Question: How should an entrepreneur award equity to skilled technical workers? I’m considering doing this for a development team and Web designer.
Answer: There’s really no tried-and-true formula for sharing equity with your employees because there are myriad variables unique to each situation. Here are a few things to think about.
First, is awarding equity common in your industry and your region? If not, it may best be avoided. “It’s standard practice in Silicon Valley, but not so much elsewhere,” says Michael Gold, president of Intermedia, a cloud technology company based in Mountain View, Calif. “The stage and structure of your company is another factor. Early-stage, VC-backed, technology companies typically provide equity to developers, but non-tech and non-VC-backed firms typically wouldn’t.”
The reason equity isn’t so common outside high-tech regions is that ownership is usually a bust unless your company is being fast-tracked to sell for big bucks. Michael Weiss owned a small technology company in the late 1990s and considered equity as a retention tool for his best employees. “Even though it was pre-bubble burst, equity was essentially vapor. We never sold, we never went public, and thus any equity anyone earned was basically worthless,” he recalls.
If you are in the right industry and area for equity to be meaningful, consider such factors as when the developers joined your company and the value of their contribution. How important are they to your future success? What specialized knowledge do they have about your website or product? How much creativity have they shown in coming up with popular product features and new ideas?
Talented employees with technical skills have their pick of places to work. Startups that can’t offer top dollar can instead sell their vision and their proposed product—which may not be enough. Michael Larrabee, director of engineering at technology company SilverTech, says a generous equity package may help bring the right people on board. “The vast majority of startups in this day and age are Web or application-based, and technical workers are key to building the products that the company would like to offer,” he says. “Compensate them fairly. They are very likely the key to your success.”
Mike Moyer, a venture capitalist and author of a book about equity sharing called Slicing Pie, says equity should always be a function of how much risk is taken. “In a startup, the risk is very specific. It’s the risk that you will not get paid for your contribution. The amount that you might not get paid is equal to how much you would have otherwise been paid by someone else for the same work.”
He has developed a formula that measures each person’s comparative risk as a way to award equity fairly in a startup. When employees’ contribution is time, for instance, risk would be measured by the hours they put in and the fair market rate for that time. In the case of a developer who might charge $10,000 on the open market for your project, that amount would be assessed as the risk, and equity would be awarded accordingly.
In the end, if you decide to steer clear of equity, “what works is cash. It always has and always will,” Weiss says. He recommends profit-sharing as a better way to give people incentive and suggests quarterly payments, rather than a year-end bonus. Your employees may not become rich from it, but they will be rewarded for hard work and for helping the company succeed, which is exactly what you all want.