software engineer heavy organization.
It's more that we don't want to not offer stock grants/equity at all just because they suck or are a lotto ticket. Especially in order to reward long term employees in an additional way. We more or less say "here's this lotto ticket, pretend this doesn't exist for now." The retention aspect may kick in if we appear to be nearing a sale event, but on day one means nothing.
He gets $50-$125K. How much equity do you have yourself as founder? 50% ($25 million)?
What do you dream of doing with your millions once you exit? What do your employees dream of doing with their hundred thousand or so?
Your math is slightly off in assuming that the .1-.25% carries for the bulk of the ten, but your point valid all the same as a potential concern for individuals.
We often struggle with being labeled a startup due to our age and risk profile, but due to our size, we accept it! Ha.
While I obviously don't know anything about what your company does and what its financials look like, if I was a prospective employee, the fact that you're sub 10 employees at seven years in would lead me to conclude that you're not the kind of high-growth company for which 0.1 - 0.25% equity has any chance of translating to a really big payout. So why pretend? I'd find it far more appealing if your compensation package was realistic/honest about where you're at as a company.
As for the seven years in with 10 employees, definitely valid point. However, I always make sure to point out to candidates that we were 3 employees 2 years ago and are now getting significant traction with bigger clients. We are in an extremely slow moving B2B industry so it takes significant time to get that initial traction. It is very much a referral based sales process and potential customers like to bucket themselves based on size. Effectively, we've had to work our way up the food chain to get to the bigger fish. We expect to be 20 by the end of next year, so it carries more weight now than it would have 2 years ago. This is the same reason we even foresee a sale event in the next 2 - 3 years with the growth we've had over the last 18 months.
Perhaps that's stockholm syndrome speaking (kidding) :p
There are at least two very much rational psychological pieces at work here. The first is that people who are inclined to be optimistic about a tiny stake are qualitatively different. The second is that the stake's expected value (EV; probability * outcome) is not a sufficient metric upon which to estimate its utility to actual humans.
1. People who are, relative to a theoretically precise EV, optimistic about a tiny stake act qualitatively differently toward the organization than those who are neutral or pessimistic / jaded.
For example, a good friend of mine in school used to argue, "why vote? one vote can't ever move the needle." And he was, after a fashion, right: the expected value of your single vote in terms of affecting the outcome is nil. But if you were looking to build an organization of people to achieve some political or social outcome, you would ceteris paribus want those who DO vote despite that expectation; voting here is a proxy for caring, motivation, social cohesion, deontological orientation, etc., not as the jaded comments here might suggest by analogy, mere innumeracy.
Similarly, and I want to take care to say that I hold this position only toward the case of creating high-growth uncertain ventures (startups) and not as a general prescription for society or the economy, those who eagerly accept and seek even a small ownership stake in the enterprise are going to be qualitatively different. And you may very much want that, just as they want to be part of something they have some ownership in.
2. Convexity and utility functions. Get over the idea that a dollar is worth a dollar. The first dollar to the guy who needs that dollar for a bus ride home in the rain is worth more than the 1001st dollar to a similarly situated guy -- an easy proof of non-constant marginal utility. But if you look into things like indivisibility and status tournaments, there's lots of good research that points out that playing the lottery can be rational even with a negative expectation under certain utility functions.
In other words, a 5% cash raise, to a comfortable software dev whose needs and retirement at a middle-class level are nearly certain, may be less desirable than a smaller EV shot at a life-changing sum. It may well be worth $10k to buy a "lottery ticket" at a one-in-two-thousand chance of a $10 M outcome ($5k EV).
As a result, for a non-founder, a 1% early-stage stake, at the exit of a billion dollar "unicorn", is quite likely to come out as a nice annual bonus at a "normal" firm: $10k to $100k. The one-two punch of dilution and liquidation preference eats up employee equity.
a %0.005 chance at $100k comes out to an expected value of $500. Even after we consider the odds, that $100k is four years in the future, with a one year cliff and a lot of individual risks involved, unconnected to the firm's fortunes. The present value is conceivably much lower than the expected value of $500. It's essentially nothing.
--
As a postscript: There's nothing intrinsically wrong with offering equity stakes with a negligible present value. Clearly, startups still find talent that satisfies them. The system is working.
Your math has to be completely off. If you started with 1% of a company, even after a lot of dilution and liquidation preferences, a $1B exit will give you north of $3M. Not $10k to $100k.
Let's say your company has accepted $500 million in funding, with a 2x LP, at a $1 billion valuation. The company exits for $1 billion. Investors take a their 2x LP, for the entire $1 billion. Founders and employees get $0, despite a "billion dollar exit."
This is the trivial case. It is not even considering dilution, founders retention of "preferred" shares, the complicated ownership structures that can result from 3-5-10 rounds of funding, or lengthy employee lockouts after an IPO.
Has anybody aside from Detour implemented progressive equity so far?
Not sure if it works or not.
I think the current trend of 4 year vesting with a 1 year cliff (and 0.1%-0.5% for very early engineers in startups less than 7 people, as it seems on angel.co job postings) is totally messed up. It seems every startup wants to you take a $40k salary cut at least and isn't giving you equity anywhere close to that value (even optimistically, though it really should be at net present valuation. EG: If your last funding round was an incubator which put in $20k for %5, then your valuation is $400k, and each year that engineer gives up $40k in salary, he should get %10 of the company... until you do another round, at which the $40k will buy less of the company. But nobody is doing that...)
Don't even get me started on the one year cliff. Can you imagine any other investor in a startup taking a one year cliff? "Ok, we'll take your venture capital, but you're going to vest and it's got a cliff. If you act like jackasses in the first year we're going to cut you off and you get nothing"
Here's the magical thinking: Somehow investor dollars are more "real" than employee sweat, or lost salary the employee gave up to come work there.
Hell, if they pay you %60 of a market salary and then give you %40 as deferred salary, you should still get probably %4 of your salaries value in equity to compensate for the risk that the deferred salary will never be paid.
And why don't startups use deferred salary? Just each funding round, pay off some of the deferred salary. Make the interest on deferred salary something like %5. You're gonna grow a lot faster than %5 right?
Oh, that's right... Companies don't use deferred salary because Investors don't want the company to have liabilities-- investors want the first place in line when the company gets liquidated.
More magical thinking-- their dollars contributed by pension funds and tied to "you must pursue the higher risk strategy, we don't care if it destroys the company" pressure is more "real" than the salary employees give up to do the actual work.
I'm far from a unionist, but I blame founders for putting up with this kind of employee hostile thinking. Look to bright lights like Basecamp and Github-- you don't have to sell your soul to start a company. Bootstrap and it will let you treat your employees well. And then if you do want to take VC money, like Github did, you can do it on your own terms, not theirs.
Too many founders seem to come out of an incubator (which is coaching them for demo day- seemingly the whole point of many incubators) thinking that their purpose is to get VC money. IT's not. It is to build a business. VC money is a loan that is an ongoing drag on the business (even more expensive when you consider the advice of VCs.)
In this bubble, if you are joining a funded startup you should not take a below market salary, period. If the bubble bursts, your equity won't matter anyway.
If you are taking a salary cut because you are joining a pre-funded or seed stage company, you better be getting near founder level equity.
o_0
This is why most startup code is crap.
You put in your shares as a percentage, the cost to exercise, and the opportunity costs of taking the job for 4 years (or whatever the vesting period is.) It spits out a grid of the various payouts for various exit prices and funding round dilutions. Feel free to clone and play with the numbers or hack on it for your own needs.
Ultimately I ended up passing on the offer because they were pretty stingy on the equity, and wouldn't budge. The amount they offered would've had to be an exit well above 100M to be a "good deal" versus what I was giving up, even without considering the risk of it failing completely.
If you've been offered a decreased salary and shares to compensate (or [$DEITY forbid] options) for the lack of salary, then negotiate or politely decline.