Legal protection and pitfalls for accepting equity in startup. I’m a newbie.

by _Rock_Steady_. Posted on Sep 14, 2020    5    7

I am at the very early stages of negotiating compensation for technical contribution to a startup, and we have discussed several different options including equity, royalty, flat rate, or hourly rate. All over the map. I want to shoot for some amount of equity, but I’m not sure what the pitfalls (besides the equip ty becoming worthless) are. Can someone walk me through the basics? Would I need personal protection?


AdamKyleWilson 1

Personal protection from what?

weCo389 2

I think unless you are on the leadership team equity is a real crap shoot as you have pretty much 0 control of the destiny of the company. You also have to be careful with the terms, eg they may make it if you leave / they fire you they can buy back your equity at unfavorable rates. You may also get diluted later on. And more likely than not the equity will end up pretty worthless. But if you believe in the company and can afford it then getting some equity can be a fun bet.

LokiTM 3

Cash is a bird in the hand. You get what you get, but you know you have it. Equity is a bet. If the company does well, you stand to make far more than you would with salary or hourly pay. As you say, the downside is that it is worth nothing and you effectively worked for free.

For co-founders and very early hires, most of the compensation will be equity because the company does not have cash.

You don't have any liability or risks beyond just having the options or stock end up worthless. It does not open you up to any legal risk that I am aware of.

I wrote this blog a while back talking about options from an employee perspective:

Analyst-Suspicious 1

The thing about cash is that you can do whatever you want with it. Including just investing into this startup or any other startup or bitcoin or tesla stocks or whaever you want.

If you're paid in equity, there has to be some kind of incentive to take it instead of cash.

entrepreneurs_anon 1

Agree. If you drill deeper to try to figure out whether cash or equity is more important to you, it essentially comes down to:

  1. What your personal economic situation is (you need to live and struggling too much will making you end up leaving anyway)

  2. What your risk appetite is

  3. Whether you really believe in the startup (their idea, what stage they’re in, the investor support it has, its leaders)

  4. What you’re joining the startup for:

    For example:

    Are you mainly joining a startup hoping for the big pot of gold at the end of the rainbow (day 5 years from now) and you think this will be an exitable startup? Or

    Are you mainly joining a startup for the learning experience but don’t care about leaving after 2 years with no pot of gold?

    I personally fall in the non-risk averse camp and prefer taking less cash as long as the start up is very promising and it provides me with career growth that I know will boost my career, but I think I’m in the minority.
LokiTM 1

Frequently companies will give some of each. They can pay, but less than prevailing wages, and add equity as a kicker/motivator/incentive.
Except for co-founders, I think it is unusual for people to be paid in equity alone.

entrepreneurs_anon 1

Yes, would be very weird to just give equity. The balance between cash and equity though varies person to person. Some people choose to take more equity for less cash or vice versa. That’s what my post was getting at