Founders, Allocating Equity and Avoiding the BIG Mistake
Transcript
In the past, we've talked a lot about fundraising. We've talked about convertible debt, SAFE, equity, all kinds of structures.
But what we failed to do is talk about what kind of structure you need in your startup before you even think about fundraising.
I want to set you up for success and help you avoid the biggest mistake I see first-time founders make.
You see, most first-time founders will get together, they'll start their company, they'll divide it up equally, and then they'll start operating.
And what they fail to realize is that what seems fair today may not be fair tomorrow
depending on who does what.
Let me give you a simple example.
What if all three of you were three equal partners?
Two of you left after six months and one sojourned on for a long time.
That person sojourned on for 10 years, sold the company, had a big windfall.
Wait, should all three of you split that windfall equally?
Even though one partner was the one who did all the work for 10 years and everybody else left after six months?
Of course not.
So how do you solve for this problem?
You have a thing called a founder's agreement.
And in that founder's agreement, it specifies founder vesting,
which means, yeah, you each will ultimately own a third of the company if you stay for the vesting period, the whole period of time.
You see, the beauty of a founder's agreement is you do it when you're all friends.
It's sort of like a prenuptial is for a marriage, founders vesting is for a startup.
And it protects the founders, but it also makes it easier to fundraise.
You see, what would happen is, in this case, if we did founder vesting over four years,
two of the founders left after six months, that founder who stayed on and got fully vested
will end up with eight times the equity that each of those other two founders had.
That seems fair.
It also makes it easier to raise money.
You see, as an investor, I've seen the case where you have three original founders, two
of them have left, and half of the cap table is taken up by people who are no longer involved
in moving the business forward.
I don't like those deals because half of that cap table, half of the bonus, half of
the upside is going to people who have no influence on the company.
I'd much rather have the founder who stays, the founders who stay, be the ones who benefit.
They're the ones who can work hard and have the great outcome.
So, before you do any fundraising, before you do any formation, think about a founder's agreement.
Think about having vesting so that your equity in the company will vest over time.
And then you'll be in a position where it'll be better for the founders and it'll make it easier for fundraising.
But don't go run out and do it yet because next time we're going to talk about the mechanisms
for doing it and it's really important that you get this one right.
We’ve talked a lot about the different ways to structure your fundraise. Today, we are talking about a critical tool you need in place when starting your company, the founder agreement. Some may think it’s simple, just split the ownership equally between the founders. But what happens when a founder leaves the company? Are they still entitled to the same return as the founder that has continued to work to bring the company to success? Watch today’s video hear more about what you should consider in your founder agreement.
Originally published on the MATH Venture Partners blog.