Q & A

Paul asks “How much equity am I worth?”

I had a problem that required a database solution. I designed the concept of the database and over a 2 year period developed a crude system that worked.

In trying to find help with the programming side of things I talked through the concept with someone who had experience in setting up software systems to see if they could help create the solution. (At this point the solution was just for me not for commercial sale.)

They then went away and started development on a system of there own to do just what I wanted but with the plan to create a web based solution for commercial sale.

They have been tapping me for my thoughts on how this should work and have used my original design as the bases for theirs. It looks completely different of course.

We are now in a position of them having created a Beta version that they are trying to get investors to back and have managed to get some serious interest. I suggested we join forces as they want my input to make the idea a success.

So I have offered a financial and time investment from myself with access to all my workings and networks within the industry. I really believe in this solution and think it could be a great success.

They really want me to be apart of it but now we are at the discussion stage of what my investment is worth they have come back with a 4%.

This is based on a $10,000 investment and my time.

My biggest issue with this is they are basing there calculations on the value of my investment on what they perceive the company will be worth once they reach the point of seed funding. (They are suggesting I only pay the $10,000 at this point.) Surely all the work I have put into this already should be accounted for. It’s not like I am just coming into the project at the seed funding round.

There is an obvious naivety on my part here and I know they are the ones who have actually put all the work into creating the beta solution investing there own time and money to do it so I’m not looking to be greedy. I just want what is fair.

Any help on this would be very much appreciated.


My Answer

As I see it you have 3 connected problems:

  1. The overall principal under which you and the others are going to work.
  2. Your prior effort which was unpaid
  3. Your shareholding in the new company

How I would suggest you present the concept to them (and yourself) is to break down the issues

In Principal agreement.

Before going any further you need to get the overall boxes ticked and make sure you want to jump in with them..
It should cover the basics

  • Share split, buy in time (say 2 years to get all of your shares OR key milestones)
  • Who owns what – pre-existing IP and customer base is owned by the company and is part of the contribution in return for shares in the company. This can also be their time and effort mated to your initial thinking.
  • What happens if someone leaves (do the shares revert to the pool, stay with that person or do they need to be bought out by the other partners). I would suggest anything in the first 6-9 months is a pure revert to the pool, after that first option to buy out from the other parties … this should be evenly bought if possible.
  • Sweat equity multiplier. If there is a period of no money what is the value of shares or what is the repayment on the time invested (agree on a figure 1 month = $8K or something) and it is paid out once things pick up.
  • Sunset. What is the agreed “end goal” is it to be bought out, to publically list, to grow into a large player. This is important that everyone understands … it is allowed to change along the way. If it is a buyout, who and when is the goal and what is the minimum price so you’re all happy.

These are the key things to get peoples agreement and signature to before starting then soon afterwards I follow up with a lawyer written contract to cover the bases properly.

Share Split Guidelines

I have written this section a few times in other answers.
We typically have a few standard metrics we use to run through how much a share is worth:

  • Idea: 3% – 5% – ideas these days are cheap, everyone is having them its execution that counts.
  • Technical: 15%-35% – all developers (including myself) think its worth more but if you don’t have the rest in place then its just a cool thing that sits on the shelf being worthless to everyone. This is what both your shares will be diluted down to to start with.
  • Marketing / Sales: 15% – 30% – This is pretty important, if nobody knows about you, your nowhere … but put KPIs against it – X new customers / sales in a timeframe.
  • Business: 20% – 30% – The leadership and vision, this is typically one or two people and they will make or break the company on its own, set the direction.
  • Finance: the remainder, depending how much they put up, others adjust accordingly.

Sweat Equity multiplier

Basically your time * an agreed amount per day/week = your direct contribution that is comparable to you earning else where.

You took the initial risk and seed IP investment over 2 years while doing all the work so you take your contribution above and apply a multipler to it say 3X or 4X.

EG. Moving forward your continuing investment would look like

  • You agree that you normally get paid $5000 per month = ~$60,000 per year.
  • They can pay you $1000 per month
  • Your net contribution is then $3,000 per month
  • You invest 6 months at this rate so you have $3,000 * 6 = $18,000 your out of pocket
  • You agree that you will put a 3X multiplier on this so 3 * $18,000 = $54,000 that you should be paid ahead of the other guys in order to consider yourself equal OR this represents your buy in to the shareholding.

As the company starts to make a profit (assuming it does which is your risk), everyone starts to draw earning from the company.

The other way to look at this that the $54,000 owed to you by the company buys you a greater amount of shares in the company.

DISCLAIMER: I’m not a lawyer, just a venture developer who has done this a bit. The formal answer is pay a lawyer to draw it all up or there are websites that sell “packs” of legal documents for starting up a business.

Good luck.

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