Start-up equity states the extent of ownership an individual has in a start-up. In the beginning, founders are the sole owners of their start-up. Yet it needs investors to develop as well as the best talent. They bring in funds and their skills.
Now, these investors and employees would want ownership in the start-up in return for their investments or work. That happens to be in the way of equity in the business.
However, always remember either extreme of keeping too much equity with oneself or giving it out without much thought can be harmful.
Hence, the founders must strive to find a balance between the two. And keep in mind it is better to own 15% of a billion-dollar start-up than 100% of a start-up that isn’t worth anything.
Who gets start-up equity?
All start-ups don’t work on the same business model. So, the division of equity also varies. But the shares are divided into four major classes. These are:
Founders and Co-Founders –
The investors hold the largest share of equity so as not to lose ownership and right to decision-making. The equity is split evenly between all co-founders or based on capital and time they spend on the company.
This group gets the latest share of start-up equity after the founders. And this is justified because of the investment they bring to the startup.
Although the investor’s share does not have to be decided by any given percentage, the value of the company is measured based on its investment.
Advisors tend to play a very important role in a startup. They offer their expertise and advice. Founders are usually learning on the go. They need to seek help from advisors to help solve crucial matters.
Offering a stake in the company helps to retain employees even with low salaries, which are a trademark of the start-up world.
On the other hand, it also keeps employees motivated to work better since they now own a stake in the company.
How to calculate start-up equity?
The start-ups need to decide how will the equity be divided among the different groups (co-founders, investors, employees, advisors). There are a lot of tools available online that are start-up equity calculator.
The mathematical formula, ‘Shares Owned’ divided by ‘Total Number of Outstanding Shares’ gives the equity percentage that an individual has in the startup.
Founders will need to part with their equity in order to successfully transform their start-up into a profitable business.
Nonetheless, after a thorough review of what the start-up gets in exchange, that determined the needed equity. You can also update the business plan of your start-up for the upcoming decade of 2020.