Founders, Ownership and Prenuptials

Aug 18 2009 01:59:51 PM
Posted By :

Mark Suste

This is part of my ongoing series, “Startup Lessons.”

Yesterday I wrote a blog post (here)
in which I urged people to not have too many founders. Best case
scenario in my mind is just 1, but at most I recommend 2.   I knew this
topic would be controversial because when I tell people this in person
it always elicits shock.   To be clear – it is not about being stingy
with or hoarding equity – it is about having a prenuptial agreement.

Let me give you some scenarios that do happen in real life:

You
start a company 50/50 with a good friend.  If it becomes the next
YouTube you always stay friends.  99.99% of companies do not become the
next YouTube.  In fact, most go through tough times at some point.  Or
maybe it’s not a good friend but you’re a business guy and hooked up
with a technical guy you know through the network and you think you’ll
work well together or vice-versa. 

If you’re not an overnight success or if you do struggle what happens? 

• What if one guy needs to pay bills and takes a full time job somewhere.  Should he/she keep 50%?


• What
  if you have to make really tough calls on cutting costs, biz dev deals,
  fund raising and you violently disagree on direction? Who prevails?


• What if the person performs OK, but not great and you need to hire above him?

These
situations are only compounded if you have 3 or more founders.  I know
that many people reading this will be in companies with 3+ founders and
aren’t having any friction.  That’s great. I have even invested in
companies like this.  I know that conflict doesn’t always happen.  It’s
just that when it does it usually comes after much time and expense.

Real
world story – a friend of mine used to work at Google.  He started a
company with 2 others. They agreed to all be co-founders.  Now nearly 2
years of hard work have been put into the company (not to mention a lot
of their savings) and they have had to have the discussion about who
should be CEO.  2 of the 3 want the job.  They each own 33%.  There is
no mechanism for deciding.  They agreed to let the VC’s decide once an
investment comes in.  That sucks because VCs will want to know that you
have all the difficult stuff worked out before you come to them. You’re
just giving the VC one more reason to potentially so “no.”  In many
cases these things get worked out and I’m optimistic in my friend’s
scenario.  But … do you want to risk it AFTER you’ve sunk in years and
hard-earned $$$?

Why does someone need to be CEO?  In many
businesses you end up needing to make tough decisions.  Consensus does
not always build. 

In yesterday’s post, however, I did not
advocate being greedy.  To the contrary.  I believe that it very
important to spread the equity.  I believe that you should have a
“partner” or 2 in the company.  I believe you should treat them as
partners.  They should have access to all the same information.  They
should be involved deciding in all the difficult issues.  They should
have huge upside in the economic potential of your business. 

But
if you set up a company by yourself and give a large % in restricted
stock or stock options to a partner and for some reason you fall out of
love, you have a pre-nuptial agreement in place.  If they stay 2 years
and then leave – great.  They only walk with half of their position.  I
know that this could be achieved with simple vesting schemes, but there
is a rub.  What if you decide that they need to leave?  It’s far better
than you have some leverage that doesn’t end up torpedoing the company.
50/50 partnerships sometimes end with a bang.

There, I’ve said
it.  I know it’s controversial.  But I still think it’s right for many
a founder / entrepreneur.  Yes, there are exceptions.  No, it’s not the
end of the world if you’re 50/50 or 33/33/33.

A friend and respected colleague, Bryce Benjamin
(of TechCoast Angels)  wrote to me after my last post.  He was
concerned that I had set the impression that founders should hoard
their equity or that there were prescribed numbers to hand out.  He
authorized me to post his comments:

“We’re
in sync on so many start-up/entrepreneur issues that I may have
knee-jerked a bit too harshly on this one.  But it is the “founding
team” size and “percentage ownership” advice in this post that I feel
you’re being too prescriptive about.  After re-reading, I see you have
qualified your comments, but one of the things readers really like
about your blog is that you give specific, actionable advice in it and
your qualifiers will be ignored just as I read right past them last
night.

One of the mistakes I see entrepreneurs
commonly making is too much focus on their ownership % and not enough
recognition of the various core competencies and expertise they’ll
actually need to create a successful biz.  Generally a founder (or
founding team) has strong core competencies in “a” discipline, but
lacks the breadth needed to build the business.  First time
entrepreneurs, especially, tend to need more than one other “key” team
member/partner to help them be successful.  And to be able to attract
the expertise/experience they require, they should be willing to give
up pretty sizable chunks of the company.  Experienced entrepreneurs who
know the ropes won’t need the same kind of support and will be able to
build a team by giving up less of the ownership.

In
terms of %’s, my advice to entrepreneurs is to focus on value and
fairness.  I agree that “fairness” doesn’t always mean equal, but
sometimes it does.  Again, though, the key for the entrepreneur is to
focus on what individual(s) is(are) essential to expanding the size of
the pie and getting the right people, not specifically on the size of
his or her piece.”

I agree 100%.  I hope
that this post clears that up a bit.  I don’t advocate being stingy.  I
advocate, to steal Bryce’s words, “fairness and value.”  Many solo
founders who have spent time with me would confirm that I often tell
them, “you need to find a “co-founder” to work with if you want this to
be successful.  And you need to be prepared to part with 10, 20, 30% of
your company or more to make this happen.”

http://www.cloudave.com/link/founders-ownership-and-prenuptials