To follow-up on my earlier post on “Young Entrepreneurs“, Paul Graham has an excellent article that talks about the initial years of any start-up. “How to start a start-up“, PaulGraham.com. Paul accurately describes what exactly can stop a nascent company dead in its tracks. He also covers some of the oft-used terminology. To add to his article, I have learnt a few things over the past few weeks (from other experienced entrepreneurs).
Entrepreneurs might decide to maintain full control of the company and the idea initially and provide the seed capital from their own pockets. On executing the model successfully and having it pay for itself, the company could then decide to involve VC’s. Apart from retaining control on the idea and the model, the entrepreneur also enjoys the advantage of not having to showing potential investors that the idea does work. Naturally, this might not work in all situations. For example, the start-up may require a lot more ready cash than the founder can provide himself. There is an alternative, start-up’s could seek strategic investors for exclusive contracts and equity in the company. Unlike a VC or an angel investor, a strategic investor is also a direct beneficiary of the proposed model who is attracted to invest based on the potential of the idea. The company can then continue to retain IPR over the idea. Inviting angel investors might potentially seed friction in the future. When inviting subsequent rounds of VC funding, VC’s might propose to wipe out existing angel investors for a larger share in the company for themselves. Since angle investors are usually family or friends, accepting such an offer would invite disaster. (Thanks to Shridhar)
I really like Paul’s advice on how to determine sweat equity awards to each of the founders, it makes sense because the founders do need to stay hungry to see the company through.
The problem is, for the company to exist, you have to decide who the founders are, and how much stock they each have. If there are two founders with the same qualifications who are both equally committed to the business, that’s easy. But if you have a number of people who are expected to contribute in varying degrees, arranging the proportions of stock can be hard. And once you’ve done it, it tends to be set in stone.
I have no tricks for dealing with this problem. All I can say is, try hard to do it right. I do have a rule of thumb for recognizing when you have, though. When everyone feels they’re getting a slightly bad deal, that they’re doing more than they should for the amount of stock they have, the stock is optimally apportioned.