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Ask HN: Equity for a first employee
80 points by newdle on Dec 2, 2009 | hide | past | web | favorite | 38 comments
What's a reasonable range of equity (options) for a first employee (engineer; two nontechnical founders) with a 500k convertible-debt seed round?

1-2%. A lot of people say 5%. 5% is what you'll give to an executive down the road. First employees are very important, but probably not as important as your second CEO. 6% is what you give to YC. First employees are very important, but a first employee who is worth almost as much as YC should probably be your cofounder, not an employee.

This is also for your first employee. You may live or die based on the work this person does, and more importantly they may be accepting extraordinary risk (if your runway is less than 6 months, say). The same rules do not apply to employee #3.

Finally, if you don't pay the person, or if you pay them bare subsistence wages (say, $20-30k) and they're senior talent, you've introduced an additional level of risk, and you should pay a premium for that. However, there may be better ways to compensate that risk; for instance, you can defer salary at a premium rate.

A really important thing to remember about employee options is that employees don't know how to value them. You need to be really engaged with the strategic course of the business (not just the product: the business and its future cash flows) to really grok what options mean in rational terms. This is a good reason not to grant huge amounts to early employees; it costs you dearly and doesn't make them much happier.

I treat a first employee as a co-founder just with fewer shares. Its says "we're in this together" more than words can say. I have given them rights to review our financials (noone ever did, but perhaps my openness with our revenues made them comfortable), voting rights, same dilution rules as a co-founder, etc. The percent of shares varies, but being careful to not create different classes of people in such a small working group seems valuable.

You're not in this together. When you miss payroll, she gets paid first.

I've been in companies where my shares had dramatic legal rights, and where I had access to financials. I guess I liked that at the time, but to be honest, I didn't care. However, I have friends who have quit companies because they saw financials and got a warped idea of how much their time was worth, so doing that has downsides too.

There is no one-size fits all formula for this. Its what I did in the past and it had consequences I didn't dream of when I issued the shares. Here's a story of that company which shows how you can be wrong about the payroll comes first attitude:

Around '98, my company was me plus 8 employees. I was pushing hard to turn our model from a "consulting with a product model" to a full on product and platform business. This required taking some risks with our client base to enable us to invest in product R&D to make it ready for general consumption. We ended up with one client that year. They were a big-mother of a client and gave us access to a product strategy and acquisition if we pulled the job off. I became pushy with my client as we weren't getting to where I wanted to be quick enough. I finally lost my cool one day and the client told me he was through, get lost. This was going to cost him easily 20x what he had already paid to cut ties as his core product depended on us. But he was pissed off and I was pissed off and he could afford the big loss.

That same day, I went into the office after the client meeting and sat everyone down and told them our bleak outlook: we had enough payroll for 3 more months. The next day, each employee came to me individually and offered to work for free. Each one had a different story as to how long they could go without pay; 2 told me to quit paying them immediately.

They all acted like founders and I think its because I treated them like it.

This model probably doesn't scale well. But its an experience I'll never forget.

i know this is just one anecdote, but i respect that people often get what they pay for. you sound like a compassionate, collaborative, we are all in it together person. i bet you build teams. you weed out the non-committers from the beginning, and other savvy practical stuff. that's cool.

your parent post could also be sound. it depends on the philosophies of those hiring.

While I think your number is pretty low, your last sentence makes a lot of sense. These aren't investors. They haven't been looking for the the best shares to own. This is equivalent to more risk / lower value of the share to them.

It shouldn't be possible for them to buy shares at a price attractive to both founders/investors & employees.

1-2% is silly. You can get ~0.7% by coming in at the end of a round A right before around B. Do you seriously think that being the first employee, especially with nontechnical founders, is only 2 to 3 times as much risk?

Personally, I'd ask for 5% and might be willing to take 4%. Otherwise, there are startups that will pay market salaries at 0.7% with way less personal risk involved.

Well, you and I aren't negotiating, but the fact that the valley is full of shoot-the-moon startups offering almost 1% for people to take market salaries is something else I don't like about the valley. It's a distortion.

I'm apparently saying the same thing the Mint founder said, for what it's worth.

Aaron Patzer knows how to code. And, he created the first version of the website himself.

I think it is a bit different here.

The first employee is getting this percentage before most of the dilution, whereas the CEO is getting his grant after some dilution has happened. So you can't compare E#1's 1-2% to the second CEO's 5%, because these numbers are at different stages of the dilution process. (Generally, you don't have a second CEO before a few rounds of funding have occurred.)

Also, the first employee may not be more important than your second CEO, but he should certainly not be outranked by post-funding VPs.

How true is this really? Employee #1 is getting diluted way down if the company takes a B round, but isn't getting diluted at all if the company gets snatched up early.

Should your first employee be outranked by a post-funding exec? Well, Twitter hired Dick Costolo. You need some pretty amazing Django chops to "outrank" him.

The people saying 5% are probably wishful thinkers. It's a fact of life that in all but very very few cases it is only the VC's and (sometimes) the founders that get rich.

There are exceptions, I got a tiny part of google because I was there (briefly) very early and that paid off nicely. And there are other examples of non-founders doing well, where "well" means life changing amounts of money (measured in millions).

But people need to keep in mind that those are exceptions, not the rule. Most non-founders end up with what amounts to a nice bonus, a year or two's salary.

Unless I'm mistaken this question was sort of "what's normal for this situation?".

What's normal varies but not by much. 5% is high. I agree with tptacek, 5% is what you give the 2nd CEO (which is a different topic, that's usually 5% wasted because that CEO will probably drive your company out of business. Anyone remember the Pepsi guy running Apple?). .5-1.5% sounds about right for the first engineering hire.

Remember, you can always give out more stock but it is close to impossible to take it back.

If software is the product, I suggest the first engineer should be taken on as a co-founder and/or get the same equity as the non-technical founders. Anything less will undervalue the incredible and unique contribution of that engineer.

Otherwise, I've seen two methods of valuing startup equity offers:

1. Options are worth nothing, until they are worth something.

2. Options are worth their face value times the probability you will meet that face value. Example: 2% equity of a startup targeting a $100M exit, with a 1% probability of hitting that exit = (2% * 100M) * 1% = $20,000.

I agree with other commenters that a chance at "life-changing money" is usually required for higher-risk situations like being a first employee. So that's the real test, not a fixed percentage.

I hate to get too Paul Graham-y on you, but it depends if this person is genuinely interested in your problem. 1-2% equity isn't going to solely motivate a talented engineer because that's unlikely to convert into life-changing money.

Agree. If we're talking about investing a huge chunk of my life on someone else's startup, a chance at life-changing money is just about the only thing that will do. %1 diluted in 2 follow-on rounds sounds good if we're talking about a chance at a very large exit, but otherwise you've got to be kidding.

I joined a startup in a very similar position. I ended up taking 4-5% equity, and about 50% market salary. This was perhaps a bit low, as it was barely enough to get me and keep me on board at the early stages. But the salary went up as we grew, so now I'm quite happy.

Also remember this is an early round, and that 4-5% will get diluted a lot as you take more venture. So it's not really comparable to what a future CEO might get.

Are the founders non-technical? I think that makes a huge difference.

One was technical, one was not.

With similar funding, I've given 5% reverse vested shares to a tech employee. It created vast incentive, and if he stays with the company for 3 to 4 years, he certainly earn the 5%. I also gave 7% to a key tech employee before...no regrets.

How much did that 7% end up being worth, and how long did the company last? Those two factors probably play a large role in how much you regret issuing them. If the company came to nothing, or if you gave up 7% and the company exited before it needed new management or a large number of employees, sure, maybe you don't care. Pick a number out of a hat!

That company ran for 8 years. We had great revenues and shared the wealth relative to ownership, but there ended up not being an acquisition. During the high times and opportunities of acquisition, I never thought "I wish I had given up only 2% instead of 5%". I always knew that if we needed to dilute the holdings to take on a new CxO we could do so and all would be ok. I was careful to explain to people that if we grew by leaps and bounds dilution would occur, so get comfortable that your X% will get reduced.

Depends on the pay. If you're paying market, < 1 %. If you're not paying market, match the difference to a max of 3%. Either way, make sure it is vested 1/36 every month for a period of 36 months. But if you get bought out, or go IPO before that time frame, make sure all of that is vested. And also, if you get funding that pays out the founders in some way, find a way to pay something out to the employees too.

You can't promise that all your employee shares will vest on change of control, because many big companies won't buy you on those terms. Also, even if everyone does vest on change of control, valuation and terms can be structured so that options aren't worth much, and employees are handcuffed by retention grants.

My rule of thumb (early stage at least):

Start at 2% and increase by 1% for every $10k under market your paying in salary.

I'm happy to give 5% in equity to a top-notch engineer who is taking a 30% pay cut.

I've said a few times recently on this site: if you're the first engineer in a start-up, you're either a (co-)founder or a chump.

Ask for founder level equity and founder level control (both over the business idea and the technical implementation: non-technical "managers" have a nasty tendency to make horrible technical decisions for "business reasons" -- think being forced to use "enterprise" software vs. open source alternatives, e.g. ASP.NET + SQL Server or Oracle + EJB).

If they say no, move on. There are thousands of early stage start-ups. Being a the most technical person in company of "business guys" sucks for an employee and brings no benefits associated with being in technology start-up (a greater freedom to choose technologies to work with, a chance to pursue fascinating problems rather than build CRUD screens for sales people).

On the other hand, if you're working for a large software/Internet company (or high growth, late stage tech start-up) you can at least be sure that your manager is technical and on your side. What rational reason is there, then, to choose to be the first engineer in an already established company (given your equity will likely end up being worthless)? There could be exceptions: if the company broke into an entirely new market (product has to be "good enough" vs. high quality), or if the founders gave you absolute freedom to choose the technology (e.g. letting you use Haskell and Erlang if you so wish), but generally the scenario is "I'm a business guy with a super-duper idea and I want an engineer to build it for me in two weeks, in PHP".

To the "business guys": any technical guy who accepts this situation isn't a "gold mine". He either doesn't know his own worth (and thus can't know your products' worth), is inexperienced (won't be able to build a product that would be a fit most market) or has nowhere else to go (can't build a good product for you). If he is competent, experienced and confident, he may simply be looking to take/explore your idea and then build a much better version of it himself (e.g. what Zuckerberg did with Winkelvoss brothers)

Interesting question.

Assuming this engineer is fairly valuable to your startup due to the non-technical co-founders, you might have to give up more than normal (0.5-1.5% equity). I don't have a number in mind, but I'd be interested in hearing other people's thoughts on this.

Guys, thoughts?

Mint's CEO gave a talk that covers this:


His first engineer got ~$50K + 2% IIRC.

That looked like a very good video but I could barely view it, horrible quality - this looks like the same video but the quality seems to be much better: http://www.youtube.com/watch?v=cRfV0YfvDP4

That's actually pretty much in the ballpark (0.5-1.5%)

It seems like there's vague consensus on first engineer equity. Are there any common rule-of-thumbs for Nth engineer (or Nth employee) equity?

1% could be too high and 5% too low. I have always operated under the assumption that to pay someone fair value is important. So if someone is coming on board and taking risk, that risk needs to be compensated. Usually we have brought people in at below market wages and made up the difference in the form of options which get them "whole" on total comp. (However, we do make sure there is a vesting schedule which is appropriate to the circumstances). Valuing each of the pieces can be easy if you already have a round out there and can model the options. Any skilled financial profesional can help on this, if internal resources are insufficient to do so.

I should note, we are never addicted to outside money. We try to bootstap as much as possible and plan always to make it without taking in funds which may prove costly or hard to get. In other words, we always try to manage our cash carefully and not take VC or angel fund unless absolutely necessary.

You do not describe the nature of the company. If its a technical company and you do plan to stick around, you should negotiate founder stakes, which degrade to employee options if you quit within say 4-5 years. Since none of the co-founders is technical this is reasonable.

2-2.5% and a lowball salary is right. I would argue that folks are only getting more when the founders are weak in some area. If you are weak and the 1st emp is a sick engineer give whatever it takes to lock up the talent. Otherwise 2% and 50k is right.

how do you guys feel about .. how much equity first employee should receive with little to no pay, as sort of like a side project ?

if there's no pay, that's not an employee- that's a founder.

Someone whom you aren't paying and aren't treating as a cofounder is a risk not an asset.

Doesn't that hugely depend on his salary?

Are you the prospective employee or the employer?

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