Splitting equity

Ada had the idea for Northwind and wrote the first code. Ben joined six months later. The two founders have 8,000,000 shares to split. Is it fair to give Ada more? Most founders feel that it is. The advice from YC is different, and the reason for it is in the future, not the past.

The default is an equal split

An equity split is the division of the founder shares between the cofounders. YC recommends an equal split, or a split that is almost equal. Michael Seibel of YC gave his reasons in December 2015:

“All the work is ahead of you.”
A company of great value takes 7 to 10 years to build.
More equity gives a founder more motivation.
If you do not value your cofounders, nobody else will value them.

Harj Taggar of YC said the same thing in 2020: “your sort of default equity allocation should really be 50/50.” He accepts a different split only when the two founders are both happy with it.

Seibel adds a reason that comes from investors: “Investors look at founder equity split as a cue on how the CEO values his/her co-founders.” A 70/30 split tells an investor that one founder thinks that the other is worth less. The investor then asks why.

The work is still ahead

A head start feels large at the start. Six months of work is a lot when the company is six months old. But the company needs many more years of work from the two founders.

Predict first

Ada worked alone for 6 months. Then Ada and Ben work together full time for 7 more years. What part of all the months of founder work did Ada put in?

Type a guess before you continue. A guess first, even a wrong one, makes the answer easier to remember.

This is the calculation:

Ada's months       = 6 + 7 × 12 = 90
Ben's months       = 7 × 12     = 84
All founder months = 90 + 84    = 174
Ada's part         = 90 ÷ 174   = 51.7%

Move the head start and the years ahead. Look at how close to 50/50 the split stays.

Thought experiment

A head start against the years ahead

Ada worked alone first. Then Ben joined, and the two work full time together. Split the founder shares by months of work.

Ada’s head start6 months

Months that Ada worked alone before Ben joined.

Years ahead7

Years that the two founders work together from now on.

Ada: 51.7%; 4,137,931 shares
Ben: 48.3%; 3,862,069 shares
Head start, part of all work: 3.4%; 6 of 174 founder-months

Founder shares split by months of work

The founders work 174 months in total: Ada’s 6 months alone, plus 7 years × 12 months × 2 founders. Split by months of work, Ada gets 51.7% and Ben gets 48.3%.

The head start is real, but small next to 7 years of work ahead. This is why YC partners recommend an equal split, or one that is almost equal.

The model is simple on purpose. It counts only months, and it leaves out skill, money, and risk. But it shows the size of a head start next to the work ahead. The result agrees with the advice from YC and with what many founders now do.

When an unequal split makes sense

An equal split is a default, not a rule. A different split can be fair when the founders will put in different amounts from now on. These are examples:

One founder works full time, and the other keeps a job for the first year.
One founder joins much later, when the company already has a product and customers.
One founder brings much more money into the company than the other.

Taggar gives the test: the two founders are both happy with the split. Write the reason for the split down, so that the two founders and later investors can read it.

The math of a split is simple. Multiply the founder shares by each percentage:

50/50 of 8,000,000 = 4,000,000 and 4,000,000
55/45 of 8,000,000 = 4,400,000 and 3,600,000

Work it out

Two founders split 8,000,000 shares 51/49. How many shares does the founder with 49% get?

Work it out

Three founders split 9,000,000 shares 40/30/30. How many shares does one of the 30% founders get?

What the split covers

The split divides only the founder shares, not the whole company. Clerky, for example, authorizes 10,000,000 shares. It issues approximately 8,000,000 to the founders and keeps approximately 1,000,000 for a stock plan. A 50/50 split gives each founder 4,000,000 shares.

The founders do not give shares to later employees from their own shares. Employees get options from the stock plan, and investors buy new shares that the company issues. Each of those new shares dilutes the founders. The next section shows that this dilution does not change the split between them.

The split after the company grows

The split sets the ratio between the founders. Later rounds do not change that ratio, because new shares dilute each founder by the same factor. Here is a 51/49 split before and after a round that issues 2,000,000 new shares:

Before: Ada = 4,080,000 ÷ 8,000,000  = 51%
        Ben = 3,920,000 ÷ 8,000,000  = 49%
After:  Ada = 4,080,000 ÷ 10,000,000 = 40.8%
        Ben = 3,920,000 ÷ 10,000,000 = 39.2%

The gap between the two founders was 2 points of the company. It is now 1.6 points, and the ratio is still 51 to 49. Each founder lost the same fifth of their ownership. A solo founder has no split to make, but the same dilution applies to the one founder.

Every split needs vesting

A split decides who owns the founder shares on day one. It does not decide what happens when a founder leaves. Founders leave more often than new teams expect. Carta data on two-founder teams shows this:

Of the two-founder teams that started companies from 2016 to 2021, 25% to 35% split up within five years. The rate depends on the year.
Of the two-founder teams that started companies from 2016 to 2018, more than 40% split up within eight years.

Without a vesting schedule, a founder who leaves keeps all of the shares. The other founder then does all the work for half of the company. Vesting lets the company buy back the shares that a departed founder did not earn yet. The next lesson, vesting and cliffs, shows how.

Questions to agree on before you sign

Agree on these points before the company issues the founder shares. Write each answer down:

Who is the CEO, and who decides when the founders disagree?
Does each founder work full time, and from which date?
What is the split, and what is the reason for it?
Do all founders vest on the same schedule, such as 4 years with a 1-year cliff?
What happens to the shares of a founder who leaves?
Does each founder assign all past and future work to the company?
Who sits on the board?
What salary does each founder take, and from which date?

Hard questions are easier to answer in the first week than in the third year. The answers also become the documents that investors read in due diligence.

What if we cannot agree on a split?

Talk about the next four years, not about who had the idea. List what each founder will do, how many hours each will work, and what each founder risks, such as a salary that they give up. Then come back to the default of an equal split, and agree on a reason for any change. If two founders cannot agree on the split, they will face harder decisions later. Use the disagreement to learn how the two of you decide.

Quiz · question 1 of 5

Test what you learned

What split does YC recommend for two cofounders?

In this lesson you will learn