How to split equity among co-founders, employees, and advisors

How should founders split equity fairly from day one?

When deciding on the equity split, founders often face the choice between an equal and unequal distribution. 

‍An equal split is straightforward and promotes a sense of unity among founders. The downside, though, is that it may not accurately reflect the varying levels of input or value added by each individual. 

‍An unequal split acknowledges these differences but requires careful consideration to avoid resentment or feelings of unfairness. 

Now, to make sure that everyone involved is aligned, early discussions about equity splits are key to maintaining harmony among founders. Having open communication about this is critical.

The benefit of addressing equity early on is that you and your fellow co-founders can focus on building the business rather than spending energy on resentment and unresolved equity issues.

What role does vesting play in startup equity management?

Vesting plays a major role in startup equity management. Vesting ensures long-term commitment and protects your fellow entrepreneurs and the startup from potential conflicts. 

Let’s get into the details: 

A standard vesting schedule typically involves a four-year vesting period with a one-year cliff. Note: a cliff vesting means that founders or employees cannot start vesting their shares until they have completed the first year of service. After the cliff, shares vest gradually over the remaining three years, often on a monthly basis in a 1/48 pattern.

Vesting schedules serve multiple purposes. They incentivize founders and key employees to stay with the company for the long haul, fostering a culture of long-term commitment and alignment with the startup's goals. 

Vesting also helps to keep a clean cap table (a document outlining a company's equity ownership structure), which is essential for attracting investors. 

Now, let’s dive into why keeping a clean cap table matters. 

Investors prefer startups with structured vesting schedules because this structure provides transparency and predictability regarding the startup equity distribution. For investors, vesting schedules reduce the risk of unexpected dilution. 

By implementing vesting schedules, startups can protect their ownership structure and ensure that equity is earned based on actual contributions to the company's growth and success.

How can founders plan for future dilution and ownership changes?

There are strategic ways to plan for future dilution and ownership changes.

But first, how does dilution happen?

Dilution occurs when new shares are issued, such as during funding rounds, which can reduce the equity percentages held by existing shareholders, as well as their voting rights. 

To manage dilution, founders should create an option pool for employees and advisors. 

This pool allocates a portion of the company's equity for future grants, ensuring that founders' shares are not excessively diluted when new team members join. 

Additionally, using a pro forma cap table — which provides a clear visual representation of how ownership percentages might shift — is highly beneficial as it projects how the ownership structure will change after hypothetical funding rounds or other equity events, allowing founders to anticipate and prepare for potential dilution scenarios.

Importantly, keeping an open dialogue with the board of directors, investors, and stakeholders about future equity plans helps manage expectations and ensures that everyone is aligned with the company's growth objectives. 

With proactive dialogue about potential dilution and ownership changes, founders can maintain control over their startup's equity structure, even as the company evolves and grows.

The benefit is that it safeguards the founders' interests and also fosters a predictable environment for investors and employees alike.

How much equity should advisors, contractors, and early employees get?

When determining how much equity advisors, contractors, and early employees should receive, several factors come into play, including the role, startup stage, and individual contributions. 

For advisors, equity grants typically range from 0.1% to 0.5% of the company's fully diluted equity, with median grants around 0.25% for pre-seed advisors. However, advisors with significant industry expertise or networks may receive up to 1% or more. 

Contractors usually do not receive equity compensation, as they are typically paid through cash payments for specific services.

Early employees, particularly key early hires, often receive more substantial equity grants. These can range from 1% to 2% or more, depending on the employee's role and the startup's stage. 

For instance, full-time first hires or early-stage employees might receive around 1% equity as part of their compensation package, reflecting the higher risk they take by joining a company with an unproven business model. 

In other words, the startup's stage significantly influences equity allocation to reflect company ownership; newer companies may offer more equity to compensate for higher risk and smaller valuations, while mature companies share less. 

Also, because of their critical impact on the startup's growth and success, roles such as product and engineering positions often receive higher equity stakes compared to commercial roles. 

The bottom line is that equity grants should be tailored to reflect the value each individual brings to the startup, ensuring that everyone is motivated to contribute to its success.

Why is a well-structured cap table critical for investor confidence?

When investors see a disorganized cap table, it can raise red flags about the company's operational and financial management, potentially deterring investment. 

A well-structured cap table is critical for investor confidence because it provides transparency and clarity about the startup's ownership structure. It shows who owns what and how ownership is distributed among founders, investors, board members, and employees. 

A clean cap table also helps avoid pitfalls such as unclear or over-allocated number of shares, which can lead to legal complications and disputes among shareholders. 

Overall, this transparency builds trust with investors because it shows that the startup has a robust foundation and is capable of managing its equity effectively.

Wrap up

As you build the foundation for your startup, thoughtful equity allocation serves as the invisible architecture that can either reinforce or undermine everything else you build. 

Transparent discussions about equity splits with your founding team, implementing strategic vesting schedules, and maintaining a clean cap table aren't just administrative tasks—they're critical decisions that directly impact your company's ability to attract talent, secure investment, and navigate growth challenges.

Managing your startup's equity structure requires the same attention to detail as managing your finances. While you focus on building the right equity framework, consider how the right financial tools can complement your efforts. 

Rho's platform offers automated treasury management, expense tracking, and financial planning tools designed specifically for growing startups. These solutions can help you maintain the same level of transparency and efficiency in your finances that you're establishing in your equity structure.

Take Rho for a spin and see if it's the right fit for your business. Reach out today to request a meeting with a business banking specialist.

Isabel Peña Alfaro is a guest contributor. The views expressed are hers and do not necessarily reflect the views of Rho.