Dear elizy: How should I split equity with my co-founders? And how will that affect raising a seed round?

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Dear elizy: I started a company in school with two co-founders.  Let’s call them Ada and Bob.  Ada is my professor. We are using her lab, and the company is based on her research, though the IP is assigned to the company.  Bob and I were her students and will be graduating this year.  We plan to incorporate and work on this company full time, while Ada will work on it part-time, as she is a full-time tenured professor.

We are trying to decide how much equity to allocate to each person.  I would like to split the equity equally, since it seems only fair.  But, Ada wants to split the equity 50% her, 20% Bob and 20% me with a 10% option pool.  She argues that we are using her facilities and years of her research / work / experience, so therefore, she must get more!

But, we’re going to be doing all the work!  What would investors think of either arrangement? What would you suggest we do?

– Lab Woes in Austin

Dear Lab Woes: Unfortunately, this happens quite frequently with research that gets spun into companies.

I do you think your professor should get some recognition as a contributor, but since she will not be working on the company full-time, 33%-50% is WAY TOO MUCH.  Often professors overestimate their scientific contributions.  Honestly, what you have right now is a project, not a company.  You have to productize the research, build partnerships, sell to customers, etc. – presumably none of which you have done pre-incorporation.  Although there are no set numbers, your professor should be considered an active advisor or a co-founder who has left rather than a full-time co-founder.

First off, whatever you decide, you should implement vesting. At time of writing this post, standard vesting practices in Silicon Valley are 4 year vesting with a 1 year cliff.  This means that you earn your stock ownership linearly over a period of 4 years.  After 1 year, you earn 25%, and thereafter, you earn the remaining stock on a monthly basis.  If you leave before the completion of the first year, you own zero stock.  These days, I’ve sometimes seen 3 year vesting with a 1 year cliff, which would also be OK.  You definitely want everyone to earn his/her stock.

Secondly, even if you are OK with either of the arrangements you have proposed, it is a major red flag to investors to have much of the cap table locked up with dead-beat co-founders, professors, or advisors who are not working day-to-day on the company.  You will have tremendous difficulty raising money with this kind of cap table, and investors will make you restructure it.  To have so much stock locked up that could otherwise be allocated to serious contributors (including future employees and co-founders) is a bad sign.  In a startup, you don’t have many things to entice people to work for your company, and stock is one of those few things.

You will all be diluted considerably, so even if you are OK with 20-33% stake now, that is not what you will actually end up with if you raise a few rounds of funding.  You need to make sure that you are incentivized enough to work on this business full-time.

What would I suggest?  If you treat Ada as a former co-founder or active advisor, you’re really looking at, say, the 2-15% range.

  • 15% would be incredibly generous!
  • Super active, hands-on advisors are typically granted < 5%.
  • Non-active advisors are typically granted < 1%.
  • Former co-founders who have contributed about 1-2 years of vesting typically end up with ~10-15% equity since they didn’t vest their full potential.

An active former co-founder has contributed to the product, sales, BD, or something substantial to the company on a day-to-day basis for at least a year.  To me, it sounds like your professor is much more akin to an active advisor.

This will be a terribly difficult conversation, and you may need to move labs immediately.  But, if you want to raise money from investors, you really need to address this.  Additionally, you may also be able to use this fact as a forcing function for change.

Good luck!

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