Equity split in a startup

One of the main issues in a startup is the equity split between the co-founders. The reason it's good to give equity is to ensure that all co-founders are aligned towards the ultimate success of the startup. Often, this equity split is left open till too late. This risks fomenting discord since the various co-founders often overestimate their own value, relevance and ultimately right to a certain percentage of equity of the startup. On the other side, the startup itself needs to protect itself from those co-founders who have overestimated the glamour, or underestimated the uncertainty of working with the startup, or simply have conflicting loyalties, and decide to leave. How does one bridge this gap?

It's good to begin by defining the equity stakes between the various co-founders. Rather than trying to split hairs for every decimal point of equity, it's fine to sit together and find agreement based on responsibilities and value. Equity should be based on knowledge, relevance and loyalty. The value should not be limited to the technology, but also be based on the relevance of commercialisation and manufacturing, if manufacture is core to commercialisation. It's also good for the lead founder (assume equity of 65%) to consider that the co-founders with the smaller equity (say 5%) may be far more motivated if their equity increases to 7.5% (that's a 50% increase) if the lead founder reduces his equity to 62.5%). Loyalty implies having skin in the game. So if a researcher continues to work in the lab after founding the company, he cannot be allowed to have a majority of the equity, since he's not taking the risk of commercialisation. Keep in mind that if the startup succeeds, there'll be enough wealth for everyone. If it doesn't, it doesn't matter.

But to mitigate the risk of co-founders simply taking equity and walking away, it's wise to share equity over time. For example, the equity can be put in four buckets of 25% each. Every 3 to 6 months, a bucket is opened and the founders get their proportional share. If a founder walks away, he takes only the equity distributed till that point, keeping the remaining equity for future employees or another suitable co-founder.

It's also important to consider what happens if a founder goes to a competing company. 'Competing' needs to be defined clearly for this to hold water. In such case, he should be forced to sell his equity at nominal price to the remaining co-founders. The price for the sale needs to be fixed, ideally at nominal price, and cannot be the market price. This should not include investors, since they should not be entitled to anything they don't pay for.

A startup needs to address one problem at a time to succeed. It cannot be internal strife. It needs to be market identification, followed by traction, followed by dependence and finally scale.