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Need opinions: equity, salaries and risk in a startup

Topics relating to managing people and relationships

Awasaba

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Hi all,

let me give you a brief run down of my case: a couple of other people and I are thinking about creating a technology startup for a niche marketing product. It would involve an initial ~8 month period of research and development which would cost ~$70k, after which we could begin to actually start selling and (hopefully) see income. These other 2 potential partners have the tech know-how required for this project, and I know them to be skilled and capable people in their fields, while I have the running-a-business know-how (I'm a business major).

However I don't like the initial investment proposition they made to me: They want to split shares ~52% for me and 24% for each of them, but since they have no cash to invest they propose I put up the entirety of the R&D investment required in the form of an investor's loan to the company, which would be accruing an yet-to-be-determined-but-fair interest rate until there was income that the company could use to pay me back the loan. Additionally they would both dedicate themselves as technical directors during the R&D phase as a part time job (~4 hours per day each), and would pay themselves wages for this during the ~8 month period. After the R&D period is over, the wages would end, although they'd continue working in the company.

So obviously I don't feel comfortable assuming all the risk (because if the company goes tits-up, there would be little assets left to liquidate) yet getting only half the shares , although I am not opposed to having them paid fair market wages for their work during the duration of the R&D period, given that admittedly I will be doing little during that phase. I'm having my own ideas about a counter offer, and I do want them to have participation in shares in some form because they're needed for the long haul and shares provide a great incentive to give 110%, but I want to hear opinions on what others here would think is fair or workable. Suggestions please?
 
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Ninjakid

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Is this your first business? Generally I'm against using huge sums like $70K to start a first business. There's been a lot of failures when people have done this, but then again, there's also been a lot of success stories. I'll let you use your judgement.

So suppose you actually do get the $70K loan. Keep in mind, they're taking a risk too, not just you. No one wants to pay back $16800 with interest, believe that. But that also means if the company is successful, you will get a greater share of the profit. And with them being the techies who will make your product a reality, I think the fact that you have 52% of the shares is very generous. If you're not comfortable with this risk, which I would greatly understand, because it's not one I would personally take if it was my first business, I would seek an angel investor. Because with a loan, the only thing that's guaranteed is that fact that you must pay back the $70K with interest.

Now, this leaves me to the next part. I assume they have day jobs, and that's why they're working on this project part time. Are the salaries necessary for entrepreneurship? Unless they have families and would need to work a second job if they weren't working on this project, I don't think it's necessary. That money could be better put towards R&D. If they want to be temporarily employed by you so you can use their technological expertise, THEN they can be paid wages. But how do you take on a monetary investment, and then use part of that investment to pay yourself? It doesn't make much sense to me. They're selling their time for money, so it seems like they would make better employees.

So in conclusion: reconsider that loan, and consider hiring the others part time rather than making them shareholders. If they're going to take on this project, they better be fully committed, not doing it for some extra money for four hours a day.

Best of luck ,and may the odds be forever in your favour.
 

Awasaba

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Is this your first business?
Nope, I do know what I have to do administration-wise, although it's the first time I'll be doing something in this business sector.

So suppose you actually do get the $70K loan. Keep in mind, they're taking a risk too, not just you. No one wants to pay back $16800 with interest, believe that. But that also means if the company is successful, you will get a greater share of the profit. And with them being the techies who will make your product a reality, I think the fact that you have 52% of the shares is very generous. If you're not comfortable with this risk, which I would greatly understand, because it's not one I would personally take if it was my first business, I would seek an angel investor. Because with a loan, the only thing that's guaranteed is that fact that you must pay back the $70K with interest.

I think I didn't explain myself well... I'm the person who's putting up all the 70k, from my own money, it's just that instead of it being represented on paper as the initial capital investment it'll be represented in our balance sheet as a loan made out to the company by me, one of the shareholders. The company would pay me.

Now, this leaves me to the next part. I assume they have day jobs, and that's why they're working on this project part time. Are the salaries necessary for entrepreneurship? Unless they have families and would need to work a second job if they weren't working on this project, I don't think it's necessary. That money could be better put towards R&D. If they want to be temporarily employed by you so you can use their technological expertise, THEN they can be paid wages. But how do you take on a monetary investment, and then use part of that investment to pay yourself? It doesn't make much sense to me. They're selling their time for money, so it seems like they would make better employees.
They have other activities, but I estimate they amount to half-time jobs as freelancers. They way they've explained it to me is they're cash-strapped, and devoting a half-time job schedule to this without getting paid isn't something that works for them as they would need a source of income.

So in conclusion: reconsider that loan, and consider hiring the others part time rather than making them shareholders. If they're going to take on this project, they better be fully committed, not doing it for some extra money for four hours a day.
Yeah, that's the thing, by asking for equity + salaries they're double dipping. I'm thinking about offering them initially salaries, and later on when the R&D phase is finished offer them the ability to buy equity and paying for it through work ("sweat equity").
Best of luck ,and may the odds be forever in your favour.
Thanks!
 

dochustle

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How well do you know these people? I wouldn't partner with anyone in a business venture that I don't know very, very well. Also, what's this part-time pay stuff? A startup is about sacrifice. If they want a part time wage (even though you'll be sharing equity) there's not much of a sacrifice there. It's just a part-time job on the side.

Still though, my main concern is your current relationship with these people. Trust is important, and it takes time. Make sure you have it before you dive in.
 
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Visionquest

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I would not enter into this structure. I think they need to have some skin in the game from the start. Otherwise you need to have a legal contract signed stating that their share is owed to you if they go belly up in a money sum. This is going to cost money for lawyers to do this. I would want to see some money in from your partners. Even if is only 10K. Secondly I agree with above. The salaries need to be pitched. this is a start up and they are owners. I pay salaries to all my employees but I take profit not salary. Third you are the business partner. During the R&D time you will be researching markets, costs, pricing for the product,avenues to implement more products,passivity. They are tech but tech does not sell itself. You have to commercialize the product and created a market around the idea you are building. YOU are worth something during this phase of development.
 

Ninjakid

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Nope, I do know what I have to do administration-wise, although it's the first time I'll be doing something in this business sector.



I think I didn't explain myself well... I'm the person who's putting up all the 70k, from my own money, it's just that instead of it being represented on paper as the initial capital investment it'll be represented in our balance sheet as a loan made out to the company by me, one of the shareholders. The company would pay me.


They have other activities, but I estimate they amount to half-time jobs as freelancers. They way they've explained it to me is they're cash-strapped, and devoting a half-time job schedule to this without getting paid isn't something that works for them as they would need a source of income.


Yeah, that's the thing, by asking for equity + salaries they're double dipping. I'm thinking about offering them initially salaries, and later on when the R&D phase is finished offer them the ability to buy equity and paying for it through work ("sweat equity").

Thanks!
Everyone needs money to live on, I get that. Here's my suggestion: either hire them as employees, or let some of the startup capital be everyone's living expenses, so they can work on this full time. If they're not able to give this project their full attention, they shouldn't be shareholders.
 

Awasaba

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One of them I know very well, the other I barely know. I'll chat with them about this issue and hopefully they'll come around. If they don't, I won't take their current proposition.
 
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Ninjakid

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Habit her thing i would sugge
One of them I know very well, the other I barely know. I'll chat with them about this issue and hopefully they'll come around. If they don't, I won't take their current proposition.
Another thing I will add is if you pay salary AND make them shareholders while they are assuming any of the financial risk, there's not a lot of motivation for them to put in the extra effort to ensure the business succeeds, because they're getting paid for their work. That said, they may be very motivated and ambitious people who just need to make ends meet. Just asking yourself, do they really have the drive and endurance for entrepreneurship?
 

tafy

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Sounds like you could own 100% equity with them getting paid for their work, who's idea is the product?
 

Mark Herry

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Its really a wonderful idea to get back 100% equity. Anyway if you needs any help in accounts then contact with me because we provide different services for business like Taxation for Companies, Taxation for Trusts, Accounting, Business Management Consulting and book keeping.
 
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Last edited:

theag

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Its really a wonderful idea to get back 100% equity. Anyway if you needs any help in accounts then contact with me because we provide different services for business like Taxation for Companies, Taxation for Trusts, Accounting, Business Management Consulting and book keeping.
I think you forgot your spam link.
 

jon.a

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Its really a wonderful idea to get back 100% equity. Anyway if you needs any help in accounts then contact with me because we provide different services for business like Taxation for Companies, Taxation for Trusts, Accounting, Business Management Consulting and book keeping.
You had a choice, post something helpful to the tread or something helpful for yourself. You chose poorly.
 

ilrein

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OP, sounds like a terrible deal.

I think there was a similar thread, which reached a similar conclusion.

If your "partners" need money, tell them to GET A JOB.

Equity or a wage. One or the other.

PS: 70k for development services? Sounds like your getting RIPPED OFF HARD
 
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