If you have a business partner, or you’re thinking of bringing one on in the future, one of the big questions you’ll confront is how to split the equity between you (or among you, if there are more than two of you).
Many times, cofounders of a business have a history as friends or coworkers, so there’s a natural instinct to “trust” that the other person is 100% committed to the business. This is understandable and, in most cases, a net positive given that cofounders have to trust one another in order to successfully run and grow a business.
That said, assuming that the business should be split 50-50 because you’re “in this together” is one of the most common – and most serious – mistakes that new business owners make. Many times, one of the founders’ committment to the business will start to waiver, especially when the business hits a rough patch or if one of the founders is still working somewhere else to make ends meet.
This is a sure-fire way to create conflict and, very possibly, watch the business implode as the founders fight among one another. For that reason, it’s important to consider the following when deciding how you and your partner will split equity in your venture:
Money invested in the business: If one of you is financing the company (or putting in significantly more money than the other partner), that person will usually be entitled to a bigger portion of equity in the company.
Time spent on the business: Often, one partner will be spending all of their time on the business, while the other juggles three or four projects. This is especially common if one founder is more financially secure than the other. If this is likely to be the case, the partner spending more time on the business will typically be entitled to more equity.
Roles played by each partner: In the early days of a company, it’s inevitable that an “all-hands-on-deck” mentality will pervade: there is simply too much that needs to be done for roles and responsibilities to be cleanly defined. That said, it’s important to have a roadmap of what the company will look like in the future, and what role each founder will play. The founder that takes on more responsibility (and more risk) will naturally be entitled to more equity. The CEO, for example, will typically have a larger ownership stake than the COO or the CTO.
Extent and value of your experience: One partner will typically have more experience than the other in the business’s chosen industry. As a result, that partner will be able to spot and realize opportunities that may not be possible if he or she wasn’t involved in the business. This is also true for each partner’s Rolodex; one founder is likely to have more and better-quality connections to potential leads and investors. Given the invaluable nature of experience and connections, the better-equipped founder will typically be entitled to a bigger stake in the business.
Of course, there are many other potential factors to consider when dividing up your equity, and the ultimate determination will be dependent upon your industry and your relationship with your cofounder, among other things. No matter what you decide, it’s imperative to put your final decision, along with the reasoning that led up to it, into a Founders’ Agreement or similar document. Be sure to hold each founder accountable so that, for example, if either founder stops pulling her weight, her equity can be reduced accordingly.