

Ask HN: I've been offered 5% stake in a startup. What should I think about? - hellocoins

Hi Everyone,<p>This community is great at giving advice on various topics. I felt I should post this to see if you can help me with my decision.<p>A couple of months ago, I was approached by a founder of a new startup to help build his company's online presence and build software to integrate with his partners. For this he offered me a 5% stake in his new company, an LLC, for 1000 hours of development time. As I get closer to making a decision, I would like know what I should be worried about in these kinds of deals? What questions should I be asking? Are there any legal ramifications I need to think about?<p>I don't have any experience with startups, besides what I read about on HN, so any questions, comments, recommendations are appreciated.<p>I won't be going into too much detail about what the company does, and I'm using a throw-away account to post this, but I will try to answer any questions you may have.<p>Thanks!
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jaltucher
\- Do you vest?

\- If you vest, what metrics determine if your vesting stops? Can they do it
arbitrarily, etc

\- what if you finish your work in less than 1000 hours?

\- you should have some benefit if you finish the work and then continue with
the company.

\- Does the 5% already have a value? In which case, if you get your stock up
front you might have a tax implication.

\- whats your anti-dilution rights? You should have the opportunity to
participate pro-rata in any dilutive event (eg. a fundraising)

\- the other founders should have a non-compete (so they cant sell the assets
to a brand new company)

\- if vesting, they should vest immediately on any change of control

\- what if your responsibilities change so you are not doing development but
some other work (biz dev, sales, etc.

\- i would do basic due diligence on founder and current investors. background
checks, etc.

\- what does "5%" mean? Do they have an option pool set aside already? Can
they issue arbitrarily more options?

If you have any questions on these I'll check back and answer.

~~~
hellocoins
Not sure I understand vesting in general, but I will do some research to have
the questions you have here answered. Thanks!

~~~
jaltucher
Vesting means that you get your shares over time. there's several things that
can be happening in your deal:

1) you get your shares right away but they are restricted until you put in
your 1000 hrs (this might be best because it starts the long-term cap gains
clock ticking)

2) you get your shares in 1000 hrs (i dont like this. what if he raises money
at a 20mm valuation. you might have a serious tax implication). This is a form
of vesting.

3) the 1000 hours happen and then you get your shares over time (vesting)
after that

4) all of the above, but you get options instead of shares. Not sure if I like
this either but depends.

But all the other things I mention (anti-dilution rights, non-competes, change
of control, change of responsibilities, etc) are all very important. you can't
do a deal without everything spelled out.

~~~
jaltucher
If the company raises money 900 work hours from now at $1 per share and they
have 20 million shares then 1% of the company is worth $200,000 then. If he is
granted the shares then he has to pay taxes on that (he can get away with a
discount to that but he still has to pay taxes of some sort).

Right now the shares are probably worth zero. So if he's granted stock now
there are no tax implications.

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patio11
1000 hours is half a year of work. Do you have an indication that this guy is
not a bozo? Because I have one piece of evidence which strongly suggests bozo:
he's trying to get a technical cofounder for 5%.

~~~
notahacker
Of course, _in theory_ it's only 1000 hours, which is quite different from
what a technical cofounder for a startup might have to put in before seeing
any money[1]

Until 1000 hours have elapsed, there's more work to do and they're seeing
signs of promise but still don't have the budget to pay you (or someone else).
When your chances of seeing any return on the work you've already done depend
on their startup being successful it's going to be _very_ tempting to do more
unpaid work to try to make that measly 5% stake worth something.

If you were the first paid hire at a startup you'd probably also get a low
single digit equity stake. And six months salary for six months work.

[1]The other way it's quite different from being a technical cofounder is that
presumably you don't have any influence over any strategic decisions they
make.

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wtvanhest
I'll give you 6% for my "startup" for 950 hours of work.

<B>Jokes aside, the MBA way of thinking is as follows:</B> 1) What has he
already provided for the other 95% (customers, revenue etc)? 2) What is the
chance that this startup will be successful and yield a big enough return on
your investment?

Here is the math:

Amount of cash the 5% will yield on exit needs to exceed the Salary for $1000
hours of work multiplied by (1/(probability of success).

If the two above make sense, then you need to consider the opportunity cost of
spending the 1000 hours on his project over another one.

<b> Other way of looking at it:</B> Do you really like working with the guy?
Is he brilliant, a good team and your not sure where it will end up? If so,
maybe it is worth negotiating either some up front cash or a bigger percentage
if the math doesn't work and just go for it. Worst case scenario you loose
some opportunity to work at another startup and you get some business
experience and programming experience you wouldn't have otherwise.

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binarysoul
I always recommend getting some kind of hourly rate, as well as a percentage.
That way if the stock ends up worthless, you still got paid something.

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joshu
He's offering you an opportunity to be his cofounder. Given the high-risk
nature of the opportunity (no funding, no salary, no customers, etc.)

Does 5% feel right now? My gut says no. Ask for 30%?

(On the other hand, 5% + a salary for first engineer is pretty generous)

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thewordpainter
I think it's strange that the percentage is tied to a set time period for your
contribution. Who knows exactly how long it will take at this stage?

If I were you, the biggest question I would have would be posed in the mirror:
do I believe in this company? 5% -- or better yet, 100% of nothing
is......nothing.

~~~
hellocoins
From what I have seen, it is a great team of people. And yes I do believe in
what the company is trying to accomplish.

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dlevine
1000 hours sounds like a lot of hours for a contract to work with a startup.
Does this mean that he's considering bringing you on as a cofounder, or would
this be more of an advisory role?

Even if I plan to potentially come on full time and take a significant equity
stake, I've learned (the hard) way to always charge for my work. Equity is
essentially meaningless before a certain point in the startup's lifecycle.
While this potentially allows you to get in early on in the startup, a number
like 5% means that the guy doesn't really value the equity all that highly
yet. Considering that a lot of founders don't give their first employee 5%
(and that vests over 4 years), he either thinks that you are awesome, or
doesn't really know what he's doing. I have seen new startups bring an advisor
on at 5%, but that implied A LOT of work, vested over several years, and it
always seemed like they were being too generous.

If the company is structured as an LLC, it probably isn't going to be a
standard startup. If you want real investors, you have to form a C Corp (since
there are too many restrictions on transfer of shares in an LLC).

In summary, I would take cash, and setup a contract for 100 hours at most.
Feel free to take a significant hit on your normal consulting rate, but charge
him something. Also structure the contract so that there are well-defined
milestones, and you get compensated as you hit the milestones.

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drallison
BOE scenarios. For simplicity, I assume you earn $100/hour. So the deal
offered is #100000 for 5% of the company. That suggests a $2,000,000 valuation
of the venture at the present time. Is that reasonable? Would you invest
$100000 of your own money in the venture? If you were to put your own money
into the venture, what kind of return would you expect in a year? five years?
ten years?

What is the vesting schedule? What is the actual cost to you of the stock,
that is, what is the current value? What is the cash-out strategy? Are you OK
with all your compensation being in stock for which there is no market? Has
the company been funded? What about dilution of your share by future
investors? What happens to you after the six months is up? Are you critical to
the success of the venture? Who owns whatever intellectual property you
generate in the course of your work with the venture? How do you participate
in the upside if the company is a huge success? What happens it the venture
fails? what if it just ends up as the living dead, surviving but not
prospering?

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vanessa
Is it possible the company may not have more than 6 months of runway? 1000
hours couldn't possibly be a well-scoped amount of work. You're not being
given the security or compensation a full-time hire deserves OR the finite
scope a contractor deserves. Even if you believe in the company and think the
5% is/will be worth something, consider what specifically you're being asked
to do and be very clear with expectations. I'd also break up the agreement
into smaller projects, with both cash and equity if you want equity, so that
you have the opportunity to part ways on good terms instead of an all-or-
nothing equity lump.

------
orijing
Who are the other members in his organization? Is he the only founder? (Does
he own the other 95%?) How much funding does it already have/does it need in
the future? (Dilutive potential)

What are your alternatives? If you have a 250k salary job elsewhere and you
have a family, the safety might be worth it. What are your circumstances? The
value of a stake in a startup is highly context-sensitive.

jaltucher brought up some great questions you should answer first, so you
should take a look at his questions first.

Good luck.

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chrisgo
Don't worry about the hours, it's the 5% you should be thinking about,
specifically dilution. Watch the movie "The Social Network" and what
(allegedly) happens to Eduardo. He had 30% and then ultimately had 0.03% ...
unfortunately you have to watch the whole movie to see how that works.

Here's Fred Wilson: [http://www.avc.com/a_vc/2010/10/employee-equity-
dilution.htm...](http://www.avc.com/a_vc/2010/10/employee-equity-
dilution.html)

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malandrew
Before you even consider the %, there is a much more important question:

Do you believe in the startup? And if you do, do you believe that there will
be a market for the 5% stake you get.

A "no" to either question suggests that you should work for the money and not
the equity.

Assuming the answer is "yes" to both, what are the terms under which you can
unload that equity later on?

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csomar
I think you forgot the most important thing: How much this startup makes? Did
it raise any money?

And since he is looking for free work, so the startup did raise no money and
did make no money, too.

P.S. HN users, I have got a startup and I just need 500 hours of work for 20%
stake.

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mdink
This is strictly business. I would get / create a full contract that
immediately clarifies how and when you get your percentage. Also what type of
stock is this? I second jaltucher's response.

