One of the trickiest things to get right in building a team is how you remunerate them. This can be similar for founders as well as early employees who join. Equity can be particularly difficult to work out as it’s emotional and very subjective for many people. But it doesn’t have to be that hard.
Here I focus on early teams not the initial founders. Incentivising founders is more complex, which I’m not going to dig into here specifically, other than to say that (1) you shouldn’t issue all of the allocated shares when you start but keep some for later investors, (2) make sure they vest over a 3–5 year period, and (3) have clear terms on what a divorce might look like. It’s also normally not a good idea to make them 50/50 — but co-founder terms is not the topic of this post.
When starting out you’re probably not going to have much money to pay ‘salaries’ so it helps to zoom out a little and to think about ‘remuneration’ instead. Remuneration is made up of 4 components:
- Base salary (in money)
- Commission on sales
- Time off (can be leave, % or work, etc)
That’s it. That’s pretty much all that you have to work with in incentivising someone to join your team. For Example: If you want to remunerate someone at a market related price of R60k per month (divide by ±10 for USD equivalents) but can’t afford the full salary you could pay it monthly as R30k in salary, have 100 shares (worth R20k) ‘vest’ or become theirs over time, give them up to 10% commission of sales (expected to be R10k), and give them Fridays off (20% of R60k or R12k). That would mean that they’d earn a monthly remuneration of R72k — a little higher than the R60k as they are still taking a risk and it’s not all money in the bank. Obviously, these numbers will widely vary depending on your situation but you get the idea.
If someone is wanting to do it for a learning opportunity, exposure, or for an awesome work environment that may discount their overall remuneration — whatever the split of these 4 components. Also, if Commission or Time off is not included then only the other 2 will make up their remuneration package.
The thing about it is that all 4 can be calculated:
Base salary is the easiest of them all, as it’s the actual money that you get paid each month. This also includes money that the company spends on your behalf that you would otherwise need to spend — like for a cell phone, health insurance or a car. That should be a relatively easy number to find.
Equity is easy if there has been a priced funding round recently. You can make this component of their remuneration equal to the rate at which their shares will vest over time. If you haven’t raised money yet, then putting the value of the Equity to a SAFE (Simple Agreement For Equity) that converts at a future dated value is a fair way of doing it — just add a discount as they’re coming in early and taking a risk.
Commission is also relatively easy to work out if you have projections even though it will be variable. Make sure to account for some of the uncertainty in projections by rounding down to give them the benefit of the doubt. In the past it’s just adding up or averaging what was actually paid.
Time off is if people want to work part days, have extra leave, or need to spend time working a 2nd job that gives them income. This is calculated as a % of their monthly salary (only working mornings) or at a day rate (monthly salary divided by 21 working days). If you know what their monthly remuneration is, then you can always work out what their time is worth.
The whole notion of “I should have 10% of the company” is complete nonsense. Sweat equity can be valued, at least approximately. With sweat equity you’re ‘buying your shares through loss of potential income’. It’s just another way of investing and would be the same as if you were working for someone else and investing the same amount into the business. If someone comes in earlier than you when the company is worth much less (and is a lot more uncertain) then their R20k/mo of value that is vesting will buy them a bigger share of the business than yours. That’s not unfair at all.
A slightly more contentious point is how do you decide on what ‘market related remuneration’ should actually be. There are 2 main ways of looking at it, firstly what the person was getting paid at a previous similar job and secondly by looking at what you would need to pay to hire someone else with a similar skillset into the role. If you had $1 mil, what would you be need to pay someone to do that job? Note that comparing a corporate salary at a large company is always going to be unrealistic so it’s better to look at similar roles at successful small or medium size companies.
Having these conversations is never easy, but it can be a lot less painful or emotional if you break it down to the real numbers and talk through the scenarios. This way you can normally find some kind of middle ground by applying a ‘reasonableness test’. If you show them your working, then you can have a robust discussion over the base assumptions and avoid the high level “but I should have at least X%” nonsense. Just remember that as painful as it is to do now, it’s only going to get harder to do at a later date.