Calculating equity for a startup is an extremely important part of a business, and can be long term ramifications if done poorly.
In my personal opinion, there are generally 2 ways to approach allocating equity in a startup:
- From a contribution standpoint
- From an 'equality' standpoint
- From a 'control' standpoint
1. Allocating shares by contribution
This in my opinion is the best approach for long term success, where every founder is allocated shares based on their contribution level in the company.
There are also several calculators out there that help you break it down.
But fundamentally, priority for additional shares should be allocated to:
- The person who brought everyone together (Who came up with the idea)
- Who will build the product
- Who will contribute to driving revenue / sales
- Who is full-time / part-time
- Who does the fundraising / pitches to investors
and so on...
In this arrangement, usually the leader comes out with the most number of shares, but may not amount to more than 51% with respect to larger founding teams.
2. Allocating shares by an Equality standpoint
This is fairly basic, where every founding member gets equal shares.
While this may be simple in the beginning, it may have long term ramifications if one of the team members does not pull in enough weight in the company.
This happens a LOT in startups during their early phases as there isn't much returns to show for the effort, and the only thing binding everyone together are their shares.
Also, when distributing equal shares to founders, it is crucial to avoid a deadlock - a situation where 2 groups of shareholders with opposing directions have 50% shareholding in the company - resulting in decisions not being able to be made.
3. Allocating shares by control
This is also a fairly simple setup, where one individual in the company is 'empowered' with a majority of the shares to maintain decision-making control in the company. Think of it as an authoritarian position by shareholding.
This typically happens in certain companies in Asia, where a bulk of the shares is held by a single founder.
While this may be a good strategy for ensuring things move smoothly (and swiftly) in the company, it can also be detrimental if the founder is a megalomaniac.
Conclusion
Proper shareholding allocation is crucial for long term prosperity in the company.
Often times, founders tend to have conflict among themselves at later dates because they're unsatisfied with their shareholding structures, especially when one of them feels that they are being "compensated unfairly".
Hence it is best to get this ironed out from the beginning, and to properly talk this through everyone beforehand.
