Dividing equity in a startup can be tricky, but it’s essential for attracting talent, rewarding contributions, and aligning interests. Here's a quick breakdown:
- Founders: Start with 100% ownership. Split equity based on contributions, time, and risk. Use vesting schedules (e.g., 4 years with a 1-year cliff) to avoid disputes.
- Employees: Allocate 10%-20% of total equity. Early hires take more risk and get larger shares (e.g., 0.25%-3% for hires 1-5). Later hires receive less equity but higher salaries.
- Advisors: Typically receive 0.1%-0.5% equity for strategic input. Vesting is often milestone-based.
- Investors: Seed investors usually get 10%-20% equity, depending on the funding amount and valuation.
Key Tips:
- Use clear agreements and transparent communication to avoid conflicts.
- Implement vesting schedules to ensure long-term commitment.
- Balance equity pools carefully to retain flexibility for future hires.
Equity isn’t one-size-fits-all. Tailor it to roles, timing, and contributions while keeping everyone aligned with the company’s goals.
How to Structure Startup Equity
Key Stakeholder Groups in Equity Allocation
Determining who receives equity is a critical step in building a fair and effective ownership structure. Startups and small businesses typically allocate equity to four main groups, each playing a distinct role in the company’s journey. Below, we break down how these groups influence equity distribution and why their contributions matter.
Founders and Co-Founders
At the start, founders own 100% of the company. Over time, they dilute their ownership to bring in other stakeholders and build a committed team. Founders are the driving force behind the business, investing their time, skills, and resources to get it off the ground.
How founders split equity among themselves can vary widely. Some choose equal splits to maintain harmony, while others opt for unequal shares based on contributions. For instance, Bill Gates and Paul Allen divided Microsoft 64%-36%, while Google’s Larry Page and Sergey Brin split theirs 50%-50%.
Several factors influence these decisions, including the time each founder invests, the capital they contribute, the intellectual property they bring, and the level of risk they assume. These discussions should happen early and transparently. As startup attorney Matthew Rossetti points out:
"Easily 60% of the time founders end up in court, it boils down to equity distribution issues."
To avoid such disputes, founders should document agreements clearly and set up vesting schedules to ensure long-term commitment and protect against premature exits.
Employees
Employees are vital to a startup’s success, and their equity reflects the risks they take and the value they add. Typically, companies set aside 10% to 20% of total shares for employee equity pools.
Early employees often receive larger equity stakes, as they join when the company’s future is still uncertain. For example, the first employee might receive up to 0.75% of the company, with subsequent hires collectively accounting for around 2.5% of equity for the first 10 key team members.
As the company grows and becomes more stable, later-stage hires generally receive smaller percentages. However, individuals in critical roles or with unique expertise may still secure significant equity, regardless of when they join. For example, CXOs hired after Series A funding often receive 2-5% equity.
Michael Houck, CEO of Launch House, highlights the importance of employee equity:
"Employee equity is super important. You want to make sure that employees, especially early employees who are making a huge commitment and taking a huge risk to bet on your startup versus one of the many of the other things they could do with their skills, are compensated for that and have the upside for that in the long run."
Advisors and Consultants
Advisors contribute expertise, industry knowledge, and connections that can help startups avoid pitfalls and grow faster. Unlike employees, their equity rewards strategic contributions rather than day-to-day involvement.
Advisor equity typically ranges from 0.1% to 0.5%, with median grants around 0.25% for pre-seed advisors. Data from early 2024 shows that the median advisor grant was 0.21%, and only a small percentage of pre-seed advisors - about 10% - received 1% or more.
To manage equity effectively, the advisor pool should generally not exceed 2% of the company’s total equity, with individual advisors typically receiving no more than 0.25%. Advisor vesting schedules often differ from those of employees. As Amit Bhatti, a lawyer and principal at 500 Global, explains:
"Vesting doesn't make sense for advisors the same way it does for employees."
Advisors may receive equity that vests over shorter periods, such as 0.5-2% vested over two years with a three-month cliff, reflecting their project-based or milestone-driven contributions.
Investors
Investors provide the capital needed to fund operations and growth. Unlike operational stakeholders, their equity primarily reflects financial risk rather than labor or expertise.
During seed rounds, investors typically receive 10-20% of equity, depending on the investment amount and company valuation. Founders generally aim to keep equity offered in seed rounds below 25% to retain control.
Investor equity often comes with special rights, such as preferred stock, liquidation preferences, anti-dilution protections, and sometimes board seats or voting rights. These features reflect the financial risks investors take and their role in the company’s growth.
Balancing investor equity with other stakeholders is crucial. While investors provide essential funding, founders must retain enough equity to stay motivated and maintain control over key decisions. This balance becomes even more critical as companies navigate multiple funding rounds and face further dilution.
Understanding these four stakeholder groups is the first step toward building an ownership structure that aligns everyone’s interests and drives the company forward. Each group’s role and contribution shape how equity is allocated, ensuring a fair and effective distribution.
Equity Allocation by Role and Hiring Stage
When someone joins a company can significantly impact how much equity they receive. According to a Carta survey, only 26% of startups have a single founder, meaning the majority - 74% - must navigate the tricky waters of dividing equity among co-founders. Beyond founders, the stage at which employees come on board also plays a big role in determining their equity share, as it reflects the level of risk they take.
Founders and Co-Founders
How equity is divided among founders can set the tone for the entire company. Yet, a Harvard Business Review study found that dissatisfaction with equity splits increases 2.5 times as startups grow. This frustration often stems from poorly planned initial agreements.
There are two common approaches to splitting equity among founders: equal splits and weighted splits. Equal splits are simple and can foster goodwill, but they may lead to stalemates when decisions need to be made. Weighted splits, on the other hand, aim to reflect each founder's contributions - whether that's skills, time, financial investment, connections, or risk tolerance. For instance, a technical co-founder who builds the product might receive a larger share than someone joining later to focus on business development.
Y Combinator co-founder Paul Graham has observed that about 20% of their startups experience a founder leaving, often due to disagreements over equity. To reduce the chances of such conflicts, implementing a four-year vesting schedule with a one-year cliff is a common practice. This ensures that equity is earned over time, aligning all founders with the company's long-term vision.
"Money was never the core motivation starting. The core motivation was making a large-scale impact. And anything which sub-optimizes this large-scale impact, any of these situations - unequal pledge, positioning, who's doing what - that brings in politics and division."
- Rajesh Yabaji, Co-founder and CEO
When setting up a new Delaware corporation, a typical starting point is to authorize 15,000,000 shares of common stock. Founders often follow a vesting schedule where shares vest monthly over four years, with no shares vesting during the first year (the one-year cliff).
Next, let’s explore how equity is allocated to early employees who take on greater risks.
Early Employees
Early employees join when the stakes are high and success is far from guaranteed, so they generally receive larger equity stakes. A common guideline is to allocate about 10% of the company’s equity to the first 10 employees.
Here’s how equity might break down for early hires:
- Hires 1-5: 0.25%-3%
- Hires 6-10: 0.10%-1%
These percentages can vary based on the employee’s role and contribution. For instance, experienced engineers and product developers often command higher equity stakes because of their demand in the market. Conversely, roles like sales may lean more toward cash compensation and less toward equity.
"Employee equity at the start of a startup's journey should reflect the level of risk the employee is taking on by joining a company in the very early days."
- Merten Wulfert, Ravio Co-founder
When deciding equity for early employees, a few factors come into play:
- The company’s progress and traction
- The potential upside of the equity
- The salary being offered
- Opportunity costs, such as leaving a higher-paying job
If you’re offering below-market salaries, consider offsetting this with additional equity. This approach allows startups to attract top talent while giving employees a meaningful stake in the company’s future.
As the company grows and risks diminish, equity allocations naturally adjust.
Later-Stage Hires
Equity shares shrink as the company matures. At this stage, position and seniority heavily influence equity offers, with a VP of Sales joining post-Series A likely receiving far more equity than a mid-level marketing manager hired at the same time.
By this point, the company has demonstrated its viability, secured funding, and gained market traction. This reduced risk means later-stage hires often receive higher salaries but smaller equity stakes. While the potential upside may be smaller than what early employees enjoy, the likelihood of success is much greater.
Startup employee equity pools typically range from 10%-20% of authorized shares. It’s important to manage this pool carefully to ensure there’s enough equity left for future key hires. Researching what similar companies in your industry offer can help you stay competitive. While early employees take on more risk and receive larger equity stakes, later-stage employees benefit from a more stable environment and a clearer path to success.
The ultimate goal is to strike a balance - ensuring equity reflects each individual’s contribution, risk level, and the value they bring to your company’s mission. Whether someone joins at the very beginning or after Series B, their equity should align with their role and your company’s overall vision.
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Performance-Based and Custom Equity Structures
Equity distribution isn't just about assigning shares based on roles. By incorporating performance-linked and custom equity structures, startups can refine their approach, offering incentives that reward meaningful contributions. These methods go beyond traditional splits, aligning individual achievements with the company’s growth trajectory.
Performance-Based Equity
Performance-based equity ties compensation directly to measurable goals or key performance indicators (KPIs). A survey from Salary.com reveals that 75% of organizations integrate performance-based pay into their compensation strategies. This ensures employees earn their equity by hitting significant milestones that drive the company forward.
The success of such structures depends on setting SMART (Specific, Measurable, Achievable, Relevant, Time-bound) goals that align with both company objectives and individual roles. For instance, a VP of Sales might have equity vesting tied to revenue targets, while a Head of Engineering could see shares vest based on product launches or user growth.
Interestingly, 65% of employees favor bonuses tied to personal performance. These programs not only boost job satisfaction but also reduce turnover.
A standout example is Southwest Airlines, which has offered a profit-sharing plan to employees since 1974. In 2023 alone, the company paid $81.4 million through this program. This long-standing practice has contributed to a strong workplace culture and an exceptionally low annual staff turnover rate of just 5%.
Custom Incentives for Different Teams
Different roles call for tailored equity structures to maximize motivation and effectiveness. Customizing equity packages through negotiation allows startups to address the unique contributions of each team.
- Sales teams often thrive with equity tied to revenue growth or customer acquisition milestones.
- Engineering teams might prefer vesting tied to product development goals, code quality, or reducing technical debt.
- Product teams could see equity linked to user engagement, feature adoption, or customer satisfaction metrics.
Amy Spurling, CEO of Compt, highlights the importance of balancing individual and team incentives:
"While salaries, in my opinion, should always be based on market comparisons for similar roles at similar sized companies, bonuses can be used to reward those who go above and beyond. This works best when the achievement goals are quantifiable so that subjectivity is minimized."
– Amy Spurling, CEO and founder, Compt
However, she also warns about potential pitfalls:
"If everyone knows there is one pie and it can only be divided so many ways, competition could be toxic. It also means that those who know they are not in the running may just give up and not perform."
The most effective custom equity plans strike a balance between short-term and long-term goals. Short-term incentives focus on immediate wins, like quarterly targets, while long-term incentives emphasize sustained value creation over years. This dual approach ensures employees remain committed to both immediate and future success.
Comparing Vesting Structures
Choosing the right vesting model is key to aligning incentives with your company’s goals. Here’s a breakdown of common vesting structures:
| Vesting Type | Description | Pros | Cons |
|---|---|---|---|
| Time-Based | Shares vest gradually over a set period (monthly or yearly) | Predictable; encourages long-term commitment | Doesn't directly incentivize performance |
| Milestone-Based | Shares vest upon achieving specific goals | Aligns with company objectives; boosts performance | Setting fair milestones can be challenging |
| Cliff Vesting | No shares vest until a waiting period ends, then a large portion vests | Protects the company; encourages retention | May deter potential hires |
| Hybrid Vesting | Combines time-based and milestone-based vesting | Balances predictability with performance incentives | Can be complex to manage |
| Accelerated Vesting | Allows faster vesting under certain conditions | Protects employees during major events | Can be costly for the company |
Time-based vesting is great for retention, while milestone-based vesting ensures critical objectives are met before rewards are granted. Many companies find hybrid models effective, blending the stability of time-based vesting with the motivational edge of milestone-based structures.
To make these systems work, it’s important to set clear metrics for both short- and long-term goals, regularly review and adjust them, and provide support to help employees succeed.
The ultimate aim is to design equity structures that inspire exceptional performance without compromising fairness or transparency. Whether you choose a performance-driven model or a hybrid approach, the key is aligning the structure with your company’s values and long-term aspirations.
Best Practices for Fair Equity Distribution
Fair equity distribution is about more than just crunching numbers - it's about fostering trust, maintaining openness, and safeguarding everyone involved. Today, more than 70% of startups include equity in their compensation packages, reflecting its growing importance.
Clear Communication and Documentation
Transparency is the foundation of any successful equity program. Employees need to understand how equity decisions are made to feel valued and invested in the company’s future. Start by explaining the criteria for equity allocation, focusing on objective factors like role, seniority, performance, and contributions. Make sure to provide clear details on vesting schedules, dilution effects, and tax implications.
Amanda Kristinat from Moonshot highlights the value of clear communication:
"For effective stakeholder communication, companies must transparently convey financial performance and strategy. Use clear language, emphasizing key metrics and future objectives. Keep it concise and visually accessible. Regular updates, interactive presentations and addressing concerns build trust with investors, regulators and lenders."
It’s also crucial to explain dilution - how future funding rounds or additional equity grants can reduce ownership percentages. Formal agreements that outline equity allocation, vesting schedules, roles, and responsibilities can help prevent misunderstandings. Additionally, providing a platform for employees to ask questions or share concerns ensures potential issues are addressed early.
These steps set the stage for strong vesting and buyback policies.
Vesting Schedules and Buyback Provisions
Vesting schedules and buyback provisions are critical for protecting both the company and its employees. A four-year vesting period with a one-year cliff is a widely accepted standard in the industry. Under this structure, no shares vest during the first year. After the 12-month cliff, 25% of the shares vest immediately, with the remainder vesting gradually over the next three years. Dan Green, Partner at Gunderson Dettmer, advises:
"This is one area where less creativity is better."
The one-year cliff ensures that employees who leave early don’t walk away with a disproportionate share of equity. Meanwhile, buyback provisions allow the company to repurchase shares from departing team members in cases such as resignation, termination, death, or disability. Often, the buyback price matches the original purchase price of the shares, though some agreements use fair market value for no-fault situations like death or disability. Founder Stock Restriction Agreements further formalize these terms, reducing the risk of future disputes.
Using AI Tools for Equity Planning
Once clear policies and vesting structures are in place, advanced tools can help refine equity planning. AI-powered tools can model complex scenarios and provide actionable insights. For instance, cap table analysis helps founders see how different equity arrangements impact ownership percentages as the company raises additional funding.
Lucid Financials is one example of a platform offering AI-driven equity planning tools. It allows founders to model various equity scenarios, compare them to industry benchmarks, and understand how different strategies affect compensation costs and company valuation. By experimenting with different approaches, founders can see how decisions around equity might influence dilution over time.
AI tools also help ensure your equity offerings remain competitive. For example, the typical employee equity pool ranges between 10% and 20% of company ownership.
Conclusion
Structuring equity involves finding the right balance between fairness, motivation, and long-term success. Founders, early employees, and later hires should receive stakes that align with the level of risk they’ve taken and the contributions they’ve made. Equity allocation should reflect the unique role each stakeholder plays in the company’s journey.
Establishing clear policies and maintaining open communication are key to building trust. As Elizabeth Wasserman aptly puts it, "A business plan is all conceptual until you start filling in the numbers and terms. The sections about your marketing plan and strategy are interesting to read, but they don't mean a thing if you can't justify your business with good figures on the bottom line." This idea directly applies to equity planning - well-defined vesting schedules help prevent misunderstandings and foster trust among all parties involved.
Modern AI tools have become a game-changer in simplifying equity planning. For instance, Lucid Financials offers integrated financial planning that provides a comprehensive view of a company’s financial health. It helps businesses quickly and accurately identify strengths, weaknesses, and areas for growth. These tools not only save time by reducing manual errors but also improve decision-making through features like scenario planning and risk analysis.
A successful equity plan combines clear policies, fair allocation, and advanced tools. When these elements work together, companies can create equity programs that attract top talent, motivate their teams, and drive sustainable growth - all while ensuring founders retain control and investors remain confident.
FAQs
How should co-founders divide equity when their contributions and risks are different?
When dividing equity among co-founders, it’s important to base the split on each person’s contributions, responsibilities, and the risks they’re taking. If all co-founders are equally involved, an even split might make sense. But when contributions vary - whether it’s through time, skills, or financial investment - a more tailored, weighted division is often the better choice.
To keep things fair and prevent future disputes, consider implementing vesting schedules. These ensure that equity is earned over time, protecting the team if someone decides to leave early. Open and honest conversations about expectations are key to aligning everyone’s goals. It’s also a smart move to consult with legal or financial professionals to structure equity in a way that supports the company’s long-term success.
What should you consider when allocating equity to early-stage versus later-stage employees?
When dividing up equity, it's crucial to consider the greater risk and uncertainty that early-stage employees take on. To reward their dedication, these team members often receive a larger slice of equity - typically between 0.5% and 2% or more, depending on their role and responsibilities. This approach acknowledges the critical contributions they make and the risks they shoulder during the company's formative days.
For employees who join later, the company’s valuation is usually more established, and the risks are considerably lower. Because of this, equity grants for these team members are often smaller - frequently half or less of what early hires might receive. Even so, these grants remain an effective way to attract top talent and align their interests with the company’s long-term vision.
Striking the right balance in equity distribution promotes fairness and encourages a shared sense of ownership and commitment, no matter when someone joins the team.
How can we design performance-based equity plans that align with company goals?
To create equity plans that truly drive performance, begin by establishing specific, measurable performance metrics that reflect your company’s key objectives. These could include targets like boosting revenue, increasing customer acquisition, or improving operational efficiency. The idea is to directly connect employee efforts to the company’s overall success.
Integrate these performance benchmarks into equity awards to encourage employees to focus on achieving meaningful results. Make it a point to regularly assess performance and keep communication open and clear regarding how equity is distributed. This transparency not only strengthens trust but also enhances employee engagement. A thoughtfully designed plan does more than incentivize - it cultivates a shared dedication to the company’s long-term growth.
