Dan Martell - Should You Give Employees Equity？

00:00:01.000 Hey, everybody.

00:00:01.920 Dan Martell here, serial entrepreneur, investor,

00:00:04.080 and creator of SAS Academy.

00:00:05.760 In this video, I'm going to tell you why I was backwards,

00:00:08.880 because I really think that the way people think about startup

00:00:11.680 equity is backwards.

00:00:12.640 That's why I did that little flip-a-roo.

00:00:15.240 And I'm going to teach you how to think about what you need,

00:00:18.400 the team structure, the percent equity, the vesting schedule,

00:00:22.200 and make sure that you avoid some of the legal pitfalls,

00:00:24.640 although I'm going to claim I am not a lawyer.

00:00:26.960 I do not play one on the internet.

00:00:28.440 So definitely go to your own council.

00:00:30.680 But be sure to stay at the end where

00:00:32.100 I'm going to share with you how to get access to my Fundraising

00:00:35.300 Like a Pro training.

00:00:36.880 In that training, I'm going to talk about the three phases

00:00:39.160 of fundraising.

00:00:39.860 If you're going to allocate equity,

00:00:41.320 I'm assuming you're going to raise some capital

00:00:42.820 to help fund that growth.

00:00:43.940 And I'm going to share with you my seven-week process

00:00:46.200 for closing your round super fast.

00:00:48.200 But first, let's get into it.

00:00:58.440 So I got a funny story for you.

00:01:04.820 When I started Flowtown, it was my first equity funding

00:01:08.120 startup.

00:01:08.840 We gave 1% equity to our BD guy.

00:01:11.020 Maybe you've done this.

00:01:11.880 And we thought, hey, he's going to add a lot of value.

00:01:14.320 Great, great idea.

00:01:15.600 Turns out, we were totally wrong.

00:01:17.440 So all of a sudden, now we have a guy that's got 1% equity.

00:01:20.180 The business had pivoted at that point.

00:01:21.920 He wasn't even doing anything for us.

00:01:23.880 And we were about to raise our first round of funding.

00:01:25.780 And we had to get that back.

00:01:27.180 Let me tell you, that process, jumping on a plane,

00:01:30.300 convincing somebody to part with their equity,

00:01:32.520 getting that done in time so that we can close a round of funding

00:01:35.040 was very tough.

00:01:35.960 Now, it wasn't a Winklevoss moment,

00:01:37.980 but it was definitely a little frustrating.

00:01:40.500 So I've been fortunate enough to not only get counsel.

00:01:44.420 After we went through that scenario,

00:01:45.640 we talked to our startup lawyer.

00:01:47.220 And he gave us a scenario that I'm

00:01:48.720 going to share with you guys in this video.

00:01:50.460 But I've been privileged to have the opportunity

00:01:52.600 to walk probably 100 plus founders

00:01:55.920 around thinking of their equity structure and the comp model

00:01:59.560 and how to do it in a way that's going to scale.

00:02:02.140 So what I want to share with you in this video

00:02:04.100 is how to think about equity so you have a better understanding

00:02:07.540 for allocating to team members.

00:02:09.700 Number one, build your dream team.

00:02:11.820 Here's the way I think about it.

00:02:13.360 You start off today.

00:02:14.520 What's your revenue number?

00:02:15.560 Could be zero, could be 50K a month.

00:02:18.080 You have a team.

00:02:18.800 You draw little circles with their faces on it.

00:02:20.580 And you're like, hey, this is our team today.

00:02:22.500 Fast forward one year.

00:02:24.680 What's the revenue goal?

00:02:25.820 What's the target?

00:02:26.660 Perfect.

00:02:27.160 You now have that.

00:02:28.160 Then you start drawing the dream team

00:02:30.380 that you're going to need to build

00:02:32.180 to get to that level of scale.

00:02:34.940 If you don't start thinking about maybe a key CTO

00:02:37.940 that you need to hire because your current engineering

00:02:40.400 co-founder is just not going to cut it,

00:02:42.000 or a CMO, a chief marketing officer,

00:02:44.340 is going to be able to drive the demand to really

00:02:46.740 get to that next level of growth,

00:02:48.280 or a CPO, a chief product officer,

00:02:51.400 somebody that's really going to lead the product side

00:02:53.060 to free up your time as the founder

00:02:55.100 to be able to really go after more strategic projects,

00:02:59.520 you're going to need to think about the equity allocation

00:03:02.500 to that dream team.

00:03:03.920 So number one is just sit down.

00:03:05.760 Where are you at today?

00:03:06.760 Where do you want to go?

00:03:07.780 Map out all the key roles and start thinking

00:03:10.300 about what that looks like so that you can use that

00:03:12.740 when you're figuring out what percentage of equity

00:03:14.660 you're going to need to put aside to compensate

00:03:17.500 that caliber of team.

00:03:20.660 Number two, carve out your equity pool.

00:03:23.380 Here's the deal.

00:03:24.340 It's tough for me to say without knowing the size

00:03:27.100 of your business, where you want to go, et cetera.

00:03:29.160 But on average, I will say that most founding teams usually

00:03:34.020 put aside about 15% equity for key hires.

00:03:39.200 Now, and I have a video.

00:03:40.420 If you search on my YouTube channel,

00:03:42.840 there's a video I did on equity and advisors

00:03:46.500 and all this stuff.

00:03:47.120 So if you search equity Dan Martell,

00:03:48.500 you will find some other videos talking

00:03:50.100 about percentages.

00:03:51.120 But at a high level, 15% is kind of what you need.

00:03:54.180 Maybe it's a little high.

00:03:55.180 Maybe it's a little low, depending

00:03:56.220 on how big the team's going to be.

00:03:57.420 But think about it.

00:03:58.180 You might want to give, again, I don't

00:04:00.100 know what the market norms are right now.

00:04:01.800 You're going to have to do that research.

00:04:02.800 We're going to talk about it.

00:04:04.020 But maybe 5% to your CTO, 3% for your CMO, et cetera, et cetera.

00:04:10.020 Maybe half a percent to some advisors or 1% to an advisor,

00:04:14.160 et cetera.

00:04:15.220 You need to think about what are the different people

00:04:18.500 and then give them equity and carve it out of your total thing.

00:04:23.160 Now, I need you to understand that every time you give

00:04:25.780 somebody else equity, you dilute and minimize

00:04:28.220 your ownership.

00:04:30.820 But the argument is each new hire

00:04:32.740 is going to make the overall business more valuable

00:04:35.000 because you're going to have more horsepower, more bandwidth,

00:04:36.920 more throughput.

00:04:38.180 So the overall pie gets bigger and more valuable.

00:04:41.100 But I want you to start thinking about carving out

00:04:43.100 that equity for the next one to two years.

00:04:45.560 And every year following that, depending on your funding

00:04:47.800 rounds, you might have to add another several percentage

00:04:50.560 points to continue to round out that equity pool.

00:04:53.500 Number three, research compensation.

00:04:55.960 Now, this is very dependent on your city, where you live,

00:05:00.340 what are the market norms.

00:05:01.540 But there's incredible information, blog posts,

00:05:05.680 core threads, sites like PayScale and Glassdoor,

00:05:10.680 AngelList has incredible content around equity structures,

00:05:15.280 et cetera.

00:05:15.820 But you need to figure it out for yourself,

00:05:17.140 Because I'll tell you, a CTO in San Francisco

00:05:20.640 in the heart of technology innovation

00:05:23.980 versus a CTO in Nebraska, no knocking on Nebraska,

00:05:28.340 but I'm just saying those are two different things

00:05:30.160 in regards to base salary, equity.

00:05:32.560 I mean, a lot of startup companies

00:05:35.260 in non-major hotbeds of innovation,

00:05:38.940 the teams don't even know that equity is a thing.

00:05:41.500 They might hear about it, but they don't honestly

00:05:43.880 know if 1,000 shares is a lot or not.

00:05:46.520 They don't even ask for the cap table.

00:05:48.100 They don't understand what percentage of the total ownership

00:05:50.760 does that equity represent in my business.

00:05:53.300 So sometimes they're very unsophisticated.

00:05:54.900 So I want you to do your own research

00:05:57.020 for where you're located, where you're

00:05:58.520 hiring these individuals from, so that you can understand

00:06:01.280 kind of how to build the comp structure for you.

00:06:04.920 Because essentially, the way I think about it

00:06:06.960 is low risk, a little risk, a lot of risk, right?

00:06:10.100 So when I was building my company Clarity,

00:06:11.960 we were a marketplace for entrepreneurs

00:06:14.540 the advice over the phone, and I hired my first few engineers

00:06:19.340 and kind of my CTO and my product leads, et cetera,

00:06:22.100 I pretty much said, here's your base salary,

00:06:23.920 here's the equity structure.

00:06:25.780 If you take less base, then you get more equity potential.

00:06:29.580 Because I'll talk about vesting in a second.

00:06:31.660 If you do more salary, then you get less equity.

00:06:35.120 Because it was really just like risk.

00:06:37.660 Are you willing to take no salary,

00:06:39.940 then your equity looks like this,

00:06:41.520 or do you want to take enough to cover your expenses,

00:06:43.700 et cetera, et cetera.

00:06:44.940 And I love it.

00:06:45.820 One time, one of my engineers came to me,

00:06:48.260 and I gave him that option.

00:06:49.320 He said, I don't need a salary.

00:06:51.300 I live with my parents.

00:06:52.880 I want the max equity.

00:06:54.720 And I was like, I just hired an incredibly committed

00:06:58.040 and driven individual.

00:06:59.720 So that, to me, is the opportunity

00:07:01.700 of thinking about how to research compensation based

00:07:04.640 on base salary you're going to pay them, risk levels,

00:07:07.100 and then also how much equity to entice them to stick around,

00:07:10.840 do great work, feel like they're part of the founding team

00:07:13.340 and get ownership in the business.

00:07:15.140 Number four, vesting schedule.

00:07:17.700 So here's the deal.

00:07:18.580 Vesting means what percentage of the allocation

00:07:22.880 do you get over what time frame?

00:07:24.460 Meaning that if I get, let's say, 1% equity in a business,

00:07:29.040 and there's a four-year vesting schedule,

00:07:31.280 that means that I don't get the potential of the full 1% 0.93

00:07:34.460 for four years.

00:07:36.060 Then there's the cliff.

00:07:37.460 The cliff is how long before I get any part of that equity.

00:07:42.380 So if you think about it, if we did four years with 1%,

00:07:44.680 you get a quarter, a quarter, a quarter on each year.

00:07:47.060 But with the one-year cliff, so four years with one-year cliff

00:07:50.040 is the norm, although there's some incredible companies

00:07:53.340 testing out different models doing five years, seven years.

00:07:56.360 I believe Angelus, for example, is up to a 10-year vesting

00:07:59.760 schedule just because they want to align the reward

00:08:03.660 with the commitment to long-term focus.

00:08:06.520 So what's happening right now, especially

00:08:08.100 in the hotbeds of startups, is people are jumping around.

00:08:11.440 They're literally going to work at Facebook, getting a year,

00:08:14.440 getting that, going to work at Amazon, doing a year,

00:08:16.680 getting their equity.

00:08:17.560 And it's causing a lot of turnover amongst technical teams.

00:08:23.820 So anyways, all I will say is you need some vesting schedule.

00:08:26.900 Allocating stock, like I made my mistake

00:08:29.620 in giving that 1% without any vesting

00:08:32.540 is not the way to do it.

00:08:33.800 I actually invested in a company.

00:08:35.740 And they had two co-founders.

00:08:37.500 And right off the bat, they didn't do founder vesting.

00:08:39.600 They essentially allocated 50-50 of the business.

00:08:42.640 They went to raise their first round of funding.

00:08:45.220 In that process, one of the co-founders, the CEO,

00:08:47.780 realized that his other co-founder

00:08:49.480 was not going to be the right person for the business.

00:08:52.140 Literally, they got to go.

00:08:54.180 And he had to buy him out in that round

00:08:57.400 to clear out the cap table, because 50% equity

00:09:00.100 for some person that's running around that's

00:09:01.780 not involved in the business anymore

00:09:03.180 will essentially stop you from growing your business,

00:09:06.200 because you won't be able to allocate anything.

00:09:08.560 And most investors won't even touch you

00:09:10.020 because there's not enough meat on the bone

00:09:13.060 to be able to incentivize future hires.

00:09:16.280 So they had to buy that co-founder out.

00:09:18.380 And it costs, I believe, $600,000.

00:09:21.260 You got to think about this.

00:09:22.280 The business was maybe six months old.

00:09:24.400 So $600,000 to a co-founder for a six-month-old business

00:09:28.600 because he knew he had the business by the short and

00:09:31.680 curlies was not a cool scenario, OK?

00:09:34.960 So I want you to think about vesting.

00:09:37.220 even for you and the founding team.

00:09:39.860 If you're doing a Series A, the investors

00:09:42.020 might ask you to reset some of your founding stocks

00:09:44.880 so that it has a vesting schedule,

00:09:46.340 so that it aligns with their interests

00:09:48.080 of you continuing to build a huge and meaningful company.

00:09:51.660 So that's the thing.

00:09:53.180 Four years, one-year cliff, that means

00:09:55.240 they don't get the first 25% until the first year,

00:09:58.060 and then it vests on a monthly schedule.

00:10:00.660 Number five, stock options versus other types of equity.

00:10:04.940 Look, again, I'm not a lawyer.

00:10:06.440 I'm just going to say this.

00:10:07.480 An option is an option to buy the stock, OK?

00:10:11.080 So that's a stock option.

00:10:12.300 I give you the option.

00:10:13.280 You don't have to exercise it if you don't want to,

00:10:15.340 because there's a tax implication and all that.

00:10:17.300 I'm not going to get into that side of things.

00:10:19.160 But that's an option.

00:10:20.520 If you give somebody, essentially allocate them

00:10:24.080 the stock itself, then it's a different thing,

00:10:27.460 because now there's no vesting, OK?

00:10:29.800 So there, and trust me, if you talk to some lawyers,

00:10:32.740 there is restrictions, RSUs.

00:10:35.600 There's so many different ways to slice and dice share

00:10:38.020 structures.

00:10:39.040 I suggest keep it plain, Jane.

00:10:42.480 Keep it simple.

00:10:43.380 Delaware Corp, again, I'm giving you legal advice.

00:10:45.360 I really shouldn't.

00:10:45.980 Anyways, I'm going to stop because I

00:10:47.400 don't want to get myself in trouble.

00:10:48.800 Talk to your startup lawyer.

00:10:50.440 Do the vanilla.

00:10:51.520 In regards to documents and structures,

00:10:53.660 there's existing templates that have been created

00:10:56.480 by Wilson Sincini, WSGR, who's a top law firm in the Valley,

00:11:01.600 to Y Combinator's got fundraising docs

00:11:04.040 and seed templates, et cetera.

00:11:05.720 So just keep it simple.

00:11:07.640 Don't do anything wacky.

00:11:08.960 If new investors want to do some weird thing,

00:11:11.660 just don't do that.

00:11:12.740 Keep it simple so that you don't have to spend time

00:11:15.260 into the future when you're successful fixing,

00:11:17.700 because that's what will happen.

00:11:18.820 The lawyers don't mind, because they get paid regardless.

00:11:21.260 Fixing some really weird scenarios

00:11:23.200 in regards to allocation.

00:11:24.240 So stock options versus others, I'm a big fan of the options.

00:11:27.740 Keep it vanilla.

00:11:28.980 Don't do anything creative.

00:11:30.660 Number six, plan for grants and promotions.

00:11:34.340 Now, here's the deal.

00:11:35.040 You hire a CMO, and they're amazing.

00:11:36.960 You're just like, wow, they're crushing it.

00:11:38.840 They're doing great.

00:11:39.840 And all of a sudden, now they come to you and they say,

00:11:41.740 hey, when I started, you gave me 1% equity.

00:11:43.940 And I feel, because I know that this other person just got 2%,

00:11:47.340 that I'm more of a 2%er because I'm

00:11:49.260 adding as much value as this new hire.

00:11:52.040 You've got to plan for that.

00:11:53.400 You've got to understand that if you hire somebody

00:11:55.340 as a junior developer and every six months,

00:11:57.760 this is what I love about startups,

00:11:59.040 is literally people that are 23, 24, young people

00:12:01.980 can just rise and all of a sudden

00:12:04.020 be the leading the operations or leading the marketing

00:12:06.780 department at a young age.

00:12:08.260 They're going to want to get compensated accordingly

00:12:10.720 because they know their market value

00:12:12.660 at that level of promotion.

00:12:14.880 So you need to plan for that in your allocation structure.

00:12:18.420 So just plan for issuing more grants of stock options

00:12:21.840 and for promotions within your existing team

00:12:25.180 as people kind of demonstrate their ability

00:12:27.680 to handle more and more.

00:12:29.080 Number seven, you need to set the expiration timeline.

00:12:32.960 Here's the deal.

00:12:33.920 If you give somebody an allocation as an option,

00:12:36.940 they still need to exercise that option.

00:12:39.320 If you have somebody that ends up getting let go,

00:12:42.200 or they take another job and they had options that

00:12:44.400 essentially vested, you have to set a timeline for expiration.

00:12:48.140 Now, some people will keep it short.

00:12:50.400 Other people are arguing now to keep it longer.

00:12:52.440 The norm is about three months, whereas they

00:12:54.860 have three months after they leave the organization

00:12:57.200 to exercise their stock options.

00:12:59.440 Now, the challenge with that is there's definitely

00:13:01.760 a tax implication that they need to be aware of where

00:13:04.940 they're going to have to pay some taxes depending 0.63

00:13:06.920 on how they structure it.

00:13:07.820 Again, I'm not a lawyer.

00:13:08.880 I'll let them deal with their own financial tax situation.

00:13:11.540 But some of them just don't have the money.

00:13:13.960 I remember I had a good friend of mine

00:13:15.580 that did some marketing consulting for Dropbox.

00:13:18.240 And he got stock option as part of his comp structure.

00:13:21.680 And obviously, you know the story.

00:13:23.020 I mean, the company went to like a $2 billion valuation.

00:13:25.920 He had to borrow the money to exercise his options

00:13:30.240 to pay the taxes just to own the stock itself

00:13:34.140 because the valuation was so incredible.

00:13:36.280 And that's true for a lot of companies.

00:13:38.240 I actually know people that finance stock options

00:13:42.160 for employees at some of these unicorn companies

00:13:44.540 because they can't afford to exercise their options,

00:13:47.980 so they have to work with the financing person that

00:13:49.860 essentially uses the stock as collateral

00:13:51.880 to lend them the money.

00:13:53.100 Super fascinating industry and financial model,

00:13:55.860 but I will say you do, as the founders,

00:13:59.040 have to set that expiration timeline.

00:14:00.840 If you set it too long, there's a lot

00:14:02.260 of administrative overhead to manage that.

00:14:04.220 Three months is the norm, but do your research and set that.

00:14:07.540 So quick recap on how you should offer startup equity

00:14:10.500 to your team.

00:14:11.040 Number one, we want to build our dream team.

00:14:13.380 Design it.

00:14:14.080 Number two, we want to carve out our equity pool.

00:14:16.980 What percentage are we taking from our equity to compensate?

00:14:20.600 Three, research compensation.

00:14:22.800 Your city, your market norms, use the online resources

00:14:26.880 like a pay scale, Glassdoor, AngelList, et cetera,

00:14:29.940 to figure out what those hires would require.

00:14:32.500 Four, vesting schedule so that you

00:14:34.480 understand how the equity vests.

00:14:36.720 Five, stock options versus others.

00:14:39.360 You can entertain it.

00:14:40.200 You can ask your lawyer about the other options.

00:14:42.080 I'm a big fan of keeping it simple.

00:14:43.640 Number six, plan for grants and promotions

00:14:46.620 of your team members.

00:14:47.580 And seven, set an expiration timeline

00:14:50.020 so people know what their commitment or needs are

00:14:53.820 if they move on from your company.

00:14:56.040 So as I mentioned at the beginning,

00:14:57.480 I want to share with you really one

00:14:59.360 of the most powerful frameworks that I teach my coaching

00:15:01.900 clients called Fundraising Like a Pro.

00:15:03.560 Now, if you don't know this, one of my early mentors

00:15:06.180 when I built my company Flowtown, the first time

00:15:07.980 I ever raised venture capital was Travis Kalanick from Uber.

00:15:11.680 This is before Uber, right when it was Uber Taxi.

00:15:14.980 He had hired somebody else to be the GM, my good friend Ryan.

00:15:18.140 And essentially, it wasn't even a thing.

00:15:21.180 But that environment, we'd go to Travis's, what

00:15:24.900 he called the jam pad, to work on it.

00:15:26.700 He was an early investor in Flowtown and a formal advisor.

00:15:29.720 And he helped us with our fundraising process.

00:15:31.660 So when I share these strategies,

00:15:33.800 know that they, 80% of them, came from the things

00:15:37.120 that Travis, who went on to raise billions of dollars

00:15:40.160 for Uber.

00:15:41.040 If anything, I mean, regardless of all the stuff in the media,

00:15:44.560 Travis is a world-class fundraiser, OK?

00:15:47.180 You can't deny that.

00:15:48.380 And he taught us, my co-founder Ethan and I,

00:15:51.600 how to think about that process, the psychology involved,

00:15:55.160 the tactics, the strategy.

00:15:56.960 I wrap all that up in the Fundraising Like a Pro training.

00:16:00.000 So you can click the link below to get access to that.

00:16:02.560 I know it will help you close your deal really fast.

00:16:05.000 I talk about the three phases of fundraising

00:16:07.740 and really a seven-week process to get your round closed.

00:16:11.180 So click the link, get access.

00:16:13.100 If you found this video useful, be

00:16:14.540 sure to smash the Like button.

00:16:16.340 Subscribe to my channel if you're new.

00:16:17.880 And if there's anybody that you care about that you feel this

00:16:20.340 could serve, feel free to share with this video directly

00:16:23.400 with them.

00:16:24.020 As per usual, I want to challenge you

00:16:25.940 to live a bigger life and a bigger business.

00:16:27.980 And I'll see you next Monday.

00:16:29.460 Ready when you are, buddy.

00:16:32.240 Hey, everybody.

Dan Martell - July 22, 2019

Should You Give Employees Equity？

Episode Stats

Summary

Transcript