How do you account for future dilution in setting startup equity splits?


2

I'm a one-person company and I'm trying to get a beta product built and launched. I'm an Internet general manager, I've come up with what I believe is a solid business plan and product concept, and I want to launch it and get users before seeking funding. Via professional contacts, I've got a programmer working for me on a handshake agreement with no specifics as to cash payment or equity. I would like to formalize our arrangement asap, so we're explicit about our agreement.
I'm willing to put in a modest amount of seed funding myself, and engage the programmer as a co-founder. He's likely to be head of Product as we grow. I will need a head of engineering and a few other key hires.
My question is how to make an equity-based deal with the programmer, understanding that I'll need to assume future dilution based on other key hires plus outside investors.
Should we just split the company in whole right now, e.g. 80% for me and 20% for you?
Should I create a split of the current shares including expected key hires, such as 60% for me, 10% for the programmer and 30% reserved for other key hires? This would assume we'll all be diluted as we obtain outside investors and other key hires. If so, how do I explain expected future dilution to the programmer?

Equity

asked Mar 18 '11 at 12:50
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Rob
11 points

3 Answers


2

You typically take care of dilution via an option pool at each around. Remember, that you will be diluted as you take on outside money -- that's just part of the venture backed startup.

To start off, you will have founder shares that will be issued once you formally form the company. Those founder shares will be split between whomever is there once you start.

Once you raise a round, you will then have a pool of options for all the employees (typically 15-20% of the round). This takes care of some of the dilution but not all of it.

answered Mar 18 '11 at 14:13
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Jarie Bolander
11,411 points

1

You should reserve a pool now. Effectively when the pool has not been distributed it has no bearing on your actual ownership (i.e. if you split the ownership 80/20, you could give out shares of 40/10 and leave 50% as the pool. You'd still have 80/20 ownership until you distributed shares from the pool but setting aside the pool up front makes things easier in the long run.)

answered Mar 18 '11 at 23:24
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Michael Pryor
2,240 points

0

Forget about a pool: it's more paperwork and doesn't buy you anything today. Just issue shares to the two co-founders. When more people come on board, issue more stock. That will automatically dilute everyone equally.

An option pool becomes useful once you start having a difference between founder stock (common stock that people own upfront but is subject to repurchase according to a vesting schedule) and stock options (not shares, just the right to buy shares later at a price already determined).

As a rule of thumb, people who join who don't get any salary should get founder stock, people who join with a salary should get stock-options.

answered Mar 18 '11 at 23:46
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Alain Raynaud
10,927 points

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