

Ask YC: Help in negotiating my stake in a start-up - SamanthaG

I have been asked to join a start-up recently and will be the 5th member. The original founders go back about 18 months and have up to now been the driving force behind the business. I have been offered a 2% stake with share options to 4%. This is the same as was offered to the 4th member. The 3 original founders each have 31% each. The remaining 3% is to go to certain other smaller investors.<p>This is a banking services/technology start-up and I am to be the legal and compliance director,I am a banking lawyer by profession.<p>My gut feeling is that I am not being offered enough equity here and that there is too much disparity between my % and the original founder's 30.1%. I had expected to receive nearer to 8%.<p>We will shortly be approaching angels/vcs for round 1 funding and the 3 founders proposals is that they will dilute their shareholdings for the VC etc and my stake will be protected from dilution at all stages.<p>Does this seem fair and equitable to you guys or am I being ripped off here? I have thought about it so much I can't think clearly about it at the moment. I am taking no salary and working for "free" in return for this stake, though I will get some salary though much below market rate probably year 2 or 3.
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cstejerean
It comes down to an investment decision. Do you want to invest 2 years worth
of salary into a company without a product in exchange for 4%? You're
basically giving the company a yearly salary x 50 valuation. Pretend you're an
angel investor and think about whether or not this is a good investment.

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bigtoga
| my stake will be protected from dilution at all stages.

So you are being given preferred stock? That's the only stock that I can think
of that would prevent dilution during later stages. I find it difficult to
believe that a _smart_ startup company that would give out preferred stock to
employees. I also can't imagine VCs/angels who would invest in a company that
had just given preferred stock to a "Legal and compliance director" (no
offense but that title isn't necessarily thought of in terms of bringing
revenue in as highly as a developer or salesperson).

A 2% stake could easily get chopped down to 1% or .5% on liquidation due to
various means. Assuming a five year growth-to-liquidation, does 1% of a $100m
sale ($1m) justify taking no salary for 2-3 years and then a below-marketing
salary for the remaining time? Balance that with the risk that the startup may
fail, not raise as much money as they thought, etc...

A least two key factors you need to think about are (1) what you expect the
company to get acquired for, and (2) when you expect to be acquired. A $10m
sale in year 1 means you get $50k-$100k (being optimistic) for one year of
work. A $10m sale in year 3 means you get $50-$100k for three years.

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SamanthaG
Thanks for this.

We're still in early discussions. No it wouldn't be preferred stock, just
ordinary. They seem to be proposing that a shareholders agreement will
contract for my stake to be protected, but, as you know, a VC will restructure
all the shareholders if it wants to, so that doesn't work.

My calculations are based around a sale value of around £50million to
£90million in about 5 years which at 2% would make my stake worth £1million in
5 years time (if £50mill sale price) but that assumes I don't get diluted
below 2% etc and that is why I think it is a too low % stake for me to accept
since it would only give me double the salary I could otherwise earn over the
same period.

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aneesh
Okay, then it's easy ...don't take the job!

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tptacek
I can't imagine that in any real company, employee shares would be "protected
from dilution at all stages". It is, for what it's worth, largely not up to
the founders; if they want a VC round, they're going to alter the structure of
the company to suit the VC.

4% of a company that has been operating for 18 months is a huge stake.

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SamanthaG
What do you mean by "operating"? You could well be right but there is no
hackin or anything going on here, its more the founders going round looking
for customers and creating relationships with strategic partners etc. There
are no contracts signed yet, no shareholders invested yet. Don't get me wrong,
I am not trying to discount in anyway what they have done, I am just trying to
get to a situation where I can understand the best way to "value" what I am
being offered a stake in, so I can compare what they are offering me against
their stake.

~~~
tptacek
18 months of 50% effort at no salary = 9 months full time no salary. Why do
you think a 21% gap is too high for that?

Again: 4% is a very large share for an employee. When the company comes to its
senses, nobody else is going to get anything even in that neighborhood.

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boucher
4% isn't in any way an unreasonable share for a first or second hire,
especially when they're asking you to take no salary.

~~~
tptacek
I agree, it's not unreasonable. Just high.

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sonink
On the outset if you think the startup would do well, then I would suggest to
join even at a 4% rate - the reason being that its better to join a more
promising startup at a below market compensation rather than the other way
round.

One way of coming with a good figure is as follows:

Assuming your market salary is x /mnth and the founders is y /mnt. Also,
assuming that you get funding in about an year. Then finally based on the
assumption that the startup equity is a function of hte risk that you take,
then each founders total investment comes to:

12y + 18y

and your investment comes to:

12x

So essentially your stake in the company should be around

12x / 3*(12y + 18y) + 12x

Also, there is no basis for your stake to not get diluted and incase the
startup goes for multiple rounds 4% might looks like a very high figure which
the founders might end up not being very comfortable with.I would suggest, and
for other reasons also, that you might consider negotiating a bigger stake and
accept dilution.

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SamanthaG
Yeah, I am trying to negotiate a bigger stake but with dilution.

None of the founders have been working on this full time over the last 18
months, I would say about 50% of their time, it is only now that everyone is
coming on board full time. We have lots of customers knocking on the door for
the product which is down to them. I am being told the figures being presented
to VCs indicate the company may be worth about £6m today, though we have no
contracts in place yet.

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CapnObvious
As the 5th member that's pretty low. Last year I was offered 1.5% and would
have been the 12th employee at a company that had been around just under a
year, the only reason I didn't take it was the salary was too low to live any
kind of half-enjoyable life. Now of course the company has about 35 employees
and they seem to be doing well, although they're in a saturated market and I
can't imagine them fairing very well in an economic depression. At this point
I'll only kick myself if they get acquired and my 1.5% is suddenly worth upper
6 to low 7 figures.

If you're to be the 5th and crucial member, I'd fight for more or don't
bother. The fact is most startups don't get acquired and you aren't going to
get rewarded for your 80 hour weeks and below market salary - but you will
have learned a lot and you'll probably have less hair.

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bdfh42
My feeling would be that 2-4% plus a market rate salary would be about right
post the first VC funding round. Ahead of that, then the offer feels too low -
particularly as you are effectively investing your salary on a monthly basis.

One mechanism you could apply - take your personal valuation of the current
worth of the business IP and divide it by your notional annual salary for the
next couple of years. What percentage does that come out at?

~~~
mlinsey
2-4% _and_ a market rate salary _after_ a VC funding round is about market
rate for an experienced executive, eg someone brought in to be a VP of
Engineering.

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colortone
It's hard to see how they can guarantee that you won't be diluted.

There's a lot of variability in these kinds of negotiations. If you really
think the company is going places, negotiate for as much as you can and say
"yes" before it puts a strain on your relationship.

FWIW, if the other cofounders are close to having customers and a functional
service, I think their offer is in the ballpark and you could easily justify
taking it.

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ericb
4% non-dilutable (if it really is so) and 8% dilutable may not be so different
if there may be more rounds. And 8% is a LOT if they have cumulatively
invested 4.5 man-years and you have invested none so far.

If they give large percentages to every new person, the math doesn't add up
and they'd have little left at the end.

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cstejerean
There is a solution to giving large percentages to every new person: pay them
a salary, even if below market. If you're paying someone with equity only
you're asking them to assume all the risk of the company failing, which is
fine, but you'll need to compensate them for that risk in addition to
compensating them for the work they will put in.

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aneesh
Several factors to consider: Are the other founders taking salary? How will
they protect you from dilution? Why won't they pay you at all even if they
raise money now?

But generally, 8% is pretty high for someone joining 18 months after founding.

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SamanthaG
If funding comes in, we will all have some salary, albeit well below market
rate, which I suppose is fine, its a start-up. Why is 8% high for a late
joiner?

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lisper
Because the people who came before you have mitigated a lot of the risk.

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mpc
4% is pretty high coming into a startup over a year after its founding.

You're coming in at a point where there will be significantly less risk.

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cstejerean
I started my company 1 year ago. I haven't found any clients and haven't built
a product, but I've traveled around the country talking to potenatial
customers. Want to come work for me with no salary for the next 2 years in
exchange for a 4% stake?

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mpc
I understand your point here, but this situation appears to be a bit
different.

\- VC money and some salary is on the way shortly
<http://news.ycombinator.com/item?id=178290>

\- The idea seems to have matured and people want it.

Sounds like a good deal to me.

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cstejerean
VC money and salary is on the way in 2 to 3 years (according to the initial
post). And having an idea of something customers want is good, but without a
product it's still a huge risk.

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ideas101
read <http://blog.guykawasaki.com/2006/03/nine_questions_.html>

