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Equity distribution in a start-up environment...

I'm a programmer/designer who recently engaged in a start-up venture with two business associates.  My two associates had some ideas that they felt were novel for a web based product management system, and they approached me to do the implementation/design of their product.

Quick personal background: I've been programming for 10 years now, and have extensive experience implementing software projects from beginning to end (this one is in java/servlets/xhtml), as well as designing user interfaces and handling the other misc. visual aspects of those products.

It's been my personal experience that when business people set out to start a technolgy company, they usually need to raise money to have their R&D completed and tech workers compensated adequately.  Otherwise, I always thought it was the tech people that retain control over the product they implemented, if they were not being compensated by a company to implement that product (even if the 'idea' did come from somewhere else).

The situation is that the two associates would like me to implement their idea, design the site/application involved for it, and contribute my own ideas to their product (they don't have a finalized design, and they're far from usability experts) for a 33% share in this "company" with an additional $5k of compensation to accout for the fact that they will be doing essentially very little while I implement this idea.

I feel that this offer is absolutely crazy.  I'm perfectly capable of implementing an idea analogous to theirs completely on my own, without any outside help.  I'm also aware, however, that if I were to do such a thing, I'd need to locate people such as these to run the business side of things.  Joel has influenced my thinking and has convinced me that an idea without an execution is .. well .. just an idea alone, and that the real value created by a company is in that company's execution of a given idea.

I'm looking for some open ended opinion on this sort of situation from some good developers out there (those capable of roughly implementing small/medium products on their own, who would be approached with an offer such as this one).  Is this sort of situation reasonable?  What sort of business situations have people engaged in surrounding their own software implementations?  What about software implemented "for" others in a similar situation?

Thanks!

Jason
Monday, August 04, 2003

I can't really say much about my own situation currently, apart from say that I've had experience in it.  I'd say your instinct about execution was right on the money.

Right about now, I'd be checking things off a list about your two potential partners:

- if they're proposing a product, they better be talking to a lot of people right about now, saying what they're going to do and soliciting feedback, working out exactly where the problems are that your product is going to solve

- they are refining their idea of the characteristics of the potential customer base by making sure companies of all different sizes and industries (which they are meeting day in and day out) are having the problem they think they have, and exploring the nature of it.

- that they know a hell of a lot of people in the industry

- they've built a successful business before

- they've got a lot of people they can call on when they don't know how to handle a situation

You are right that an idea, and even a completed software product created by yourself may not get anywhere... if your two associates are going to do the rest of it (which is a tough job), they have NO excuse to be doing 'essentially nothing' while you are creating this thing.  They've got to be talking every day with companies that have very real problems that your product will solve in parallel with your development, feeding back all they learn about the problem so that when you've finished, what you are creating is what companies want.  Then, conveniently, you've got a whole lot of 'test cases' waiting for your product and an already established customer base (albeit of very early adopters).  If they aren't doing this now I'd be exceedingly wary of touching it unless you're capable of delivering the product without high personal cost, and you are OK getting a total of 5K for this work.

Just my 2c.

Konrad
Monday, August 04, 2003

Another thought - you are getting 33%, are the other two associates in this deal getting 33% of equity each as well?

If so, this is a bad move.  Always have *one* person who in the end calls the shots.  An equal spread of equity feels right when everybody is in it right from the start, but peoples ideas will differ, and it can lead to paralysis and a lot of bad feeling.

There should be someone who you trust who has more experience than the rest of you in running this - someone who has brought a business through all of this before.  And they should have the biggest slice of equity and as a result, the biggest say in what should happen to run the business.

Konrad
Monday, August 04, 2003

"they will be doing essentially very little while I implement this idea"

I'd say this is a very clear sign that they are planning to be "overhead". I would not go there.
Ideas? I have about a dozen if you leave me in a hottub for 10 minutes. Now how much is that worth?

Just me (Sir to you)
Monday, August 04, 2003

Anyone can have an "idea." It's making it work that's important. You're the person who can do that.

Why don't you just go ahead and do it. Then, when it's working, if you need salesmen, hire them on salary.

Under no circumstances accept the deal they've proposed. They would run you ragged, blame your for not meeting deadlines, and then probably deprive you of the piffling equity anyway.

echidna
Monday, August 04, 2003

"Why don't you just go ahead and do it. Then, when it's working, if you need salesmen, hire them on salary."

I'd disagree - I'd start talking with potential customers first and make how much of what you propose to build hits the spot, and whether it really solves problems which people see as needing to be solved, and how urgent they are looking for a solution.  The last thing you want to do is spend valuable time working on something that could be a great idea, but wouldn't be profitable, or that gets a lukewarm reception, or is just plain very hard to sell.

Konrad
Monday, August 04, 2003

You haven't given enough information.  If your two business partners are well known throughout the industry, then yes it may make sense to take a 33% stake.  If they're just a couple of 'idea' guys with no industry experience and little in the way of business experience then no, it's probably not worth it. 

"If you build it, they will come" is 100% applicable to the software business.  You need an infrastructure to get the product to the people. 

And for the guy who said somebody had to have >50% equity to call the shots:  There's a million different ways to structure an entity.  You can seperate voting rights from equity stake.  They could set it up where everybody got 33% equity yet one guy gets 3 votes compared with the other two who only get 1 vote.


Monday, August 04, 2003

Fair play, but I'd say it would be beneficial for one person to have more of a say, whether this is structured through equity or voting rights etc.  If you set up voting rights like this, as long as everyone is mature enough to respect them, then no worries.

Konrad
Monday, August 04, 2003

33% is a lot MORE than is generally offered. In my experience, a more typical equity stake for a technical contributor who's ALSO taking a salary is between 5 and 20%.

The question you have to ask yourself is whether you're convinced that the idea is good, and that the people will run the business well.

Brad Wilson (dotnetguy.techieswithcats.com)
Monday, August 04, 2003

> a more typical equity stake for a technical contributor..

Yes, but that's where the offerers actually have created a business already. In this case, it's the so-called "technical contributor" who would create the business.

It's a recipe for disaster. He would be flat out all the time while the bus-guy geniuses went to lunch. Then they would take the credit and the money

echidna
Monday, August 04, 2003

Brad is right. If it is a solid idea and these two are experienced entrepreneurs with prior sucess... Well then, 33% is better than anyone else will ever offer you.

The red flag however is that they offered 33%. They hints that they don't have much experience building a start-up.

Marc
Monday, August 04, 2003

If you are going to have other employees where is their stock going to come from?

If you give power to others be prepared to be fired
once they don't need you anymore.

valraven
Monday, August 04, 2003

Marc, if you read the guy's post, those two clearly are NOT "exprerienced entrepreneurs" or whatever.

> the two associates would like me to implement their idea, design the site/application involved for it, and contribute my own ideas to their product ...

It's curious that Brad and others seem so keen to impute knowledge and wisdom to these "entrepreneurs." From the description, they clearly aren't.

You used to see this on game mailing lists all the time: someone would announce they had a genius idea for a new game. All they needed was someone to just write the 3D engine ...

echidna
Monday, August 04, 2003

Equity issues are always tricky.

The absolute best info I've ever seen on the subject was posted on ArsTechnica a few months ago.  Here's the URL to the post I'm talking about:

http://arstechnica.infopop.net/OpenTopic/page?a=tpc&s=50009562&f=34709834&m=4300998165&r=4770929165#4770929165

Norrick
Monday, August 04, 2003

echidna,

I think you are too quick to judge based on one persons post. For all you know these guys have started several in the past.

Even if they didn't, most of the software today is built by companies founded by "losers" in the traditional sense.

Hell, even if they are experts the concept could sink. So all he can do is judge them on his personal experience, not out uninformed opinions.

Marc

P.S. Could everyone please stop saying ideas are a dime a dozen? Crappy ideas maybe, good ones are a lot harder to come by.

Marc
Monday, August 04, 2003

A 33% equity offer demonstrates that these two are totally clueless. They shouldn't be offering you more than 10% tops and probably less. One rule of thumb is that new hires get 10/n% where n is employee number (founders may be excepted). That suggests between 3 and 10% for you.

pb
Monday, August 04, 2003

The last question you should ask yourself is "is it fair?".  You have to look at their offer objectively:  Is it going to be worht the time spent, given how much you value your time?  What is your estimation of the chances of this venture succeeding, and what will be the subsequent value of your share?  Multiply those two numbers, and compare the result to what you might have made working as a contractor for the project (minus the 5 grand in cash they're giving you).  If it's higher, do the deal.  That's the way any business would evaluate a deal like this.

Ken
Monday, August 04, 2003

"They shouldn't be offering you more than 10% tops and probably less. "


Slashdot called, they want their troll back

frmt
Monday, August 04, 2003

Even if the offer was I get 95% ownership and they get 5% I would say no.

Why? Because these guys are NOT going to do the marketing work needed to push this product. They have NO mootivation becasue they have NOTHING invested in the idea. This is how people work. If  they have nothing invested, they don't care and won't work hard and will easily walk away. To have business associates that will promote a product, they HAVE to be invested. You have to have buy in from them. They aren't bought in at all. They are just looking for a free ride. They are lazy.

Answer me this -- if these guys really had any marketing ability or business sense, why on earth don't they have even 1 cent to invest in this business start up? Surely hey could sell a bank on the idea to get a small business loan. Or mortgage their own houses to finance it.

Doing for equity is RISK. You need a BIG payoff to accept that ort of risk. So, you are doing all the work yourself. You are an architect and a coder. That's a rare combination. Your base salary is $200,000 - cash. With benefits.

You are asked to accept $0 for a possible later payoff. 95% of startups fail. So to manage that risk, your payoff needs to be $4 million. For these guys to get 33% themselves, they need to each be investing $4 million themselves personally. If they are not, 33% share is not fair in the least.

If you want to do this, make a counter offer. Tell them you are going to implement the idea yourself and you don't need them because you have a friend who is a great business promoter. But if they want in on the action, you'll let them be an early investor. You'll sell them 66% equity in your start up for $8 million. Or, if they like, you'll sell them 6% equity for $800,000. It's their choice. Take it or leave it.

Report back here on how they respond.

If it's a good idea and you are doing all the work, you should get all the money. If someone is fronting you money, you balance their share against their risk and your own risk and investment (in time, resources, tools).

If they mortgaged their houses and were putting in $150,000

Dennis Atkins
Monday, August 04, 2003

Yuck, ignore that stray sentence at the end.
I didn't state it explicitly, but the analysis is based on your doing 1 year of free labor. If you do more than a year of free labor for someone else you are really insane. Some would say if you do any free laber, but a lot of engineers seem to like to go through this scenario at least once and then leave, bitter, angry and depressed. That's what's almost completely assured here, but I realize that it will be hard to convince you of that unless you've seen it yourself first hand. It'll be an educational experience for you from the school of hard knocks.

Dennis Atkins
Monday, August 04, 2003

This is what a real entrepreneur would do- go and presell the idea, to make sure it was viable. Then, raise initial funding to hire developers to build the product and start first phase sales. If they appraoched you with a paltry salary offer and a few thousand shares of stock, then you might not like them, but at least they are on the right track.

Anyone who approaches you to do all the work, first, for 33% of the business, doesn't have clue one how the world works, and you will find yourself, months down the road, project half completed, with two partners who have since taken other jobs and only talk about the subject when they are reminiscing in bars about how they "once founded a tech company".

Do not get involved in this project on these terms!

Matt
Monday, August 04, 2003

The key thing is that people need to realize that the idea is worth exactly nothing.  Most people have ideas all of the time.  If it's fleshed out with a business case, it's worth maybe $100.  Maybe a little more if you used the good thick printer paper and had Kinkos bind it.

If it has a business case, a marketing plan, and a base implementation, now it's worth something.

The only idea that's worth anything on it's own is something that's patentable.  Which means that you need to fork over the money to get it patented and spend the time making a defensible patent application.

About all of your two "Business people" are entitled to at this point is for you to buy them drinks out of appreciation if the idea makes you millions of bucks.

I wana smack Accenture for their stupid advertisements about "making your idea work".

Flamebait Sr.
Monday, August 04, 2003

More information:  One guy has an MBA and has not had experience in an executive role in a company, nor any roles as an entrepeneur.  The other guy has started 2-3 companies, none of which have taken off as of yet.  In spite of this, I still feel that they're reasonable business people and this stuff could simply be due to some extraneous circumstances.

To people who have commented that 33% is "way too much".  I fail to see the resaoning put forth by anyone expressing this notion.  There is no company in place.  Yes, they've talked to 8-14 people who are interested in "beta testing" the product, but people verbally expressing interest is extremely different than them actually sitting down with us to test it.

This is not an established company, and any company wishing to.. and this is key.. hire.. a technical person may only give them 10% of the entity, but that's becasue there is an entity with value already in place.  Cash is king in these situations, and this situation is surprisingly lacking on the cash side.  Said technical person would also need to be compensated _greatly_ for their time.  The fact that they're offering $5k is simply making up for the risk differential involving time, which I'm thinking is GREATLY out of wack here.  I see no reason why I shouldn't develop the product on my own, keep 100% of the product, the approach these people and allow them to come on board and gain equity based on real results.  After all, that's what I'm expected to achieve.

I realize their contributions to the idea would result in a better product than I could achieve alone, however--I don't think "idea improvements and refinements" are worth 66% of a company.. After all, do I give my beta testers equity to give me feedback?

I'm arriving at this:  the person doing the work should retain the equity in any situation, and any 'beginnings' involving some other type of start are VASTLY off base.  If these guys WERE well known in the industry, I still don't see why they'd have equity prior to work.  Yeah, I might _wind up_ giving them a large precentage of what I'm working on to sell it, but that's entirely different than people asking to have their ideas materialized for $5k + feedback.

Thanks for all the responses, and sorry for not giving a ton more info--I could have wrote 4 pages..  I wanted to keep the post readable :)

Jason
Monday, August 04, 2003

echidna:  It seems we're noticing something very interesting.. people are very unclear on the value of a business person given the axis of time as a factor.  they seem to start adding parameters to the equation to make things add up more logically, when in fact the situation is plain bad (but maybe that's what we're discussing ;)). 

marc:  I realize a good idea is better than a bad one, and that having that good idea is important.  However--I have plenty of decent ideas, why would it be okay for me to approach friends and say "Here, implement this.. We'll split it"?  Look at Joel's recent strategy letters, they all point in this same direction involving the value of execution.  I realize this discounts my previous argument in saying that the business persons stake is inequitable, but we're talking about a very strange, and frequently unexplored (it seems?) point on the time axis.

Jason
Monday, August 04, 2003

I'd probably accept 33% *if* they were paying market rates to build it, cash up front.

For $5k, forget it.

The only way they could convince me for less than market rates would be if they had significant guaranteed sales / signed contracts, otherwise it's just a ridiculous gamble.

dude
Monday, August 04, 2003

Jason, 33% is too much because, assuming they each get 33%, then there is no equity left for employee #4 or to sell to venture capitalists. This was a common problem during the dot-com boom when early VC rounds overvalued the "pre-money valuation." Later investors would require additional stock be created (out of thin air), thus diluting the equity of all earlier rounds. So you might have 33% now, but when the VC insists on 15-25% for himself (which is probably about normal), your "33%" will be diluted to something like <3%.

Like someone mentioned earlier, equity is tiered system. CEO often gets 10%. Upper management splits another 10%, and the grunts split another 10%.

Another red flag is that you mentioned that one partner has a couple businesses that have no take off. This guy has too many irons in the fire. If he thinks that none of his businesses are good enough to focus on 100% of HIS time, why should you risk 100% of YOUR time?

runtime
Monday, August 04, 2003

My frank assessment is that if they plan to be doing "nothing much" while you write code for n months, that this is a botched situation from the start.  They should be working on the business, financial, marketing and sales sides while you write code.  If their attitude is "Oh, we'll start selling it when it's built," they are not IMO proactive enough to make this a successful venture.

On the other hand, if they have a proven track record of success, I'm probably missing something.

Bottom line: If you take this on, make sure you will be compensated for your efforts and time, one way or another, regardless of what happens with the business.

Thomas
Monday, August 04, 2003

hey there. I DID this job a while back. Only I got paid $5K a month during my tenure, not $5K total. The job conditions were nearly identical: some fresh MBA guy and his older, somewhat successful partner had an idea that sounded reasonable, and I had the skills to implement it. T hey offered me a good chunk of equity in the company.

What ended up happening was that the fresh MBA guy sat around all day surfing the web and chatting on instant message and going to the gym. The other guy was more senior so he just sat around doing who knows what. he was never there. I went insane after about 3 months and left. It was an utter waste of my time and energy, and one of the worst decisions of my life. If I had more energy i would get more detailed, but I just wanted to chime in, and say, whatever you do, don't do this...

.
Tuesday, August 05, 2003

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