The case of a co-founder (seeking answers on compensation/equity stake)

I am writing to describe my entrepreneurial venture and seek your comments on what I should expect for myself as the new company gets started.

My colleague of many years at my previous company (a finance person) and myself (a techie) have been at this venture for nearly 1.5 years. Our company had good (software) technology and a few revenue streams from solid customers. These strengths, which could have easily grown, were nullified by lack of strategy, inept management and assorted classical causes whose effect is the death of the company with myriad problems and legal & financial liabilities. My colleague, who also owns a small investment company of his own, launched his venture independently (while we were both employed with the old company), and talked to me with a view to having me provide the tech component for the venture.

His original intent was to bring funds that would re-organize the company and provide a fresh start. I found it attractive to get involved, given my love of the technology, my extensive familiarity with it, and the promise of a much better future. There were numerous twists, turns and anxious moments in our venture over the past year, the details of which will be digressive here. We are now at a stage wherein we stand to be able to buy the IP of the old company “free and clear” while having no liability inherited whatsoever. In other words, we are about to launch a new company with the old assets. The funding is arriving in the form of an interest-bearing loan to his investment firm, and he is incorporating our new company as its holding/subsidiary. Funds are expected to arrive very soon.

My colleague did all the work with regard to applying for funds, dealing with complicated legal issues, old company’s board and management, old creditors and assorted troublemakers etc, etc. He spent tens of thousands of dollars of his own money on whatever the above tasks entailed—lawyer fees, CPA fees, etc, in order to give us a safe and clean prospect of making a fresh start. As well, he has also planned and arranged some key aspects of the future, such as facilities and infrastructure.

I enter the picture for the remainder of the business—refocusing the past, strategizing for the future, putting a team together to start preparing demos and courting prospective customers, etc—in short, heading technology while doing hands-on work as well, and doing some key aspects of business development and organization development. He plans to hire our old facilities manager/network admin. We won’t have a CEO or other heavy management for the foreseeable future. We will, for the time being, hire on commission, or contract out, for any non-technical skill missing amongst us.

I provided technology-related components of his loan application package, and as well, discussed with him constantly, and provided input on numerous issues of the past company where the solution required an analysis from the tech perspective. Along the way, I gained an understanding of what it takes to run a business (other than just managing or implementing technology), and was able to help him with non-technical issues as well.

Most importantly, as a result of considerable work, I have formulated a vision document and strategic plan for the future business (for a 3-year period), with aligned strategies for business development, revenue, technology, products, IP enhancement, etc. The plan incorporates my insights into what the old company did best/worst, where the relevant market is heading (even as it is changing rapidly), what the key priorities are for the immediate future, and how we could get started and build for the long term. I have contact with a core set of key employees (also from the past company) I want to bring in, to get started with the engineering work. As well, I have reached out into my external contact world and cultivated 3-4 prospective customers who will be happy to engage with me one I have something for them. Tech advisory board is another one of my concerns.

We integrate our software into our customers’ platforms, and they, in turn, sell their hardware products to end users/consumers. We get royalty from their sales. As such, biz dev is a lot more important for us than sales&marketing.

My colleague and I have developed a symbiotic bond over the past 15 months. The prospect of a 100% severance from the maladies of the old company has been a major attraction for me. I am impressed with my colleague’s capacity and performance. Reciprocally, my association has been a re-assuring and comforting factor for him to stick with his venture (along with his faith in my capacity to take care of the technology and products, once we get going). While he has a reasonable understanding of the technology (being a finance person) he needs a tech person to run the show. Over the past year, on many occasions, I had to exercise some skill in distracting him away from several of his fancies, which, in my judgment, would have been wasteful, or disastrous for us to get into in the future. Together, we both have learned a lot along the way.

The initial set of core engineers from the old company will come, if they do, on account of my being there, and my reputation. Though they have moved on elsewhere for now, I have taken effort over the past year to kept them interested. I have rejected good employment opportunities to stick with this venture.

A year ago my colleague asked me to be the future CTO, but my activities have stretched into strategy and business development as well. I am proposing to be the CS(trategy)O too, and as well be in the initial Board. My colleague does not intend to be involved in the day-to-day affairs of the future business, and says he does not intend to draw salary as an employee in the new company. I will, however, be on salary (probably somewhat below market rates for my parameters), and as well, receive some kind of retention bonus. No numbers have been discussed.

He intends to award me stock options, and my burning question to you all is: what will be a reasonable expectation on my part, as a salaried co-founder, CTO & CSO? I am loking for a number or range expressing percentage equity stake. I don’t know other details of his capitalization plan (yet), other than that he intends to give a small stake in the company to the go-between who is brokering the loan for him, and formulate an option plan for future employees. I will be glad to supply any other detail (to the extent that I can!) pertinent to giving an informed suggestion. Many thanks! Aaron.

As a founder you can expect 50% stake of the company. It seems like you and your partner have a good blend of business and technical experience. The salary range will vary widely and is based upon what your investors will tolerate, what is reasoable, what you are worth as a CTO, and most importantly how much the company can afford. You might be worth 200k a year, but maybe the company can only afford to pay you a salary of 5k per month. If you are taking a pay cut, and if you can afford it, it might be for the greater future benefit of your company.

I would suggest you get the same % share as your partner. Without him the business would not exist. Without you it would not either.

As you guys sell of equity you can choose how much of your own personal shares to sell, but it would be clean if you both retain the same percentage.

I would also ask for a salary of the lower of 5% earnings or x per month.

the poster of the original question. I had trouble adding this as a comment:

Honestly, I did not expect that my stake would be so much. (I am new to entrepreneurship!) I went without employment for over a year, and I am in dire need of a decent salary. The loan is disbursed without much restriciton on how the cash is spent (other than that it be used productively for the future business). As such, there is freedom available to set salaries.

10% of the company is being given to the loaning entity. We have no earnings yet. And lastly, my colleague, being a finance person, is devising additional means to pay off the loan than just rely upon revenue from our future operations. He also stands to recover his entrepreneurial dollar expenses from the loan deal. I suspect with all this, that my stake is legitimately less than 50%; I am seaching for a number defining the absolute lower limit that I should expect. Thanks a great deal, Franky!

And sorry for the long case description, Tim-- I thought I had to describe aspects of my case that would bear on determining compensation and equity stake. Aaron.

From what you've said, there's a wide range of possibilities, but some points are clear.

First, the relationship you're describing suggests your colleague is founding a business and inviting you to join the team.

You've carried out work to enable this possibility, and you're going to join what will initially be a small Board. Your contribution is valued, you are working in a known context and you are going to be relied on to lead a significant part of the effort of the business.

10% of the equity will be held by the entity your colleague has negotiated that is providing initial loan financing. (However, you're not certain of the details here.)

You will be drawing a salary somewhat below market rate; your colleague won't be taking a salary or become significantly involved in day-to-day operations.

Based on all of that, I would expect you to take somewhere between 5-20% of equity. To be at the top of that range, you'd have to have been hired to perform the CEO role in all but name - and my sense of the email is that your distinctive contribution centres on CTO and operational issues. But you've also played a large part in creating the opportunity. So tentatively I'd narrow the range to 10-15%.