Working for Equity

Business
1

Say I have a couple of people who are willing to work on my business in exchange for equity (they are doing mainly programming work).

Can anyone give me some advice as to how I structure that contract?

I want to:
-Not screw myself over
-Ensure that they only recieve equity if they actually do work
-Be fair to them

What percentage of the business do you think is fair to give to a Lead Programmer? What steps should I take to protect either of us? Any resources you can point me to on writing a contract like this?

I haven’t yet incorporated this business… should I do that? What corporation structure would be best for me to choose? How would I go about giving out equity if I want to stay a sole propreitorship, is that possible?

Thanks for the advice!

2

The best person to discuss this with would be a lawyer rather than try to do a contract on your own.

3

If you try to create such a complicated contract on your own and are somewhat successful with your company, in case of a falling out the other party will get an attorney and rip that document to shreds.

4

Definitly find a biz lawyer to set this up. This is a sticky situation, as giving equity in exchange for work leads to all kinds of bookkeeping and tax needs that are very complex.

5

From experience, usually it works the other way around … the startup screws their technical partners. By all means, shell out a couple bucks and have an attorney draw up agreements and such. This will protect both you and your partners as you build your business and achieve success.

6

The problem with bringing in partners (and, yes, that’s what they’d be), is that if they don’t perform up to your expectations it can be nearly impossible to fire them.

7

Well, I had plans for this: 1. I would build expectations directly into the contract and structure it such that they only get their X percent if they meet certain milestones… 2. that they would lose a chunk of their stake if they left the company before the programming was done or they didn’t meet their milestones and 3. the contract would only run for a specified length of time, at which time renegotiate a contract (with a salary rather than equity-based compensation).

Anyway, can anyone give me some figures one what a lawyer should cost? Just looking for a range of what lawyers usually charge for drawing up employee contracts… (unless this is against SP’s policies, I know discussing pricing is touchy)

Also, I imagine I will have to incorperate this business, correct?

And… does anyone have any other suggestions for ways I could compensate people besides equity but other than monetary compensation?

8

Stock options?, Non-recourse notes secured by your stock?

The problem I have with most arrangements is it is easy to give away to much. It’s easy to give away 1/2 or 1/3 when there is no value, but it will seem like a LOT of money when/if the company is a success.

9

Yes, that is a concern. Also, I don’t want to give away too much if I am to seek venture funcing later… I can’t very well give away all of the business and have nothing left over for potential cash investors, right?

I have resigned not to give more than 10% to my Lead Programmer. The project will probably two other software engineers, I would imagine they would get no more than 2-3%.

Would it be wise to include a clause in the contract that allows me to buy back their stock later? Any idea how that would work?

10

Stock buyouts are always a good option.

One we had with a company I was involved with was a 20% interest in the company (in the form of initial stock) in exchange for a $10,000 investment (as a loan) and some work (marketing, business advice, directorship). At a one year milestone, the loan part could be paid back in a lump some of $10,000 to return 1/2 their interest (stock), leaving them with 10% of the company’s stock. This remaining stock could be purchased back by the company at that time or in the next year at a par value of $1000 per % (so $10,000 for that remaining 10%). Any remaining after that second year went up in par value by 10% per year to a maximum of $2,000 per %.

It worked for us.

11

Is it legal to take back ownership in a company after you’ve given it to them? Of course, if it is legal to give and take ownership at your own discretion, that puts you in a more powerful position than I thought.

12

If it’s built into the contract they sign, then I don’t see why it wouldn’t be.

Basically, though, those were two different options I was explaining (I should have been more clear on that).

One option would be that my employee would get 10% of the company right off the bat, then the contract would define certain milestones or work quotas. If he didn’t meet them I would have the option of firing him, or if he left for any other reason before meeting these milestones, depending on how late in the project he left/was released he would lose some of his stock in the company (it would revert back to me). He’d lose more if he left earlier or less if he left later. This would be to prevent him from taking his 10% and leaving. This allows me, as well, to extend his contract to beyond just the completion of the project… by say, writing in that he would lose X% if he left the company within a year after the project completion (which would give him incentive to stay after the launch of the business and work on things). I’m not sure if that’s clear… and writing it out now it doesn’t sound like the best option.

The other option is to make the entire thing performance based to he gets X% after meeting each milestone. This leaves him without any compensation after the end of the project, and I won’t want to give him more equity… but I will want him to stay active in the company until we’re generating revenue so he can draw a salary. Does that make sense?

Another option would be to say you get X% for every Y hours you work up to a ceiling ammount. The problem here is that if he reaches the ceiling he knows he’s not getting more equity, and if the project isn’t done he could just leave, taking a chunk of the company and I’ll be scrambling to find a replacement and having to compensate a new person (of course, if he’s smart he’ll realize the company fails unless he finishes). I feel that this last option is a good way to compensate the other programmers, who might not be as needed after the completion of the project, but not the lead programmer, whom I will look at as more of a partner. I might like to compensate them with a profit sharing scheme… any ideas as to how that would work?

Finally, I think I may have asked this already, but does it make sense to set a length on this contract and say we renegotiate a new contract after this expires? That way if after a year we’re making money and can pay people salaries rather than in equity, it’s already built in that new contracts are required…

13

Another thought. If at all possible, set things up so that you only have to do something if they perform as expected. Then, if they don’t come through, you don’t have to take any action to maintain your position.

For example, if they have an option to buy stock and the option consideration is production of an acceptable deliverable. If they don’t produce, the option expires automatically. You don’t have to do anything.

14

Why not ask a business strategist. Your idea on giving a share to the programmer is very generous. Just think about the cost of putting up this business and the income to be generated if it could catch your expenses.

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15

Just do yourself a favour and pay them cash.

  1. No decent developer is going to work purely for a small equity share (10% is low enough, but 2%?). When the company starts out it is worth exactly zero dollars. Let’s say you bring a decent developer in and he works on the project for a year at no salary, that means that you are essentially valuing the company at $600,000 at the end of year 1 (assuming a first world developer who would have earned $60k a year). Factor in risk and the such and the company would really have to be worth over a million dollars to make it worth his while.

  2. No matter how you structure things there are ways around it.

One option would be that my employee would get 10% of the company right off the bat, then the contract would define certain milestones or work quotas.

Milestone: Working upload function.

How do you define working? Does it have to be 100% bug free, what items are considered in scope for that upload function? Does it have to accept every file type, does it have to exclude certain file types? etc…

What you consider a finished milestone, your developer and a court of law may not.

Another option would be to say you get X% for every Y hours you work up to a ceiling amount.

Great, now the developer can spend 100 hours on something that should only take 10 to increase his equity share. And once he caps out he has no incentive whatsoever to work on the project. He has his share, even if he does nothing else he owns that share.

Wouldn’t it have been awesome to work on Facebook at the beginning and say that you got 10% equity in exchange for 1000 hours of work?

does it make sense to set a length on this contract and say we renegotiate a new contract after this expires? That way if after a year we’re making money and can pay people salaries rather than in equity, it’s already built in that new contracts are required…

Now you’re just insulting the developer. Hey, come take a giant risk by working for equity and if things take off I reserve the right to take it all away in exchange for whatever I feel like negotiating with you later.

All of the above options are bad, partnerships and equity shares are extremely complicated for a reason. If you want to reward your developers with shares as part of their compensation then go for it but you better be bringing an awful lot to the table if you plan on keeping 85% of the company to yourself.

I would look at it this way, if you’re bringing 100k to the table and you’re giving me 10% then you consider my worth to you to be approximately 10k and that’s how much work you will get out of me.

16

having done this before, I recommend you not do it at all. You may think, ok, great, someone is working “for free”, and if everything works out, I don’t have to put any money down, and I get a business that earns money, even if I don’t own all of it.

Wrong. People are not going to work for free, even “for equity”, but you will find people will work for cheap, even if you don’t pay them equity. It’s much better to pay $10 or $15 / hour now, and if you don’t see results, fire them, than it is to pay a % of equity, and not have them get the work done, and have to bring in the lawyers over not giving them equity later. If they’re not getting paid, how are they paying the bills? They pay the bills by getting a job that pays money. And then your project gets way behind schedule.

Just don’t do it.

17

Is not preferred. I tried once and failed! I have been at both ends of the spectrum once as a developer and once as an owner and both times I have been at the receiving end. First after hiring a few developers, pumping in money and time for a huge project in return for “percentage share” the development went on and on with no revenue flows and finally after 1.5 years and a few thousand dollars of my money, the client suddenly said that as of now he is shifting to another job and will get back once things settle, never to come back. The code was theirs (as per terms) and after building this application and all the money and time - all we got was a big Zero in terms of returns.

Similarly, at a later stage I tried creating a group of programmers / developers by giving them part share rather than a fixed salary and now they felt that because of them I was surviving and I had no brains of my own - even though they know I m a programmer & web developer! They felt that as they were doing the coding part and my main focus was customer support and marketing - they should get higher share and I get the remaining peanuts and the whole idea dis-integrated.

Hence, my suggestion would be - pay money and hire the best brains via freelancing sites and sign an NDA with them. Rest assured, if there is any issue, you can always shift to another programmer / designer and you remain open to new ideas

18

Hi Bleys

We’ve worked on quite a few of these structuring ownership for startups. Basically what we do is list all the options available. Then go through them and pick out the best.

So if I were you, write out all the options availabe and see what works best. But there are a lot of things to think about here as so many possibilities. Look at what is applied in real world situations, things like share vesting schedules, re-purchase rights, etc sound like they could all be important in structuring this for you.

And also, I can’t recommend highly enough tke71709 advice here. Terms like those are very easy to run into trouble with. Unfortunately things that aren’t quantifiable can run into a lot of problems, due to different expectations, measurement, etc. So beware of what he says or you may just suffer later on.

Also staying a sole proprietor and giving out equity, not really possible. You are better off incorporating.

19

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