business - Dividing Equity Between Founders and Investors | Entrepreneur (2024)

FAQs

How do you split equity between founders and investors? ›

The general rule for who early-stage founders should give equity to includes themselves, outside advisors, and any early hires.

Founders: 20 to 30 percent divided among co-founders. The company contribution is rarely exactly 50/50 and the equity split should be based on a variety of factors, including those discussed above. Angel Investors: 20 to 30 percent. Venture Capital Providers: 30 to 40 percent.

Investors own 20-30% of startup shares, while the founders and co-founders should have more than 60%. You can also leave around 5% of available shares but allocate 10% to employees.

There are two ways to split equity: equally and dynamically (unequally). Before having a conversation with your partner about splitting equity, understand when to do these types of splits and their benefits and drawbacks.

The problem, though, is that when shares are split evenly, no one founder feels they have ownership of the company and the responsibility for running it. And that often means that nobody takes charge, and the startup stalls.

Splitting equity among co-founders is one of the earliest and most important decisions for your startup. Only about one-third of companies grant the same amount of equity to each co-founder, according to Carta data, while the majority of companies decide to vary their equity split between co-founders.

Regardless of your initial funding, a new startup's sweet spot is usually 10 million authorized shares. However, just because 10 million shares have been approved does not indicate that all or even the majority of them should be allocated or granted to founders or thrown into the employee stock option pool immediately.

Because → Series A investors will typically expect 50% owned by active founders and employees. Why? You get the drill.

Equal ownership equity splits are determined by dividing 100% of the equity shares by the number of co-founders involved in the start-up. If there are five co-founders, each co-founder receives 20% equity in the company.

How much equity should investors get? ›

There are, however, a number of words of wisdom to take on board and pitfalls for a business to avoid when taking their first big step. A lot of advisors would argue that for those starting out, the general guiding principle is that you should think about giving away somewhere between 10-20% of equity.

Up to this point, generally speaking, with teams of less than 12 people, the average granted equity for startup employees is 1%. This number can be as high as 2% for the first hires, and in some circ*mstances, the first hire(s) can be considered founders and their equity share could be even greater.

The general rule of thumb for seed rounds is that founders should target giving away between 10% and 20% equity.

Simply, we can calculate dilution in a cap table by subtracting the percentage of ownership before investment (No. of outstanding shares) from the percentage of ownership after investment (No. of issued shares), and the final result is the percentage of equity dilution in the cap table.

When determining CEO equity, one important factor is founding status. Is the CEO also a founding member of the startup, or has this person been hired after the company gets off the ground? Startup financial advisor David Ehrenberg suggests that 5 to 10 percent is a fair equity stake for CEOs who join the company later.

There are three types of equity in a company: common equity, preferred equity, and retained earnings.

Equity typically refers to the ownership of a public company or an asset. An individual might own equity in a house but not own the property outright. Shareholders' equity is the net amount of a company's total assets and total liabilities as listed on the company's balance sheet.

It's entirely possible for a business to have both a founder and co-founder. In the startup community, a founder is a person who establishes a business, turning profitable ideas into actual profit. The founder sets up the business infrastructure and works to get it off the ground.

Splitting equity equally can make co-founders feel as equals. This often leads to a sense of equal or co-responsibility for the success or failure of the business. Be careful that the equal division does not demotivate the higher-performing members of the team.

Do founders own equity True or false? ›

Perhaps counterintuitively, founders of a company do not automatically own equity in it. Instead, they purchase their shares (often described as “founder stock”) from the company shortly after incorporation. As the company has almost no value immediately after incorporation, the shares will be very inexpensive.

Founders stock refers to the equity that is given to the early founders of an organization. This type of stock differs in a few important ways from common stock sold in the secondary market. Key differences are (1) that founders stock can only be issued at face value, and (2) it comes with a vesting schedule.

If you sell a share to someone for $10, and the stock is later worth $11, the shareholder has made $1. That profit, though, exists only on paper and can disappear unless the shareholder locks it in by selling the share.

The 500 shareholder threshold was a rule mandated by the SEC that required companies to publicly disclose financial statements and other information if they achieved 500 or more distinct shareholders.

You can keep more or less of your stocks for founders. Many businesses have between 5 and 30 percent founder ownership at the company's IPO.

When your startup is in the initial stages, the founder or the co-founders usually own it entirely, typically in a 50/50 split, or 60/40, depending on various conditions. As you grow, equity is distributed among those who contributed to fund your startup, give you advise, or develop your product/service offerings.

During a Series A round, investors will usually be able to purchase from 10% to 30% of the business. Series A investments are generally used to grow the business, often in preparation for entering into the market.

2022 Startup Founder Salary Guide

In the US tech startups that have raised money tend to pay their founder CEOs about $130,000 $150,000 per year (updated for 2022 data). My firm runs payroll, accounting, etc. for funded startups (seed and venture stages), and we annually conduct a study of startup CEO salary.

The same article also mentions a 2021 survey from Pilot, an accounting firm that focuses on start-ups. This survey demonstrated that founders of companies who had raised $1 million to $5 million paid themselves an average of $96,700.

So, your salary as a founder depends on the state of your startup's cash flows and not on its profitability. Also, while deciding your pay, you need to account for the source of investment, that is, where the money is coming from – your personal account, investors' pockets, or the revenue generated by the company.

What is the best age to be a founder? ›

No one ever said that you can't be a successful entrepreneur at age 22 or 62. There are many. But research definitely points to the fact that education, experience, opportunity, network, and funding all come together in the mid-30s and position a founder to have the best chance of success.

There is no rule or law in terms of who gets cofounder status and who gets equity.

Once your business turns a profit, the silent partner receives 20% of the net profit. The profit is what's left after you subtract business expenses from your total sales revenue.

The 2 and 20 is a hedge fund compensation structure consisting of a management fee and a performance fee. 2% represents a management fee which is applied to the total assets under management. A 20% performance fee is charged on the profits that the hedge fund generates, beyond a specified minimum threshold.

In theory, young people investing for retirement should absolutely have 100% of their portfolio invested in equities. The biggest risk in the stock market is a crash which brings lower prices. Your best-case scenario as a young saver/investor is that you get to put more savings to work at lower prices.

Lenders typically require that you have between 15 percent and 20 percent equity in your home in order to take out a home equity loan or line of credit.

What is a good debt-to-equity ratio? Although it varies from industry to industry, a debt-to-equity ratio of around 2 or 2.5 is generally considered good.

According to the data, the average successful startup has raised $41 million in venture capital and exited for $242.9 million dollars since 2007. Among those that were acquired, Crunchbase reports startups raised an average of $29.4 million and sold for $155.5 million.

Therefore, upon completing this round, startups should aim that all external investors have no more than 50% of the fully-diluted cap table. Said another way, founders and ESOP combined should be close to or higher than 50%.

Which anti dilution is best for founders? ›

The most common types of anti-dilution are full ratchet and weighted average (which can be broad or narrow – but we'll get to that). Full ratchet anti dilution is generally better for investors while weighted average is more founder-friendly.

More about equity dilution

In the example below, ABC Co. started with 100,000 shares owned by 100 unique shareholders—meaning each shareholder owned 1% of the company. To raise more capital, the business issued 10,000 new shares to 10 new shareholders, so that 110 shareholders now own 0.9% of the company each.

The short answer to "how much equity should a founder keep" is founders should keep at least 50% equity in a startup for as long as possible, while investors get between 20 and 30%. There should also be a 10 to 20% portion set aside for employee stock options and, in some cases, about 5% left in a reserve pool.

Median chief executive officer total direct compensation (the sum of salary, short-term incentives and long-term incentives) is $425,000 for the entire survey population of family businesses. For companies with revenue below $10 million, median CEO total direct compensation is $200,000.

The Point of Points

In terms of actual percentage ownership in the company, 5% to 10% is a ballpark area to consider offering your potential CEO. Use the previously mentioned factors to choose which end of that range makes more sense. In addition to an actual percentage, consider also vesting timetables tied to goals.

Equity—non-cash compensation that represents partial ownership in a company—allows you to attract talent to an early-stage startup. Founding team equity is typically distributed among those who join the startup in its earliest stages, i.e., founders, financial backers, and employees.

The short answer to "how much equity should a founder keep" is founders should keep at least 50% equity in a startup for as long as possible, while investors get between 20 and 30%. There should also be a 10 to 20% portion set aside for employee stock options and, in some cases, about 5% left in a reserve pool.

Equitable distribution is a principle in divorce law governing the allocation of marital property between spouses. In states that use equitable distribution, courts try to achieve a fair allocation of property based on a list of factors or guidelines set forth by state law.

Founders typically give up 20-40% of their company's equity in a seed or series A financing. But this number could be much higher (or lower) depending on a number of factors that we will discuss shortly.