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Pitfalls of Equity for Employees In Startups

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Re: Pitfalls of Equity for Employees In Startups

#31

Post by yuhong »

tptacek wrote: post #15
michaelochurch wrote: post #14

Earlier quoted context omitted.

The vast majority of founders are not spoiled rich kids playing with daddy's money. The vast majority of founders take a massive risk when they go all in on a startup. "The vast majority of founders" never take VC and aren't even working in a space that VCs will fund. I'm not talking about lifestyle businesses, which actually involve a lot of risk and sweat, I agree with you. When your startup falls, there's not some…

I was funded in 1999, at 2013 A-round levels. No EIR position awaited the failure of that company. Again: I don't even know anyone who's ever been offered an EIR position, and I know a fair number of people, many of whom have been funded, some of them by huge name VCs. So, why don't we do it this way: why don't you name a couple people who've been recipients of "EIR sinecures"?

Note the "in 1999". michaelochurch can you comment on when it started?

Re: Pitfalls of Equity for Employees In Startups

#32

Post by [deleted] »

yuhong wrote: post #31
tptacek wrote: post #15

Earlier quoted context omitted.

I was funded in 1999, at 2013 A-round levels. No EIR position awaited the failure of that company. Again: I don't even know anyone who's ever been offered an EIR position, and I know a fair number of people, many of whom have been funded, some of them by huge name VCs. So, why don't we do it this way: why don't you name a couple people who've been recipients of "EIR sinecures"?

Note the "in 1999". michaelochurch can you comment on when it started?

[deleted]

Re: Pitfalls of Equity for Employees In Startups

#33

Post by danielweber »

yuhong wrote: post #31
tptacek wrote: post #15

Earlier quoted context omitted.

I was funded in 1999, at 2013 A-round levels. No EIR position awaited the failure of that company. Again: I don't even know anyone who's ever been offered an EIR position, and I know a fair number of people, many of whom have been funded, some of them by huge name VCs. So, why don't we do it this way: why don't you name a couple people who've been recipients of "EIR sinecures"?

Note the "in 1999". michaelochurch can you comment on when it started?

Over the past decade I've had the, um, interesting experience of watching a number of start-ups fail, VC-funded or not, sometimes competitors to 'tptacek's companies. I've never seen an EIR landing. I'm not even sure there are enough EIR spots available.

Maybe lightning will strike and your name becomes recognizable on the front-page of the business section and then people throw results and funding at you in a self-fulfilling prophecy because they want to be on your good side. But I've also seen a lot of people team up with these famous folks only to massively regret it.

It's definitely not the most efficient graft-free super-meritocracy ever, and there's a lot of luck even once you get past that, but I just don't see it.

Re: Pitfalls of Equity for Employees In Startups

#34

Post by U32LnJfiYoiLQP »

tptacek wrote: post #15
michaelochurch wrote: post #14

Earlier quoted context omitted.

The vast majority of founders are not spoiled rich kids playing with daddy's money. The vast majority of founders take a massive risk when they go all in on a startup. "The vast majority of founders" never take VC and aren't even working in a space that VCs will fund. I'm not talking about lifestyle businesses, which actually involve a lot of risk and sweat, I agree with you. When your startup falls, there's not some…

I was funded in 1999, at 2013 A-round levels. No EIR position awaited the failure of that company. Again: I don't even know anyone who's ever been offered an EIR position, and I know a fair number of people, many of whom have been funded, some of them by huge name VCs. So, why don't we do it this way: why don't you name a couple people who've been recipients of "EIR sinecures"?

I know of a company where the parent of one of the founders made a ton of money for the VC. Twice. In exchange, one of the partners has put some seed money into the kid's startup. The seed money is a pittance compared to how much money the VCs got.

What's sad about it is that there's no entrepreneurial spark in the founders. They're not hungry for success. They're paying themselves way too much and working with no effect. The company will fail, and they'll go on to whatever nice lifestyle awaits them.

(edit: Note that I'm not saying that this is typical, just that there are examples of this "insider" activity.)

Re: Pitfalls of Equity for Employees In Startups

#35

Post by tptacek »

danielweber wrote: post #25
jt2190 wrote: post #18

Earlier quoted context omitted.

> I don't agree that founders deserve as much as > Spolsky thinks... I've always read Spolsky's advice like this: "If you literally can't build the business without the other person, make them an equal partner." I agree that founders should think long and hard about this, because there are very few scenarios that require a fifty-fifty partner, and many that require high-skilled, but not unique, people.

Back in 1996 it was recognized as one of the classic start-up mistakes. It's so old I could only find a PDF: http://www.yesatyale.org/files/lecture_06.pdf I think vesting might avoid the problem, but I tend to think one person is probably more invested in the start-up and should take charge. I've seen too many times where "everyone is responsible" leads to "no one is responsible."

You need to designate someone as the tie-breaking authority for disputes, but it doesn't follow from that that you need to give that person more compensation.

Two things that would keep me from joining any founding team at this point in my career:

* Not having everyone on a 4-year vesting schedule, founders included

* Not giving equal shares to the partners

I'm with Spolsky: if you think it doesn't make sense to give a "founder" the same share as yourself, that person isn't really a founder.

Re: Pitfalls of Equity for Employees In Startups

#36

Post by VladRussian2 »

mahyarm wrote: post #19

After working for a start up for a while, a couple of other things that would make equity far more attractive compared to Google paying $80k/yr more in total compensation: 1. Non-expiring options on leaving the company. Many SV companies have options expire in a couple of months after leaving. Some have them expire immediately upon firing. This does remove some of the Schrödinger's golden handcuffs effects of equity,…

basically it is a great filter - people who have good employment aren't going into startups because numbers just don't work for them as well as being handcuffed for a number of years and a risk of losing a lot, basically all of your sweat equity, just on the whim. This works though for youngsters just out or a few years after college where they need to gather experience and corporate salary is smaller.

Re: Pitfalls of Equity for Employees In Startups

#37

Post by imagnitude »

michaelochurch wrote: post #27
imagnitude wrote: post #21

Earlier quoted context omitted.

My comment is specifically about founders of VC funded startups. It might be different outside Silicon Valley. But in my experience in SV, I know the founders of about 20 venture funded startups socially. One of them is what you would call a "rich kid". The rest bootstrapped for many months, paying themselves virtually nothing, getting deep in debt, before their Series A. Even after raising an A round, they pay thems…

The rest bootstrapped for many months, paying themselves virtually nothing, getting deep in debt, before their Series A. Even after raising an A round, they pay themselves subsistence wages, just enough to eat so that they can pay market rate six figure salaries to the engineers on their team. I actually agree with you that, if they're truly suffering financial hardship (but I'm never impressed by a rich guy taking a…

You are completely right in this case. Sometimes, when the company is not doing well and the founder CEO is not hitting the performance targets agreed on earlier, the VCs will fire the founder and install one of their MBA buddies to try to turn the company around. This is usually a condition of further funding when the company is in a weak negotiating position and on the verge of shutting down, and it's incredibly unpleasant for everyone involved. However, the executive implants only come in when the company is circling the drain. It's basically failed at that point, and the founders get nothing. Sure, the executives may get a big chunk of equity to lure them into a company that's going to zero, but barring an incredibly rare miraculous turnaround, that equity is completely worthless by the time the VCs get their liquidation preferences.

All of the things you describe are aspects of bad startups. Things are very, very different in good startups that are doing well, even the VC funded ones.

Re: Pitfalls of Equity for Employees In Startups

#38

Post by 7Figures2Commas »

There's a big pitfall that isn't mentioned: the equity doesn't grow in value, perceived or real.

Savvy and experienced employees will consider equity at an early-stage startup to be a lottery ticket. Most startups will never experience a liquidity event, and, on average, the windfall from liquidity events is relatively small. There are a number of things that most employees can't effectively protect themselves against (dilution, liquidity preferences, etc.). None of this means that these employees won't negotiate the equity package, but they won't trade salary and benefits for equity either.

Many if not most employees, however, are not savvy or experienced. They hope and expect that their equity will grow significantly in value, and consider it a big part of their compensation package. Some employees are so confident in the future value of the equity that they are willing to negotiate their salary down to "maximize" their equity, almost as if it was a cash equivalent.

As a result, equity has become an attractive retention tool for early-stage startups, and one that is seemingly cheaper than alternatives that require cash. And equity can be very effective so long as employees believe their equity has value, is growing enough in value and that the odds the equity will be liquid in a reasonable timeframe are good.

If and when that belief starts to fade, however, equity can become a significant source of low morale and employee attrition.

Re: Pitfalls of Equity for Employees In Startups

#39

Post by gfodor »

michaelochurch wrote: post #6
tptacek wrote: post #3

Joel Spolsky's Stack Overflow answer to this question is to date the best single explanation of this issue I've read: http://answers.onstartups.com/questions/6949/forming-a-new-s... Also: keep your eye on the ball. When a software company gives equity to an investor in exchange for money, most of that money is going to employees anyways; salaries dominate the expenses of tech companies.

I don't agree that founders deserve as much as Spolsky thinks. 3-5 times more than early employees, sure; 20 times more, no. Most often, "took more risk" means "comes from a rich background and had a softer landing". The VC-funded startup CEOs (and hedge fund CEOs; that was even bigger than VC startups in NYC for a while) I know didn't take any real risk, because they're all trust-fund kids and, half the time, their…

Even rich kids have to deal with opportunity cost. (Besides, claiming VC funded founders are all rich kids requires evidence, and you haven't provided any.)

Besides, why do you get to say what a founder "deserves" of their own company? If I bake a cake, and agree to give people small slices of it in exchange for things, you still think I don't deserve the rest of it even though I made it myself?

Re: Pitfalls of Equity for Employees In Startups

#40

Post by comatose_kid »

michaelochurch wrote: post #5

I don't think equity is a good way of paying employees. There, I said it. I know this is contrary to Silicon Valley wisdom, but I've studied the alternatives and I think I'm right on this one. Profit sharing (a larger percentage, but annually dispersed rather than permanent) is a much better method of upside compensation. I actually think that typical equity allocations in VC-istan fall into the uncanny valley and be…

You should consider hiring an editor.
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