What Are Typical Startup Equity Divisions?

The value on the contribution to the company can determine the equity share.

When a company starts up, there may be several people who want a piece of its equity pie. Investors, lawyers, the website designer, founders, and the relative that came up with the idea for the business are just a few who may believe they deserve some equity. In determining who should be allocated equity, principals can discuss the value that each person has brought to the business to determine the rightful share of equity. Dominant factors could be money, patents or trademarks, management skills and effort.

Investors

Compared to other types of contributions, cash is the easiest to value. Some companies may choose to divide the total equity in the business to 50 percent for investors and 50 percent to the founders.Others may choose to use the formula of an investor's valuation of the company divided by his investment. For example, if an investor provides $5 million and the investors and partners agree that the company is worth $15 million, his equity in the company would be 33 percent.

Intellectual Property

A person may have developed a new technical product that he is willing to patent under the company name as its intellectual property. The patent, trademark, or copyright is the brains behind the business and carries value which may deserve equity in the company. Aside from dividing equity equally among founders, an option is for the company to provide equity to the intellectual property founder in the form of a royalty arrangement of 5 percent, or other amount, on each sale. Over time, the percentage can amount to sizable earnings for the partner.

Experience

Even if a company has money, technology and intellectual rights, a founder with management expertise is necessary to ensure that the business functions profitably. A strong manager knows how to develop a business plan to attract investors, create a vision from the startup phase with minimal resources, and grow the company to the point of an exit strategy to capitalize on the investment and retire. If the company divides the equity between investors and the founders, the founder bringing management skills could share in the founders' equity.

Sweat Equity

If the founders choose to include sweat equity as part of their contribution, they will need to determine its value to divide the equity pie. If, for example, a founder left his $5,000 per month job to dedicate the same time to the new venture, and it took four months to get the new venture started, the partners may determine that the founder contributed $20,000 worth of sweat equity. Since founders may not hold cash and effort in the same value, the founders may decide to include a noncash adjustment factor to the sweat equity.

References

• Business Insider; DO NOT Split Equity Between Founders Equally; Martin Zwilling; November 2010
• Entrepreneur; Dividing Equity Between Founders and Investors; Stever Robbins; October 2003
• Simon Fraser University; Business Basics for Engineers; Mike Volker; 1997
• "Better Business"; Planning Your Exit Strategy; John Hawkey
• Wharton University of Pennsylvania; Allocating Equity to Founders; Karl Ulrich

Resources

• World Intellectual Property Organization: What is Intellectual Property?