A Bootstrapping Dilemma – Offering Equity In A Startup
Work needs to get done and the angel investors have not arrived with their financial harps escorting you to startup paradise. There’s PR, sales, coding, development… You name it. It needs to get done and it all takes money that you don’t have. Should you use equity to keep service providers working for you?
On the one hand, exchanging equity for service is a way to keep the shop doors open. Contractors, consultants, vendors–whomever you offer equity to–will also take a more vested interest in your company’s success. On the other hand, pitfalls abound and you’re offering the most precious resource of your company at a time when it’s difficult to gauge the value. Dole out those paper shares and options too loosely, and you might unwittingly surrender future control of your company.
Most seasoned entrepreneurs and financial experts would counsel to give away stock only as a last resort. Compensating with equity dilutes business ownership early on. What might seem like a great speedy solution could easily resemble a reckless decision if the company’s value rises dramatically down the road. Then again, the unforeseen always happens, so…
Have A Plan
The idea for your company arrived in a flash, and you’re still figuring out how to structure the business and staff. It might feel way too early to think about stocks, stock options, or profit for that matter, which is exactly why it’s important to have a plan before events unfold. Decide early if you’re willing to give equity to non-employees, and how much of it you’re willing to part with. Imagine what the company might look like in a year, and devise a stock option pool that includes employees, people you plan to hire, while separating the all important founders’ shares.
Whatever You Do, Put It In Writing
Things happen fast in the startup world, which makes it easy to rush into casual arrangements. Agreeing to give away equity via text or handshake: not smart. Obviously, such deals make keeping accurate records extremely difficult. When it’s time to sell or go public, you’ll need to know exactly how many shares exist and where they are to determine the value per share and settle accounts accurately. Don’t fool yourself into thinking that you’ll remember. And why invite any nasty legal disputes over vague deals?
Proper paperwork protects the company. When offering equity, you should consider if you want your contracts to include right of first refusal, share transfer restrictions (so contractors can’t give stock to your competitors), or a clause that let’s you terminate at will. Remember, a lawyer’s help drafting these documents costs less than complicated lawsuits.
Careful Who You Give Equity To
You may need critical services performed for your company, but are you sure about the workmanship you expect to receive in return for your equity? Hopefully, you’ll be in business for a long time to come (or until that huge sale lets you abscond to your private island), and you don’t want to establish ties with a) people you can’t stand, or b) people who can’t deliver the goods. Set milestones or deliverables to reward compensation (or to refuse). Give people incentive to perform effectively and grow your business. If service providers object, this might serve as a strong indication that what they bring to the table isn’t worth a piece of your company.