common/preferred is to align interests between founders and investors. I doubt that's much of an issue between founders, and any non-founder investors would still likely want preferred that is senior to the founder's equity.
And for early/seed investments, preferred isn't really necessary - how many founders are going to take a seed round at $300k and then try selling the company for $500k?
This is exceptionally bad advice. 90% of startups fail, give or take. By far the most likely outcome is that you will be selling this company for less than you put in to it. If you do not give preferred shares to the founder who actually invested, then that person will not be first in line to get their money back.
Example: Alice puts in $250k. Alice and Bob split the company 60/40, common shares. After a year, there's $100k left in the bank, and Alice and Bob decide to call it quits. At this point, Bob leaves with $40k. If Alice had preferred shares, she would get more of her money back.
But even preferred shares are a terrible idea. The right thing is to give the founder a convertible note. That means the founder has debt if the company folds early (and gets his/her money back), and if the company raises a financing round, they just convert on those terms in to the same preferred shares as the subsequent investors.
>But even preferred shares are a terrible idea. The right thing is to give the founder a convertible note. That means the founder has debt if the company folds early (and gets his/her money back), and if the company raises a financing round, they just convert on those terms in to the same preferred shares as the subsequent investors.
This seems like an elegant solution to the problem. So these convertible notes pay interest, right? is this generally fairly high interest? I mean, if I were to ask a bank for a loan without a personal co-sign,[1] they would charge me a pretty hefty rate if they looked at me at all.
At least for my company, even upon success the chance of an investment round is... small, so I imagine the people buying those convertible notes would still want some upside.
[1] I'm assuming these convertible notes are corporate debt, not personal debt backed by the founders
Do 90% give up with $100k in the bank without taking additional funding rounds?
I see the benefit of the convertible note from the investing founder's standpoint, and I appreciate the violence of your disagreement, but you've misaligned the founders' incentives - the investing founder would be more likely to throw in the towel and get her money back.
Obviously the equation changes if the founder is investing $1M, but in the $10k-$50k range (which I'm guessing is a lot closer to the actual number than your $250k example) I'm not as convinced that the investing founder should get preferred or convertible notes.
An equal split is a good way to start. You should then convert that into shares and agree a share price (aka valuation).
Ongoing contributions in terms of hurt money or good will (eg: programming time) can then be converted into new share issues.
I'm a solo founder for my first two startups (the second of which has pretty much stalled because of my lack of available resources). My third startup is a 50/50 split.
I think our split is something like 40/25/25/10 right now, but at this point the real focus is on building a profitable business, not arguing over who owns what.
2. Concentrating on making a profitable product to the exclusion of a 5 minute talk about ownership is illogical, when there are quite straightforward ways to create fairness using cashflow waterfalls.
2.1 I think your line is manipulative. Are you the manipulator or the manipulated?
I suggest it would be a good idea to try to clear the ownership issue as soon as possible. Am ambiguous agreement will come around and bite you when you have some degree of success. Everybody in the team will feel like they had a major contribution toward it and will want a bigger share of the equity.
In an attempt to clarify - the equity split is agreed upon, defined and legally taken care of. By having it taken care of, we don't worry about it and focus on building the business to the point where it matters.
We split ownership 50/50, and agreed that there would be a rate of interest on documented unbalanced cash investments, and costs + similar accruing rate of interest for labour (coding, marketing, accounting, etc...).
The payments for investment and labour + interest sit senior to any dividend payments, so owning 50/50 only affects voting rights until the cost of what has been put in is paid off.
It turned out the work + cash was pretty equal, so the issue didn't come up.
The type of business you are building has a big impact on the importance of this. If you are building a sustainable long term business then the wages are probably more important than fighting over the exact equity. As over the course of the business you will probably generate more value out of the wages than the sale.
If you are shooting for the starts with something heavily venture backed then it becomes a far bigger factor in the end result.
From my understanding you can put that sort of thing in an operating agreement, and still have an even split. Please, someone with more knowledge on the subject confirm or correct this.
IANAL: You can write whatever you want in your legal agreements and it will probably work for almost all scenarios. At the very end of the day ownership can be a trump card though. A majority owner is in a position to argue that the legal agreements are invalid, etc.
Voting rights in a corporation don't have to be proportional to ownership (see Google for a giant example). Of course, that makes the set-up a little more complicated (read: more legal fees).
I am a co-founder in a non-software startup - a hair salon in NYC. A friend and I each invested $30k but keep our day jobs and help out with odd jobs here and there. My wife, however, quit her job to work it full time and is the lead stylist as well. We came up with a 70/20/10 split which has worked out well so far. We are hiring our first management-level employee this month are planning to give her between 5-10% equity, most of which will come from my wife's percentages.
I am a co-founder of a retail business. We initially had a 50/25/25 split, which then became a 50/50 split after someone decided to leave the biz. Then we gave a manager similar equity (with vesting) to end up 50/40/10.
We split it 50/50 but with an extra, if any of us decide to leave the business, you'll have to give the opportunity to the other to buy your share in one year before selling out to investors and others. This way the most interested parties keep control of the company.
I'm not in a startup anymore. The company is 25+ years old. I can tell you the company exists today because the original founders had an even split. Had they not, the President (a founder) would have trashed (caused to disintegrate, raided the accounts, etc) the company before many years had gone by. There were many situations where our leader knew: make a selfish move and you will be dealt with. Yeah, he could have fired some of us, but we could have had him removed as President and gotten our jobs back.
Some years ago, we ended up ousting him because of a very selfish and unethical deal he made, and some other issues.
No, we actually have a group of 7 with an even split of 51% of the shares. That 51% is in a block so the group as a whole has controlling interest in the company. We then used this calculator to split 29% based on sweat equity and contribution to the project.
I used the formula from this site to create a calculator in excel. We didn't like an even split because not everyone was contributing equally to the project. By doing this, we were able to quantify everyone's contribution and because of this everyone was able to agree on the split.
We left the remaining 20% authorized, but not issued for future investment.
This seems like a convoluted way to split the shares, but in the end, everyone was happy because there were numbers to back up the method.
A business is no democracy. - Well, ignoring the Berkeley Coops for now :) In most cases there is someone who came up with the idea and who works more passionate and harder than the others. The ownership should reflect the founders' contributions.
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[ 2.4 ms ] story [ 87.4 ms ] threadAnd for early/seed investments, preferred isn't really necessary - how many founders are going to take a seed round at $300k and then try selling the company for $500k?
Example: Alice puts in $250k. Alice and Bob split the company 60/40, common shares. After a year, there's $100k left in the bank, and Alice and Bob decide to call it quits. At this point, Bob leaves with $40k. If Alice had preferred shares, she would get more of her money back.
But even preferred shares are a terrible idea. The right thing is to give the founder a convertible note. That means the founder has debt if the company folds early (and gets his/her money back), and if the company raises a financing round, they just convert on those terms in to the same preferred shares as the subsequent investors.
This seems like an elegant solution to the problem. So these convertible notes pay interest, right? is this generally fairly high interest? I mean, if I were to ask a bank for a loan without a personal co-sign,[1] they would charge me a pretty hefty rate if they looked at me at all.
At least for my company, even upon success the chance of an investment round is... small, so I imagine the people buying those convertible notes would still want some upside.
[1] I'm assuming these convertible notes are corporate debt, not personal debt backed by the founders
You're going to need either a much firmer definition of startup or a much more defined range to make this have even the slightest bit of credibility.
I see the benefit of the convertible note from the investing founder's standpoint, and I appreciate the violence of your disagreement, but you've misaligned the founders' incentives - the investing founder would be more likely to throw in the towel and get her money back.
Obviously the equation changes if the founder is investing $1M, but in the $10k-$50k range (which I'm guessing is a lot closer to the actual number than your $250k example) I'm not as convinced that the investing founder should get preferred or convertible notes.
That's how we did it and it worked very well.
1. You sound like the guy with the 40%.
2. Concentrating on making a profitable product to the exclusion of a 5 minute talk about ownership is illogical, when there are quite straightforward ways to create fairness using cashflow waterfalls.
2.1 I think your line is manipulative. Are you the manipulator or the manipulated?
The payments for investment and labour + interest sit senior to any dividend payments, so owning 50/50 only affects voting rights until the cost of what has been put in is paid off.
It turned out the work + cash was pretty equal, so the issue didn't come up.
If you are shooting for the starts with something heavily venture backed then it becomes a far bigger factor in the end result.
I don't take a salary, but do take my share of the profits. It is a retail business with multiple locations.
Some years ago, we ended up ousting him because of a very selfish and unethical deal he made, and some other issues.
If you can, make it an even split.
http://www.andrew.cmu.edu/user/fd0n/35%20Founders%20Pie%20Ca...
I used the formula from this site to create a calculator in excel. We didn't like an even split because not everyone was contributing equally to the project. By doing this, we were able to quantify everyone's contribution and because of this everyone was able to agree on the split.
We left the remaining 20% authorized, but not issued for future investment.
This seems like a convoluted way to split the shares, but in the end, everyone was happy because there were numbers to back up the method.