Tuesday, August 18, 2009

Why Founders Reap Disproportionate Rewards

Mark Suster keeps knocking the cover off the ball with his posts about the startup ecosystem. Here's a key passage from his latest:

The fact is that most people lack the willingness, ability or nerve to start a company from the very beginning with just an idea or a desire to start a company. These same people will join you and your one other co-founder (maximum) 6 months later when you’ve established the company, done your Powerpoint deck, built a prototype or product and started fund raising discussions.

They’ll happily join for 5% or less and they’ll have options and not stock. That’s the difference between a founder and a non-founder. You’re the one who gets paid extra rewards for taking the extra risk and more importantly taking the initiative.

As I've remarked before, being a founder generally adds an extra zero to your shareholdings. They key is your own risk perception and tolerance.

If you think starting a company from scratch is really hard, you're unlikely to take the leap, regardless of the rewards. Thanks to a decade of experience as a founder, I view starting a company as a relatively low-risk process. Remember, focus on what's easy for you, but hard for others. Either that, or I'm just pathologically optimistic (also a good possibility).

When I start a company, my internal calculation is as follows:

Risks:
1) Going without salary for 6 months
2) Working A LOT

Rewards:
1) 10X as much stock
2) Getting to tell people that you're a founder (sounds great at parties!)

Bottom line, if you have low expenses and you like to work, being a founder is a pretty compelling deal.*

* Note that I ignored my own advice to join PBworks. In that case, I saw a unique opportunity to work with old friends on both the management and VC side, and the chance to bringing in a number of other old friends to beef up the management team. Sometimes, the chance to have fun and work with great people (while tackling a billion-dollar idea in a hot space) is enough to override the usual considerations.

10 comments:

Shefaly said...

Good point. However in Europe even some 'founders' take a 15-day holiday in the middle of their fundraising crises, even as their 'advisors' work. Speaking from experience, of course. :-)

Chris said...

I should definitely have added that to my list...no vacations!

Franziska said...

You are lucky that you can work with friends. I set up my own company with three other "friends" and got so screwed that I lost not only a big chunk of money but also my trust in doing anything ever again that involves money and friends.

Chris said...

Franziska,

Sadly, large amounts of money can bring out the ugly side of human nature. I've seen many friendships ended as a result.

My advice has always been to be as open as possible, and to make sure you can really count on whomever you're jumping in a foxhole with.

Shawn said...

It is very common for early employees to take on both risks you mention (lack of salary, lots of work) but getting neither of the rewards mentioned (1X instead of 10X, not "a founder"). This is the case for many (most?) startups, but is generally unknown to those on the outside of the situation. It can very often create hard feelings since the founders typically have the power to easily wipe out (or fail to increase) the equity of these employees.

Chris said...

Shawn,

Yes, being an early employee of a pre-funding startup is a sucker's bet.

I did it once, but there were special circumstances--I got a good deal, the CEO was an old friend, and the founders had already made hundreds of millions of dollars in their careers, so funding was a certainty.

Shawn said...

Well, I wasn't really thinking of it as a sucker's bet (though that might be the best way of looking at it!), but maybe as a reminder to some founders that while they are taking risks, they should look around and see if anyone else is taking a similar risk with them. And if so, then ask whether those others are in line for a similar reward.

Touraj Parang said...

Excellent post Chris! The risk-reward trade-off is certainly valid, although over time and given the amount of future dilution, I have seen many founders lose much of that extra "0" that they had in the beginning.

Chris said...

Touraj,

Excellent point on how founders can easily lose their extra "0" in subsequent rounds of financing.

The key to avoiding this eventuality is to avoid down rounds. This is one of the reasons why the counter-intuitive practice of not seeking the highest possible valuation is actually a good move in the long run.

Liam Dempsey said...

Hi Chris,

I came to your blog from Shefaly's blog.

Your post is particularly insightful and I have shared the link with a few people now.

I was having a conversation a few months ago with a friend/client (who also started his own company) about starting one's own business. We both laughed about how if we had the chance to re-write the dictionary, our definitions of 'hard work' and 'sacrifice' would be very different. Regardless of the size and scope of a new business, doing it right means a great deal of nights, weekends and very early mornings for the founder(s).