“Two brothers had been at the bar since they had left the office together almost six hours before. Slurring his speech, the older brother offered his sibling – who had recently come to work for him – 10 per cent of his company. It was an impetuous gesture he would later come to regret.
Soon after the drunken night at the bar, the younger brother quit his big brother’s company for a job in a field he had studied in college. Nine years later, the older brother sold his company, only to have his younger brother come back looking for his 10 per cent of the sale proceeds.
The big brother felt slighted by his sibling’s defection and refused to pay. They have not spoken to each other in two years.
It’s natural to want to share the experience of entrepreneurship with a partner. And some of the most successful companies have been started by a team of two: Bill Gates and Paul Allen (Microsoft Corp.) and Sergey Brin and Larry Page (Google Inc.) jump to mind.
But before you throw equity around like beads at Mardi Gras, here are 10 questions to ask yourself:
1. Are you sober?
After three gin and tonics, every one of your employees will look like they have partner potential. Sober up before you offer anyone a stake in your business.
2. Why do you want a partner?
Running a startup from a spare bedroom in your house can be so lonely that you might find yourself at Starbucks just for the social interaction. With no money to hire and desperate for someone to share the experience with, you may be inclined to offer equity to almost anyone just to have a partner to work with.
But loneliness is not a good business reason for asking someone to become a shareholder. Consider working from an incubation centre or a business centre offered by a company like Regus; or join an organization like Corporate Alliance.
3. Are they willing to buy equity?
Would the person you’re about to offer a partnership buy equity in the form of cash, or work in lieu of a market rate salary? If not, what does that say about their belief in your business?
4. Could you achieve the same result without a partner?
Often we assume that the only way to get fingers-to-the-bone effort is to make someone a partner.
But many people will work harder and smarter for a short-term reward than they ever would for some vague, uncertain promise of money years in the future.
5. Do they care as much as you do?
You founded your business. You dreamed up your product or service and you were so excited that you told everyone you knew about your idea. You came up with a name and a logo, and your business is an expression of who you are. No matter how much equity you share, others will never care as much as you do.
6. What happens if they leave?
It can be exciting to build a company with a partner but what happens when he or she decides to leave? Unless there is a predetermined formula for handling equity grants when an employee leaves, you may become resentful of carrying equity holders like an albatross around your neck when they are not adding value to your company as employees but expect to share in your success as owners.
7. What kind of watch does your prospective partner wear?
If you wear a Timex and your prospective partner sports a Rolex, it may be a sign you have different attitudes towards money. If you make vastly different lifestyle choices than your partner, expect friction when it comes time to decide how much to pay yourself at the end of the year and how much money to leave in the company.
8. Is this person your friend?
The only thing worse than hiring a friend is partnering with one. By inviting a friend to become a minority shareholder in your business, you are placing a monetary value on a friend’s contribution and importance.
A friendship should always be a mutual bond, not a lopsided business arrangement. Buying friends was a bad idea in high school and is an even worse idea now that the stakes are higher. Keep your friends and your equity.
9. Do you have a reasonable chance of being acquired?
Being a minority partner in a privately held business typically only has significant value for your partner if the business is sold. Do you have a legitimate shot at being acquired in the medium term? If not, the equity you share may become a source of frustration for your partner when he or she wants an exit.
10. What happens if you’re successful?
Let’s say that in the early days of your business, you share 5 per cent of your company with an employee because you want to make him or her feel like a partner. It’s easy to share with employees when your business is modest and your financial statements prove that you’re pouring all of your money back into the business.
But what happens when your business matures and you’re pulling a million dollars a year out of it in the form of dividends? Do you really want your 5-per-cent partner to know how much money you’re making?
In the early years of building a business, it’s natural to want a partner to share in the experience, but make sure you run through all the possible implications of your generosity before you have that third gin and tonic.”