Equity Allocation Strategies for Minority Tech Startups

Here's how to utilize equity strategically, to sucessfully build product development teams for your startup

Equity
(Image: iStock.com/Yuri_Arcurs)

At Minority Venture Partners (MVP), an SBA Growth Accelerator, startup teams are paired with expert advisers to help fill in critical knowledge gaps. This pairing is significant, as many of MVP’s participants are first-time entrepreneurs, who are unfamiliar with how robust tech ecosystems work. MVP teams led by “non-technical” co-founders (having little coding or design experience) struggle especially with doling out equity to both recruit and retain much-needed tech talent.

The subject of equity allocation among founders on color is therefore a frequent topic of discussion. For each entrepreneur, sharing a piece of their “tech baby” can psychologically be a difficult pill to swallow. Nonetheless taking on partners and investors is a necessary step for any firm serious about growth.

So, to help unpack the equity puzzle, we turned to one of MVP’s expert business advisors, Ara Ohanian. A global entrepreneur and executive, Ohanian sold his company (CERTPOINT Systems Inc.) to Infor, the third largest, enterprise software provider in the world. Below, he shares several insights regarding how equity can be used strategically to build your product development team:

Equity for Tech Talent

BLACK ENTERPRISE: In your experience, how much is too much equity to dole out to a technical team?

Ohanian: Typically, you want to earmark 20% stock for hiring top C-level players, who will make the company a success. As long as you have enough shares to accommodate them, you should be fine.

If you hire or organize a technical team, however, then think of them collectively as the C-level CTO. All together, they shouldn’t add up to more than 10% of the total equity allocation for management—so, 10% of 20% of company.

There are also scenarios where tech teams put in “sweat” at the beginning, instead of receiving pay for product development. The equity reserved for this should, therefore, be independent and outside of the 20% pool I mentioned.

Equity Between Co-Founders

BE: So, what about a “50-50” split between co-founders? Have you ever seen that work?

Ohanian: No—I sure don’t believe in “50-50″as an automatic formula. The idea person who drives the concept initially is putting more value in. Assume two partners put in $10k each for initial capitalization, then each owns 50% stake. From there, you must weigh-in the value of each founder’s non-cash contribution—and this is extremely important.

When I started CERTPOINT, I gave 25% of the company to the technical partner who knew how to build the product. In my approach, I took into account the combination of my initial concept and my ability to secure resources. I also factored in my overall management experience and drive to make it happen. In the end, I concluded my overall my business acumen to get the product developed and off to market was worth 75%. Still, there is no accepted formula for this and the founder looking for a larger stake must be able to sell his/her position effectively.

Prepare for Dilution

BE: One more thing—each time you take on new investments, did that dilute you and your initial investors or just a select few?

Ohanian: It dilutes everyone. This is why you have to be very judicious about how you share your equity. Assuming the company succeeds, equity is the most expensive currency. By the time you get to Series A round (post Angel), the founders (equal or not equal) should retain a great majority of common voting stock and at least 60-70% of the shares on fully diluted basis. Also, make sure you’ve allocated enough shares for employee stock options, to increase your ability to make important employee hires down the road.