- Today we are with John Richards. He's the founder of Startup Ignition and multiple other startups. Today on "How to Start a Business." We are going to talk about how much equity should
you give to a co-founder? John Richards has invested
in a lot of companies, probably the most notable one in my mind would be Omniture that
sold for almost $2 billion. That was a nice, probably payday for you
and a handful of others. At one point in time, we were business partners and then he kicked me out and said... This is right when I was in college. And he says, "You should go on your
own and go and do stuff." He's been a great friend and mentor. And if you have the chance to meet him, I think it's awesome. But you probably get asked all the time, how much equity should
I give to a co-founder? - Well, first of all, I think you have to understand
a lot of people think, oh, let's just split it evenly, or equal putting in this or that. Or I have knowledge and skills or I'm putting in some cash or whatever, but usually there's a primary, a secondary and a tertiary founder. And in the most typical situation, there's gonna be a primary founder who is going to be founder CEO, and as an angel investor, as a venture investor, we wanna see that person with greater than 50% to start, so-- - Why is that? - Because of control issues? This is not a democracy
to be run by committee. We wanna see-- - But why not like me
and two of my friends, there's like three of us. Why not a third, a third and a third. - Third, third and a third because we don't know how
you're gonna break log jams that you could do a two, three vote, but there's nobody that's
got compelling ownership that can absolutely control things and be, as I was about to say, it's not something that should be run by
committee or a democracy. It should be a benevolent dictatorship in a startup at the beginning so that somebody who's got the vision as the primary founder
can make things happen and say the final word on things. And that's just much more powerful and much more reliable to
get to the finish line. And so it mitigates risk for the investor. - Let's talk about war stories without mentioning names, so the way you or don't get in trouble breaking confidentiality rules, 50-50. - Yeah, so absolute worst problem in all of entrepreneurship, because even the greatest
attorney in the world can't fix it is 50-50, where both parties are removable and just dig in their heels. And that can be really detrimental. And it's one of the first things I teach entrepreneurs is... And that's even for people at 25% a peace. - Give us the story. - There was a great young woman who founded a company here in Utah. And first month did 40,000 revenue, really off to a great start. And she had a partner
and it was her vision. She was the driver, but
she allowed it to be 50-50. Just a few months into it
with that kind of success, usually these problems don't exacerbate until there's success, which is ironic. If it's a failure, nobody cares 'cause there's nothing to
worry about or go after. So in this situation, they started disagreeing on things and the secondary founder who had 50% really dug in her heels and they just could not make
decisions and move forward and hire people and do all the
things that growth requires. And so they came to loggerheads and basically decided that
they couldn't work together. Well at 50-50 became a real messy affair. And one of them was
going to follow a spouse out of state to a job, they were trying to figure things out. What happened was because they
couldn't agree on what to do. They went into an attorney's office and decided to do a sort of an auction. There was a right way and
a wrong way to do this, to figure that out, which is the right way
would be each writes a number in an envelope, seals it. And then they opened the envelopes and whatever the higher price
is, then that deal happens. But this time that secondary founder wouldn't even agree to that and said, "Somebody has to go first." And then they couldn't
agree who's gonna go first. So they literally flipped a coin. So the primary founder lost the coin toss and then had to put out the number first, the other one said, "I'll take it." Bought the company. And the primary founder
was out of her own company. - Do you have another 50-50 war story? - Yeah, there's 50-50
war stories all over. There are four students at a university that started a company that
they did great work on it in terms of startup validation work. And they all of a sudden found out that there was high demand
and it was gonna be a success. And then they started arguing and disagreeing and it was 25, 25, 25, 25. And when push came to shove and they were getting lots of attention and it looked like they were
gonna get great investment, they just couldn't work together. And basically split in two versus two. And it weren't really litigious and really badly for a long while. A lot of mentors and
people had to get in there. And at the nick of time saved it, completely exploding or imploding. And they ended up hating each other, two versus two and two guys were out and two guys went on with the
company and it was just nasty. - Do you think the main person
should have at least 50%. - Yeah, and it's not just like 51-49. If it was two, I'd like
to see 55 at least. But I think even like, if you're gonna have a
primary and secondary, I'd like to see 65-35, just because then when you
bring in a third person, like let's say a great tech person and you have to give them 10%
of the company or something, or at least the first 12 to 18 months, the company will have
control of the company. - Okay, so hypothetically, you and I come up with an idea together. We're like, "Hey, this is
the greatest idea ever." How do we decide who
gets 65 and who goes 35? A coin toss? - Well, if it's truly coming up with the idea together, it depends. Let's take the classic, the classic start-up team should have at least a business
person and a tech person, whatever the technology is and business. So I'd be in favor of the business person being the CEO, generally speaking. When there's a tech person strong enough with interpersonal
skills and the equotient, the emotional quotient of business to be both the CTO and
the CEO at the same time, that's a unique person. And there are certainly
people out there like that. I mean, Bill Gates is
an example of somebody who was able to be a
driver on the tech side, but we ended up being even
more of a business genius and negotiator and ability
to get things done as well. So, I mean, if you just
take a look at that. But it's very rare that somebody like. - Okay, so let's say you
recruit me to be your CTO. You're just gonna give
me 35% out of the gate. - Well, if you didn't
come up with the idea, you're not the driver, you haven't been there from the... And I'm just looking for a
tech person to join my thing. I wouldn't do that. I think the tech, I have a lot of rules on this personally that I tell people--
- What are the rules? - So like with the tech person,
at least 10% in a startup, because if you go into single digits, it's almost guaranteed
in any kind of hot market or warm market that, that
person's gonna be recruited away for eight, 10, 12,000
dollar a month salary with some small stock
options at a better funded or more advanced or
chronologically advanced company and or big player they're
gonna steal that person away if they're a competent tech person. And single digits, I've just seen is not
enough to keep that person. Once you get North of 10%,
then the person's saying, "Oh, this startup I've got over 10%." It could be worth something. Now, if you really wanna
lock in that tech co-founder and make it right, probably more 20%. So 10 to 20 is the range. Anything 20% or North a person
has a harder time leaving if things are on a good
trajectory in any way. And that's practical
experience, what I've seen. And then you look at what
kind of salary you're doing. If they're getting zero dollars, they're probably gonna
need 20 to 40%, right? If they're getting $2,000 a month, then maybe they're going
to need 18% example, right? But if you're scratching up
and paying them 8,000 a month, then maybe they're down at 10% or 12%. And so you play with those levers. - Now, when you decide how much equity to give a co-founder or a founding team, I'm assuming a vesting
schedule is still part of that. - Yeah, it's... Well, first of all, you should never ever, never ever, ever never, never ever do any kind of startup without founders-- - Repeat that one more time. - Yeah, never ever, ever ever. - You got founder vesting in yourself. - Founder vesting out, even with the... Yeah, if you're gonna ask
your other co-founders to be founder vesting, you should too. I mean, if you leave, you're gonna leave them in the lurch too. So why should you leave
and keep your equity? So everybody should be
subject to founder vesting, and it's super smart
to do it from day one, because if you're eight
months into a company and get your first real venture investor, they're gonna absolutely
100% require founder vesting. So if you've already got it in place, then they say, "Good, you've got a year
or eight months errand or 12 months errand or 15 months errand, we'll just stick with that. If you're a year into your company and get a real venture investor, they're going to say, "Just start a four year vesting plan now." So you're gonna... And with a cliff. So they might give you
credit for some earn maybe. But a lot of them just say, "No, we're gonna start four years now." And then if they somehow engineer things to have you fired six months later, you're gonna be losing a lot of equity. - Okay, how often do
investors come and say, "We want you to start your
vesting right now, again." Is that common? - Yes, yeah. - When you write a check, is that something that you
ask the entire team to do. - Usually they have founder vesting because they've been mentored or a team that's got their act together. So they would have it in place. So I don't worry about it. - Would Podium have had founder vesting? - I Imagine they would have. I can't imagine they wouldn't have. - 'Cause they were just
like a student team that turned into a
billion dollar business. - Yeah, but when they
first get their first docs from a real venture attorney, the venture attorney is gonna say, "You should have founder vesting." Founder vesting is how
you protect founders from one another. Founder vesting's an absolute thing. Now, a foot note on founder vesting, just so your listeners know this. If you do founder vesting, it makes your stock restricted. And if you have restricted stock, the vesting dates become taxable moments. So there's a thing called
ruRe 83(b) Election, which you can tell the IRS in advance that we're doing founder vesting and my that makes my stock restricted, but I am a startup and I want to have an
exemption to every vesting date being a taxable event. This is really important. And the IRS requires you to notify them within 30 days of you getting that stock under a restricted stock
plan like founder vesting. And if you miss the 30 days, they never ever forgive anyone and it can cost you
millions of dollars in taxes if you're successful. - What are your other rules for giving equities to co-founders. - Well, just the levers between salary and equity are important and what role they're at. After you're past the true founder stage and have maybe quasi founders coming in, then the equity
percentages start dropping. And if it's just like a
key secondary tech person, they're not even
considered a quasi founder, then you're gonna be
at a certain percentage like maybe three, four, five, six, 7%. And they play with the numbers based on what kind of
salary needs they have. It's important to have
things be fair and even, if you try to be a policeman, say nobody should talk about their equity and what stock options they got
or equity they were granted. Everybody, human nature is they all talk and find out what everybody has any way. So just do it according
to good standard patterns in the venture ecosystem. And don't do weird stuff and
don't try to be secretive and hide things because
that causes problems. - Okay, so you would have vesting, the CEO should have in your mind, 65%, what other rules are there? - So I think when you start a company, I like to start with 4
million shares total, including an option pool. And the reasons because if you go with only a million shares
that can sometimes be too few. And also the share price is
higher and not as exciting. And people like cheap shares in a startup. So if you go with 4 million shares, you can have cheaper per share price. And it just feels like
you're getting a better deal. All things being equal. I like to see 15% stock option pool. So that would mean 600,000
in a stock option pool and 3.4 million divided by the founding or the founders in terms
of their starting equity. - And is that equity given
to investors or just-- - No, no, so in a C-Corp,
you have authorized shares. But that's not important, right? You just are telling the government, what's the maximum number
of shares you can have. But what you issue is
who owns the company. And so I'm saying at the beginning, let's issue 3.4 million
amongst the founders on whatever percentage you should. And let's at a 600,000
option pool on top of that. - Okay, so if it was you and me, you would have 65% of
the 3.4 million shares? - Right, and you would have the other 35% and then we'd put 600,000
on top of that as well. Now that means then as
you grant those shares, and if they become really
beneficially owned, that's gonna be dilutive to you. But remember the stock option plan, shares that are sitting in
there ungranted and unexercised, and not owned by anyone, don't affect voting
until way down the road. - Okay, are there too many... Can you have too many co-founders? - Yes, how many is too many? - I think five or more is too many, yeah. I think the ideal is two, three or four. - Why is that? - Five just gets to be so many people and I've never seen a five person team, very deep into a deal where
they're all still there. And so you've got the
acrimony of ejecting founders and dealing with getting the stock back through the reclaiming of
the unvested shares and just, it doesn't seem to end well. But having two sometimes is
a lot of work for two people, but you have two co-founders done if they get great first team members that are not founders, but really strong and give
them good option packages, then it could be great. - Cool, is there anything else
you wanna add to this topic? - Thinking about just listen to this, because this is of all
the things I deal with, in mentoring and helping entrepreneurs, there's nothing worse
than the 50-50 problem. And the disharmony of
messing up this topic. This is the nightmare situation. Most of the litigation in entrepreneurship is actually around founder suing founder. - How many of those lawsuits have you seen throughout your career? - Countless. - More than a hundred. - I don't know a lot. Not all of them go to
lawsuits and filed lawsuits, but as far as legal scrimmages, yes. - What happens if you find yourself in a legal scrimmage with a co-founder? - Well, if it's a 50-50 problem, you have to decide, and it's just seems unresolvable. Sometimes you have to get a little nasty and get a really strong attorney and fire nuclear bomb at the other side. And a lot of times that'll work. Sometimes it doesn't. That's just a (indistinct). - What would be the nuclear bomb? - Something, whatever, in that you got... that's a situationally specific thing. It depends on if your paperwork
was done right or sloppy and all that type of stuff
and what you could do and just get a bulldog situation, you know that you're
nuking your friendship and relationship forever. When you do that, it's not good. But that happens, and I've seen people get
out of situation doing that. Usually it ends in a
negotiation settlement that both sides are unhappy
with and then walk away. Anybody that's been through this it's-- - (mumbles) of your life. - It's not, it's not fun. It's a nightmare. It really is the worst of the worst. - All right, well,
thank you, John Richard, for sharing your advice and topics on how to give and divide
equity amongst co-founders. - Well, thanks for having me, John and keep doing great work. You're a great asset to
the Venture community. - You've been mentoring hundreds and hundreds of startups for yourself. What is Startup Ignition. - Well, I've probably
mentored in the thousands now and Startup Ignition is an
entrepreneur Bootcamp in Utah, people from outside the state and outside even the country
come to Utah to attend it. And many hundreds have gone through it. It's just an intensive, short-term bootcamp teaching people how to do entrepreneurship
right from the start. - And we'll put a link
down here in the bottom so you can check out Startup Ignition. - Oh, thank you, that's great. - Awesome, well, thanks
and join us next time. - Thank you.
- All right. (soft music)
