1. When a company starts with a group of co-founders, as opposed to a single founder.
2. When a company requires a specific skill within the organization, but does not have the funding to bring the required talent into the company.
3. When a company goes public.
The first situation occurs when the entrepreneur realizes they are stronger within a group of co-founders, than as an individual. Each co-founder generally possesses complementary skills to one another, which are critical to the survival and growth of the business at the early stage. In this situation I have found equal ownership to work well – each founder has equal stake in the success or failure of the company. There must be a high level of respect among the founders for this distribution of ownership to work.
After founding the company and building momentum, there will come a time where a certain level of expertise is needed which is outside of the core competency of the group. This missing knowledge may stop the progress of the company like a brick wall. Some information may be learned, however, other types will take much too long and the founders will run the risk of losing their timing (potential market share) by trying to learn a critical skill from scratch. One example is the instance when a new product is being developed which requires electrical engineering. Someone within the founding team is likely bright enough to figure it out over time, however it will just take way too long. Ideally the founders could hire an outside firm or consultant rather than give away equity, however this may not be an option for all, especially early in the life of the company. If an entrepreneurial electrical engineer becomes available and is looking for a new challenge, it may be more appropriate to allocate ownership to this individual should they possess the right skill set and gel with the team.
At some point the company may decide to pursue a transition from private ownership to an initial public offering (IPO). There are many requirements in order to go public, but in the context of this article, the company ownership would change from a private founders and stockholders to many, many public owners. This allows the company to gain capital for further growth and opportunities as well as allow investors and founders to exit.
A roadblock that the entrepreneur/founder must overcome is the fixation on percent ownership. I am of the opinion that the entrepreneur should focus on value. What is the valuation of your company as a single entrepreneur? How will the value change should you relinquish a percentage of ownership? Will you receive a multiple (10x) the original value by bringing on this co-founder? This is tricky to determine up front, as it may be difficult to nail down a specific value. An easy way to do this is to determine the impact the potential co-founder will have on the company. For example, let’s say that a business needs to file a patent, but the original founder has not gone through this process or does not have the funding to hire an IP attorney. Along comes a potential co-founder with this expertise. This person could move the company forward quickly, minimize errors, and get the company unstuck while easily adding 10X value to the company.
It is better to own 10% of a $10 million company on a fast track, than 100% of a $100,000 stagnant company.
When considering company ownership, ownership is not the end all. Consider value as well as the ability to move forward, and the rate at which the company will move forward. Timing, skill, and team dynamics should weigh in on the ultimate equity distribution, however this is a topic for another day.
1. J.R. Sedivy. B Quadrant Business:
2. J.R. Sedivy. Why $100 Million?: