Startups, Investors and Dividing the Equity Pie
Equity will be split between the founders of your startup … and then extended to investors you attract along the way. Equity brings with it control over the business to varying degrees subject to how you structure things.
Figuring out how to divvy up equity among founders can be a difficult task, and there’s no iron-clad rule for how to do it. Here are some of the factors to weigh in the process.
* Equality is not always best: It seems easy to just split equity among founder equally, but that doesn’t always make sense. Consider the different roles of the founders and how much each will contribute financially, resources-wise, and through sweat labor. Also avoid situations whereby there might be the possibility for a stalemate vote.
* Time and effort: How early did each founder come on board? How significant have their contributions been? Did they bring patents to the table? Instant credibility? The more they’ve done and they longer they’ve served usually means they deserve more equity.
* Which founder(s) expect to stay longest? If you’ve got members of the founding team who clearly have earlier exit strategies than someone else, consider allocating more equity to the founder planning to stay the longest.
* Money: Consider the ramifications of equity issuances and their effect on your company’s valuation. This may be important for tax reasons, but also for other reasons. Get good advice prior to issuing equity.
* Fewer is better: Try to keep the number of major founding equity partners as low as possible. Too many founders can cause more trouble between founders; additionally, if the founders are too diluted, then they may lose interest in working with the Company in the future when they are diluted down by investor financings.
Calculating valuations and how much equity to give away can get complicated, but always keep in mind the basic formula related to the valuation of your company and the size of the investment. If you and your investor agree your company is worth $8 million prior to investment, and the investor invests $2 million, then the investor will own 20% of the company after the transaction is concluded. In this example, $8 million is the pre-money valuation, and $10 million is the post-money valuation.
Once you’re ready to attract accredited investors, turn to the experts at VerifyInvestor.com to help you comply with federal laws that require you to verify the status of your investors.