Dividing Start Up Equity, the Pizza way!

It doesn’t matter who came up with the idea of ordering the pizza for dinner. You are having it because you had a consensus. Those on your table who opted out are eating something else, but they might still like to have a bite of it for the taste. Welcome to the sweet-bitter moment, when a founding team sits together to take a call on first equity distribution. If it gets any more difficult than sharing a pizza at the dinner table, then you are not working with the right partners. 

There are a lot of suggestions already floating on the topic and as well intended as they might be, I find those which suggest extreme inequality of distribution, quite cringeworthy. Ideas are not proprietary, so just coming up with one doesn’t entitle you to a mammoth portion and your co-founders are not useless, so they deserve better than tiny bits. As someone who has come up with the idea, you are just the first among equals. A vast inequality in equity creates a respect imparity which results in differential treatment of team members by investors, further hires or any external stakeholders. Once you get here it’s just a matter of time that cracks start appearing within the team. You are about to enter the bitter space of ‘splitting the bill’ after a dinner where the food was not shared equally. Everyone might go back home without making a bad scene, but it will leave a bitter taste in the mouth.

Equity translates too fast in to ownership, even before there is anything to own. As a start-up, it should be seen more as a motivation for the members to toil and the more skin they have in the game, the more effort you can expect from them. It’s imperative that the decision shouldn’t be taken in a rush and considerable time be given to listening to all concerns. An effective way of arriving to a split is to valuate your start-up internally at the stage when you are going for the split. Valuate the past, current and future expected contribution of each of the co-founders, price a premium for the idea if any at all and then bring in the actual money/asset contributed by each of the co-founder so far. Give weightage to each of the above based on criticality and then roll the slicer. 

But what about the friends who are not on the dinner table yet. You are going to put aside a slice for them, won’t you? Depending upon what all critical resources you have within your team and which ones you must get from the outside, you must keep a chunk aside as ESOP – it is going to be a great tool to attract the much-needed talent in the early stage.

Probably you have had a good dinner, but what would you do if someone just picks a slice and walks away without paying the bill? It’s a good team we start with, and we hope for it to remain that way. But building a start-up is a long haul and we do not know what will happen six months or a year down the line. It will be a bad situation if one of your major shareholders walks away and a big chunk now is dead equity. To avoid any such situation, always vest all shares, irrespective of the initial divide. The most common form of vesting restriction is one year cliff followed by monthly vesting over ensuing three years. This typically means that if any co-founder choses to quit and walk away at any time before the shares have been fully vested, the company keeps the right to buy back the unvested share, normally at a nominal price.

Dinners can go bad and people might bailout on your plans, but that doesn’t mean you will stop having dinner. Change the place, cuisine or people; there is a good dinner waiting on some table!