Startup Equity: Complete Guide for Founders

What is Equity?

Equity represents ownership stake in a company, typically given to founders, employees, and investors. It represents a claim on the company’s assets and future profits, usually expressed as a percentage of total company ownership.

Why Equity Matters for Startups

Equity is the primary way startups compensate founders and early employees when cash is limited. It aligns everyone’s interests with company success and can create significant wealth if the startup grows and exits successfully.

Understanding equity is crucial for founders to make informed decisions about fundraising, hiring, and long-term wealth building. Poor equity decisions early on can have lasting consequences.

Types of Startup Equity

Common Stock:

  • Typically given to founders and employees
  • Voting rights in company decisions
  • Last in line for liquidation proceeds
  • Subject to vesting schedules

Preferred Stock:

  • Usually given to investors
  • Liquidation preferences and anti-dilution protection
  • Often includes board representation rights
  • May have conversion rights to common stock

Stock Options:

  • Right to purchase shares at a fixed price (strike price)
  • Common for employee compensation
  • Subject to vesting and exercise requirements
  • Tax implications upon exercise

Equity Distribution Guidelines

Founder Equity Split:

  • Equal Split: 50/50 for two co-founders with similar contributions
  • Unequal Split: Based on experience, contribution, and risk
  • Vesting Schedule: Typically 4 years with 1-year cliff

Employee Equity Pool:

  • Early Employees: 0.5-2% for first 10 employees
  • Senior Hires: 0.1-1% depending on role and stage
  • Pool Size: 15-20% of company reserved for employees

Investor Equity:

  • Seed Round: 10-25% of company
  • Series A: 20-30% of company
  • Later Rounds: 10-20% per round

Equity Best Practices

For Founders:

  • Vesting Schedules: Protect against co-founder departure
  • 83(b) Election: File within 30 days of equity grant
  • Legal Documentation: Proper equity agreements and cap table
  • Regular Valuations: Update 409A valuations annually

Common Equity Mistakes:

  • Not implementing vesting schedules
  • Giving away too much equity too early
  • Poor documentation and record keeping
  • Not planning for future funding rounds
  • Ignoring tax implications

Equity Dilution:

Each funding round typically dilutes existing shareholders. Plan for multiple rounds and reserve enough equity for future employees and investors.

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