What is Equity and how does it apply to a new Founders

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What is Equity and how does it apply to a new Founders
At a Glance

If you are contemplating splitting equity in your SaaS enterprise, there are some important aspects of equity split that you should be aware of. Here are listed some of the crucial aspects of splitting equity that you must consider while making the decision.

The idea is typically worth anywhere between 10%-30% of a bump in equity.

Manu Kumar, Entrepreneur

Equity, an alien word to most people who are salaried, but having said that, the word itself is not unusual. It’s just not something that one gets their head wrapped around in general. The common definition for Equity is as follows: Equity refers to the compensation that represents ownership of a company. This compensation is usually not in the form of money; rather, it is in the form of shares. The splitting of equity is done amongst founders, investors, and sometimes employees of a business, company, or organization. Splitting equity is a form of insurance where there are multiple shareholders of a business or company, usually a start-up. The start-up equity structure ensures some form of compensation in case of unfortunate events relating to the business or company occur in the future. Now having given you a small background into the word “Equity”; I can easily say that most people know and understand equity from what we call, “The Markets”. NYSE, DOW JONES, etc. are all places where such said equity is traded but what in the world does that mean. Why would you trade ownership and how is that even relevant?

As a new entrant into the world of entrepreneurship, I was thrown off-balance by my attorney, who mentioned that I need to decide what the share percentage division amongst us, as co-founders would be. Since then, we’ve come a long way and now we are looking at our next start-up and we know there are a few factors that we really need to understand when starting up a company. So here are a few interesting facts about splitting up equity.

What are the important factors that affect splitting equity?

Software as a service, or SaaS, provides users with cloud-based software used to access various kinds of applications through the internet. These applications can be used for all kinds of tasks in an office, for management, for streamlining processes, and many other similar tasks. SaaS can be used by any kind of company, business, or organization. Before beginning the process of splitting equity for your SaaS enterprise, a few important factors must be considered and remembered. These factors include: –

· Ideation

The individual whose idea was to start the business or company usually receives a larger share while splitting equity.

· Stages during the start-up

The early stages of any kind of start-up are very crucial for the business or company. The individuals involved in these stages often receive a high share during an equity split to compensate for their time and added risks involved in start-ups.

· Low salaries

Splitting equity amongst founders and employees allows paying lower salaries to be acceptable. Equity may become larger rewards in the future.

· Vesting shares and schedules

Vesting shares refer to when founders earn equity shares based on an agreement; on the other hand, vesting schedules refers to how co-founders exercise stock options.

· Key investors

When splitting equity, the key investors who have provided a large portion of the funding expect fair equity split shared with them as well.

How to split equity in a SaaS Business?

There are different ways that SaaS businesses can split the equity. However, there are some key points that must be remembered throughout the whole splitting process. SaaS business owners looking to split equity can do it by following the steps below or remembering the important points of each step throughout the process:

· Be aware of all the overall issues that surround the process of splitting equity. These issues include:

– The appropriate value must be assigned to the equity. It is a very important part of this process.

– There must be tangible evidence that the agreement has been made. This is done by signing various documents by all parties to prove that an agreement of stock ownership has been made.

· Provide solutions for any kind of structural issues that may arise at later dates. This can be done by:

– Provide a structure for the stock that meets all the needs of the business and individuals involved in the business.

– A vesting agreement must be arrived at to ensure that a portion of the compensation is received after a certain time period. This acts as an incentive for employees and team members.

– The provision of an option pool to reward future employees. This will ensure that a recalculation will not have to be made when a new employee is hired.

– Have a valuation process in order to be able to value the contributions made towards the business. Having an initial valuation will provide the necessary knowledge about the business’s stock.

· The actual steps involved in a start-up equity structure are very crucial to ensure that the split occurs in a fair manner. Some aspects to ensure that equity is split fairly for SaaS businesses are:

– Reward actual contributions made by the team or the employees instead of assuming what the contributions may be.

– Evaluate all contributions over time to determine individual contributions to tally investments.

– Calculate the stakes of fair equity splits by comparing actual contributions that have been made over a specific period of time.

· Manage all kinds of issues that may arise from equity splits. A few key points to keep in mind while doing this are:

– Plan and expect a change in the future of the business. There are many changes and alterations that will happen relating to the business and its team members. Businesses must be well equipped for such a change and make plans that will account for such changes.

– Avoid all kinds of absentees. Agreements must be arrived at to ensure that there are provisions that can be returned to contributors who have stopped contributing to the business. This will ensure that individuals who continue to contribute will receive more benefits than individuals who have stopped doing so.

– Create return mechanisms to return stocks to individuals who have chosen to leave the business. This return mechanism must be fair and equitable.

There are many kinds of benefits that are reaped from splitting equity in a SaaS business. Having a SaaS start-up equity calculator as one of the solutions to help businesses calculate the fair split of equity amongst individuals will greatly improve the whole process. However, you do need to understand that we are all humans and there is no sure-shot way to ensure that the divisions take place without a hitch at all.

Ultimately remember, being a human being is what is most important. Having clear agreement on the why’s and what’s are which will help you not feel scorned as an individual in the future. You need to realize that most times founders come together as friends who had a great idea and build that idea up. One partner might be active in the first half of the company’s growth while the second half would be spearheaded by the other one. So when splitting, the ultimate aspect is that each should be happy at the time of splitting and not feel cheated over it. This fair equity split will ensure that all relationships are maintained professionally and that employees get enough incentives to continue contributing to the business

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