Tough equity issue in Liechtenstein start-up...
Discussion
Evening ladies and gents,
I am a Brit based on the continent and I have a start-up. Tech company. No current revenue as the product wasn't ready. Will be going to market within the next 2 weeks.
Long story short...
3 people involved. Will adjust numbers for sake of simplicity.
Me: value is the idea, b*****k heavy work rate, original founder, proprietor, and unpaid hours designing, developing functionality and preparing our online product = value 120k
Investor A: his company is responsible for the technical work = value of work / investment to now 120k
Investor B: passive investor. Investment banker as profession = current investment 20k
The company needs more money. Investor B is happy to increase his investment to 120K to match the rest of us. This would mean that all 3 of us own 33.33% of the company each. Something I am not happy with as I made a rule to myself that I wanted to retain the majority stake.
I have 2 options I am considering pitching them.
OPTION A
Exchange 33.33% of the company to Investor B for the 100k extra [overall 120k] which gives me a 33.33% stake of my own company. They have agreed to my idea of implementing a qualified majority with an integrated clause that allows me to re-buy enough equity to make me the majority shareholder again at an agreed point in the future. We would also agree the formula on how we would calculate the value of the equity before drawing up the contract.
This option would give me a solid salary, much less pressure on creating immediate revenue, and would enable me to concentrate on this company 100%, and not have to continue with my "one-band" company I have been running for 5 years. I would, in fact, close this business down all together due to insurance issues.
OPTION B
Agree a cap on investor B's future investment.
I could cap him at 16.5% [just under 60k more investment], thus allowing me to keep over 51% of the company [33.33% + 16.5% = 49.83%].
Investor B likes this idea as it minimises his risk. Investor A is also happy with it.
Downside is that I would have much more pressure to get the company sustainable as soon as possible. Essentially, I'd have to get the company enough revenue to justify it's costs [including my salary] within 4 or 5 months, then we will run out of money and I would have to organise a loan with Investor B.
Upside is that I would remain majority shareholder. This is the main point.
Feedback ladies and gents... Feedback... Any advice is appreciated.
I am a Brit based on the continent and I have a start-up. Tech company. No current revenue as the product wasn't ready. Will be going to market within the next 2 weeks.
Long story short...
3 people involved. Will adjust numbers for sake of simplicity.
Me: value is the idea, b*****k heavy work rate, original founder, proprietor, and unpaid hours designing, developing functionality and preparing our online product = value 120k
Investor A: his company is responsible for the technical work = value of work / investment to now 120k
Investor B: passive investor. Investment banker as profession = current investment 20k
The company needs more money. Investor B is happy to increase his investment to 120K to match the rest of us. This would mean that all 3 of us own 33.33% of the company each. Something I am not happy with as I made a rule to myself that I wanted to retain the majority stake.
I have 2 options I am considering pitching them.
OPTION A
Exchange 33.33% of the company to Investor B for the 100k extra [overall 120k] which gives me a 33.33% stake of my own company. They have agreed to my idea of implementing a qualified majority with an integrated clause that allows me to re-buy enough equity to make me the majority shareholder again at an agreed point in the future. We would also agree the formula on how we would calculate the value of the equity before drawing up the contract.
This option would give me a solid salary, much less pressure on creating immediate revenue, and would enable me to concentrate on this company 100%, and not have to continue with my "one-band" company I have been running for 5 years. I would, in fact, close this business down all together due to insurance issues.
OPTION B
Agree a cap on investor B's future investment.
I could cap him at 16.5% [just under 60k more investment], thus allowing me to keep over 51% of the company [33.33% + 16.5% = 49.83%].
Investor B likes this idea as it minimises his risk. Investor A is also happy with it.
Downside is that I would have much more pressure to get the company sustainable as soon as possible. Essentially, I'd have to get the company enough revenue to justify it's costs [including my salary] within 4 or 5 months, then we will run out of money and I would have to organise a loan with Investor B.
Upside is that I would remain majority shareholder. This is the main point.
Feedback ladies and gents... Feedback... Any advice is appreciated.
How much of Amazon and Microsoft do you think Bezos and Gates own?
Unless this is the last round of investment, dilution is going to see you below 50% ownership but that doesn't necessarily mean you lose control.
Likewise, if you take on key staff to help you grow, there's a good chance you'll need to incentivise them with equity too.. again you'll see dilution.
If it were me and thinking about compensation models, I'd be looking at ways to receive a sufficient salary but be awarded bonuses in the form of cash and/or extra shares in the future as part of an incentive plan. An investor shouldn't want to see founding staff starve, but you do need them hungry when it comes to growing the business. Pay them too well and the incentive to deliver the equity growth diminishes significantly.
Remember: no smart investor in a small business (especially a passive one) wants to disenfranchise the founder as that tends to be value destructive for them. Which again speaks to control being about more than just % ownership.
Lastly, before taking more money from someone at an early stage, ask yourself whether they're the right person to take money from. Money is great, but often it's money plus experience that will help you make faster progress.
Unless this is the last round of investment, dilution is going to see you below 50% ownership but that doesn't necessarily mean you lose control.
Likewise, if you take on key staff to help you grow, there's a good chance you'll need to incentivise them with equity too.. again you'll see dilution.
If it were me and thinking about compensation models, I'd be looking at ways to receive a sufficient salary but be awarded bonuses in the form of cash and/or extra shares in the future as part of an incentive plan. An investor shouldn't want to see founding staff starve, but you do need them hungry when it comes to growing the business. Pay them too well and the incentive to deliver the equity growth diminishes significantly.
Remember: no smart investor in a small business (especially a passive one) wants to disenfranchise the founder as that tends to be value destructive for them. Which again speaks to control being about more than just % ownership.
Lastly, before taking more money from someone at an early stage, ask yourself whether they're the right person to take money from. Money is great, but often it's money plus experience that will help you make faster progress.
You're doing this based on the assumption that the company is still worth 'only' £120k + £120k + £20k (£260k). Have you detailed it in any way, reached/near reaching any milestones which could justify a valuation uplift?
Think about in 4 years time, you're working your ass off and the 2 investors are completely passive for the same upside. Would you be ok about this or would it grate? I think it's very important for the main entrepreneur to keep a larger stake than anyone else - especially in the early stages. Just because dilution is normal (ie Bezos etc...) doesn't mean that you should not attach value to equity and there is a time and a place to distribute it out. It's more and more expensive the earlier you do it. It's something I wished I had done in the past.
Think about in 4 years time, you're working your ass off and the 2 investors are completely passive for the same upside. Would you be ok about this or would it grate? I think it's very important for the main entrepreneur to keep a larger stake than anyone else - especially in the early stages. Just because dilution is normal (ie Bezos etc...) doesn't mean that you should not attach value to equity and there is a time and a place to distribute it out. It's more and more expensive the earlier you do it. It's something I wished I had done in the past.
Sm1987 said:
Think about in 4 years time, you're working your ass off and the 2 investors are completely passive for the same upside. Would you be ok about this or would it grate? I think it's very important for the main entrepreneur to keep a larger stake than anyone else - especially in the early stages.
I’ve seen this from both sides of the table, and it’s never as clear cut as that. Input from skills, knowledge, experience, money, all need to be weighed up taking into account the risk being borne by each party and need rewarding. In some cases, the financial investment can be what makes a business successful. It’s wrong to take the position that because they’re not “working their ass off” that somehow it’s just money and doesn’t need to see as much return as sweat.
To use your scenario, another potential outcome is that, after 4 years of drawing a salary the company goes under. The guy “working their ass off” hasn’t delivered (could be the individual but equally it might just have been a bad idea, or market changes) and the financial investors get wiped out. I suppose that’s ok, not going to grate at all, as they were just passive money? Have a Google for startup failure rates, then consider why most investors won’t be putting all their eggs in one basket and need the surviving baskets to deliver solid returns.
Also worth bearing in mind that in the case of a genuinely passive investor that comes via equity/dividends. However in the case of the founder/employee there will also be a salary (and later one would expect bonus) elements that initially the financial investors here are essentially paying. As the business scales, many founders will receive (often generous) executive compensation in addition to seeing their equity valuation increase.
Sm1987 said:
Think about in 4 years time, you're working your ass off and the 2 investors are completely passive for the same upside. Would you be ok about this or would it grate? I think it's very important for the main entrepreneur to keep a larger stake than anyone else
Yes and no.Shareholding of the type being discussed has nothing (or little) to do with effort or idea and everything to do with financial risk. I dread to think how many otherwise brilliant and potentially lucrative business have never taken off because the originator of the idea refused to accept this. As someone mentioned above; a smaller percentage of something big is better than a larger percentage of nothing or something small.
And don't forget that for any company to acquire value to a potential PE buyer, the owner must be unimportant to the business operations.
That's the no.
The 'yes' is that the originator of the idea must be sufficiently motivated to carry the idea forward to the next level. Most competent investors recognise this and is achieved via any number of means - generous salary, bonus, pension, etc... But the shareholding tends always to relate to cash investment. The only time this doesn't apply is when the idea is so stunningly good there's competition to invest.
OP: One flag from me is that you mention you're taking it to market in two weeks - by which I assume you mean 'launch'. That to me seems an uncomfortably short period of time given that you have yet to establish the shareholding structure.
LooneyTunes said:
I’ve seen this from both sides of the table, and it’s never as clear cut as that.
Input from skills, knowledge, experience, money, all need to be weighed up taking into account the risk being borne by each party and need rewarding. In some cases, the financial investment can be what makes a business successful. It’s wrong to take the position that because they’re not “working their ass off” that somehow it’s just money and doesn’t need to see as much return as sweat.
To use your scenario, another potential outcome is that, after 4 years of drawing a salary the company goes under. The guy “working their ass off” hasn’t delivered (could be the individual but equally it might just have been a bad idea, or market changes) and the financial investors get wiped out. I suppose that’s ok, not going to grate at all, as they were just passive money? Have a Google for startup failure rates, then consider why most investors won’t be putting all their eggs in one basket and need the surviving baskets to deliver solid returns.
Also worth bearing in mind that in the case of a genuinely passive investor that comes via equity/dividends. However in the case of the founder/employee there will also be a salary (and later one would expect bonus) elements that initially the financial investors here are essentially paying. As the business scales, many founders will receive (often generous) executive compensation in addition to seeing their equity valuation increase.
This is a really interesting post and very relevant to my position. If I was working my onions off, only owing 33.33% of the company wouldn't be too much of an issue to me regarding the "fairness" of physical input. The money and technical input of both investors are hugely important to the company.Input from skills, knowledge, experience, money, all need to be weighed up taking into account the risk being borne by each party and need rewarding. In some cases, the financial investment can be what makes a business successful. It’s wrong to take the position that because they’re not “working their ass off” that somehow it’s just money and doesn’t need to see as much return as sweat.
To use your scenario, another potential outcome is that, after 4 years of drawing a salary the company goes under. The guy “working their ass off” hasn’t delivered (could be the individual but equally it might just have been a bad idea, or market changes) and the financial investors get wiped out. I suppose that’s ok, not going to grate at all, as they were just passive money? Have a Google for startup failure rates, then consider why most investors won’t be putting all their eggs in one basket and need the surviving baskets to deliver solid returns.
Also worth bearing in mind that in the case of a genuinely passive investor that comes via equity/dividends. However in the case of the founder/employee there will also be a salary (and later one would expect bonus) elements that initially the financial investors here are essentially paying. As the business scales, many founders will receive (often generous) executive compensation in addition to seeing their equity valuation increase.
The major worry for me is if, for whatever reason, things wouldn't go well, I don't want anyone to be able to kick me out of my own company. This is the only issue for me regarding equity holding.
Whoozit said:
Entrepreneur/founder here. I have 100%. That said... when you do the sums, 20% of $100m is a lot more than 100% of f all.
Do you need capital to continue growing?
We don't need huge capital. The bulk of the company's costs will be my salary in the beginning. The capital used to develop the product is already done. Not too many future costs regarding this.Do you need capital to continue growing?
And yes, very very true.
1% of something is better than 100% of nothing.
Please excuse the dumb question, I suspect I'm missing something (like a brain). I wish I was trolling but I'm not 
Currently it's (you)120 + (A)120 + (B)20 .. so today you own 46.1%
If you go Option B, then it becomes (you)120 + (A)120 + (B)80 .. so you would then be 37.5%
How can you get to 51% ownership?

Currently it's (you)120 + (A)120 + (B)20 .. so today you own 46.1%
If you go Option B, then it becomes (you)120 + (A)120 + (B)80 .. so you would then be 37.5%
How can you get to 51% ownership?
XOJJX said:
The major worry for me is if, for whatever reason, things wouldn't go well, I don't want anyone to be able to kick me out of my own company. This is the only issue for me regarding equity holding.
To me these are two separate issues, equity in the company and intellectual property. You don't want to lose your idea/product, the company itself doesn't matter really. If the company fails you can pick up and run with your idea elsewhere. It seems you are the value in that company.I'm not informed enough to advise on these things so I would suggest a chat to a lawyer would be worth while.
A friend of mine sold his company for a big chunk of money, he'd been bankrupt before doing exactly the same thing. He took his knowledge with him, dusted himself off and started again and with some different choices and a slightly changed market it worked.
Best of luck OP.
XOJJX said:
The major worry for me is if, for whatever reason, things wouldn't go well, I don't want anyone to be able to kick me out of my own company. This is the only issue for me regarding equity holding.
You could deal with that through the share classes, shareholders agreement, contracts of employment, or some combination of these. For example, different share classes/ a “golden share” can give all sorts of rights to the holder (but cause problems if you go public).
The problem you have is that the more rights you incorporate for yourself the less attractive you are to attract new investors.
LooneyTunes said:
You could deal with that through the share classes, shareholders agreement, contracts of employment, or some combination of these.
For example, different share classes/ a “golden share” can give all sorts of rights to the holder (but cause problems if you go public).
The problem you have is that the more rights you incorporate for yourself the less attractive you are to attract new investors.
Great points.For example, different share classes/ a “golden share” can give all sorts of rights to the holder (but cause problems if you go public).
The problem you have is that the more rights you incorporate for yourself the less attractive you are to attract new investors.
Maybe I am overthinking it, but what chance would I have in any kind of lawsuit against a powerful corporate lawyer?
I am always under the assumption that I would get completely crushed, even if I was in the right legally.
Big E 118 said:
To me these are two separate issues, equity in the company and intellectual property. You don't want to lose your idea/product, the company itself doesn't matter really. If the company fails you can pick up and run with your idea elsewhere. It seems you are the value in that company.
I'm not informed enough to advise on these things so I would suggest a chat to a lawyer would be worth while.
A friend of mine sold his company for a big chunk of money, he'd been bankrupt before doing exactly the same thing. He took his knowledge with him, dusted himself off and started again and with some different choices and a slightly changed market it worked.
Best of luck OP.
The issue is that it would be difficult to unravel my product from the tech services of Investor A.I'm not informed enough to advise on these things so I would suggest a chat to a lawyer would be worth while.
A friend of mine sold his company for a big chunk of money, he'd been bankrupt before doing exactly the same thing. He took his knowledge with him, dusted himself off and started again and with some different choices and a slightly changed market it worked.
Best of luck OP.
XOJJX said:
Great points.
Maybe I am overthinking it, but what chance would I have in any kind of lawsuit against a powerful corporate lawyer?
I am always under the assumption that I would get completely crushed, even if I was in the right legally.
In theory, not an issue if you do it right. In reality, if there’s a risk that things get sticky then small business/typical private individuals in particular need to decide whether to avoid, negotiate, concede, or fight. As you say, you might well be right but you can be financially wiped out or at least seriously distracted by legal action against you.Maybe I am overthinking it, but what chance would I have in any kind of lawsuit against a powerful corporate lawyer?
I am always under the assumption that I would get completely crushed, even if I was in the right legally.
The flip side of that is that, unless it serves their objectives, rational people don’t tend to pick fights for the sake of it. Shareholders bickering via lawyers will often present all parties with downside rather than being a zero sum game. If someone starts down that route too easily it says a lot about their style of doing business. Sure, sometimes you need to defend your interests and/or those of the company but it’s generally better to work through things in a more sensible way.
None of that is to say that you won’t sometimes have people engage big name lawyers as a scare tactic as it does happen.
Bottom line really is that if you don’t trust your founding investors to act like gentlemen towards the company you shouldn’t have them as investors. If you don’t feel they’ve got your back and will stand with you when you hit the inevitable bumps in the road you shouldn’t have them as investors.
As an aside, don’t fear lawyers or assume they only spend their time being adversarial on behalf of their clients. Get access to a good set and you’ll find yourself seeking their advice to avoid/reduce the risk of conflict and derisking the positions you take. For example, we entered into a transaction before Christmas where we knew there was a risk that a third party would cut up rough. Sought very specialist input before we acted so that we’re sure of our ground which we expect has reduced the risk of things escalating or, if they do, cause the other side to rethink.
LooneyTunes said:
In theory, not an issue if you do it right. In reality, if there’s a risk that things get sticky then small business/typical private individuals in particular need to decide whether to avoid, negotiate, concede, or fight. As you say, you might well be right but you can be financially wiped out or at least seriously distracted by legal action against you.
The flip side of that is that, unless it serves their objectives, rational people don’t tend to pick fights for the sake of it. Shareholders bickering via lawyers will often present all parties with downside rather than being a zero sum game. If someone starts down that route too easily it says a lot about their style of doing business. Sure, sometimes you need to defend your interests and/or those of the company but it’s generally better to work through things in a more sensible way.
None of that is to say that you won’t sometimes have people engage big name lawyers as a scare tactic as it does happen.
Bottom line really is that if you don’t trust your founding investors to act like gentlemen towards the company you shouldn’t have them as investors. If you don’t feel they’ve got your back and will stand with you when you hit the inevitable bumps in the road you shouldn’t have them as investors.
As an aside, don’t fear lawyers or assume they only spend their time being adversarial on behalf of their clients. Get access to a good set and you’ll find yourself seeking their advice to avoid/reduce the risk of conflict and derisking the positions you take. For example, we entered into a transaction before Christmas where we knew there was a risk that a third party would cut up rough. Sought very specialist input before we acted so that we’re sure of our ground which we expect has reduced the risk of things escalating or, if they do, cause the other side to rethink.
Yep. The flip side of that is that, unless it serves their objectives, rational people don’t tend to pick fights for the sake of it. Shareholders bickering via lawyers will often present all parties with downside rather than being a zero sum game. If someone starts down that route too easily it says a lot about their style of doing business. Sure, sometimes you need to defend your interests and/or those of the company but it’s generally better to work through things in a more sensible way.
None of that is to say that you won’t sometimes have people engage big name lawyers as a scare tactic as it does happen.
Bottom line really is that if you don’t trust your founding investors to act like gentlemen towards the company you shouldn’t have them as investors. If you don’t feel they’ve got your back and will stand with you when you hit the inevitable bumps in the road you shouldn’t have them as investors.
As an aside, don’t fear lawyers or assume they only spend their time being adversarial on behalf of their clients. Get access to a good set and you’ll find yourself seeking their advice to avoid/reduce the risk of conflict and derisking the positions you take. For example, we entered into a transaction before Christmas where we knew there was a risk that a third party would cut up rough. Sought very specialist input before we acted so that we’re sure of our ground which we expect has reduced the risk of things escalating or, if they do, cause the other side to rethink.
Actually, I completely trust my investors. I have known one of them over 6 years, and the other is one of his very good friends. I still always try to plan for the worst and hope for the best. They have been absolutely brilliant up to this point.
Maybe my insecurity stems from a combination of hearing so many horror stories about founders being kicked out [my father included], and sheer lack of experience. When we were negotiating how to structure the company equity wise, I definitely felt like the water was a little deep.
I am a pretty young guy and would normally ask my investors for advice in such circumstances. However, seeing as they are who I am negotiating with, I had to look elsewhere.
Really appreciate your points, sir.
Quite a few issues wrapped up here. My key point is I think you are linking equity and control too tightly.
Re equity, it’s well proven that founders that try and hold onto too much equity end up making less money than those that take more investment. It’s obvious really - it’s the value of the shares x the number of them that makes you rich, not the percentage. So the focus should be on making the shares you have more valuable, not whether you issue any new ones.
From a control point of view, what matters is the composition of the Board, and the Articles which state what changes require Board or shareholder approval, and what percentage of those is required for different decisions.
My co-founders and I don’t own a majority in my company any more, but we have enough seats on the Board to prevent the critical changes that we wouldn’t want. The investment we brought in enabled us to accelerate development, expand the team and promote our services, and has massively increased the growth rate of the company and so the value of our holding.
That said, you’re right to be cautious. I would strongly recommend getting some good legal advice, as this stuff is complicated and even an accidental slip now could profoundly affect your value and control later.
Re equity, it’s well proven that founders that try and hold onto too much equity end up making less money than those that take more investment. It’s obvious really - it’s the value of the shares x the number of them that makes you rich, not the percentage. So the focus should be on making the shares you have more valuable, not whether you issue any new ones.
From a control point of view, what matters is the composition of the Board, and the Articles which state what changes require Board or shareholder approval, and what percentage of those is required for different decisions.
My co-founders and I don’t own a majority in my company any more, but we have enough seats on the Board to prevent the critical changes that we wouldn’t want. The investment we brought in enabled us to accelerate development, expand the team and promote our services, and has massively increased the growth rate of the company and so the value of our holding.
That said, you’re right to be cautious. I would strongly recommend getting some good legal advice, as this stuff is complicated and even an accidental slip now could profoundly affect your value and control later.
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