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Let's say I invest in a startup, either with money, work, etc. In return I am given a 5% stake in the company, but no salary, benefits, etc.

When do I see money related to that 5%? Is it only when they get bought, or is there some sort of quarterly payout of profits?

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    One other thing to consider: how are they getting the 5%? Are current partners each giving 1% up? Are you going to be asked to do this someday? Did they vote to dillute current shares? Again, are you going to be asked to have your shares dilluted someday? Just asking questions to get you thinking ;) – Lynn Crumbling Mar 2 '15 at 21:25
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    The equity is also highly likely on your continued employment. If you leave for any reason, you won't take anything with you. Depending on the state in which you work, you could be fired for absolutely no reason other than to deny you your promised benefits. – FreeAsInBeer Mar 2 '15 at 21:32
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    Scroll down to "How to value an equity grant" in Don't Call Yourself A Programmer, And Other Career Advice. Even if you're working in a different industry, the method there is relevant for understanding startup equity. – Dan Neely Mar 3 '15 at 14:29
  • I know it's not your primary question, but I cannot agree enough with the many answers that you absolutely should not invest under these circumstances with "work." Yes, you'll likely never see it. – Dave Kanter Mar 3 '15 at 22:25
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You will probably never see it. The startup at some point may start issuing dividends to the shareholders (which would be the owners, including you if you are in fact getting equity), but that day may never come. If they hire others with this method, you'll likely lose even that 5% as more shares are created. Think of inflation that happens when government just prints more money. All notes effectively lose value.

I wouldn't invest either, most startups fail.

Don't work for free on the vague promise of some future compensation; you want a salary and benefits. Equity doesn't put food on your table.

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    Not working for free depends on the situation. As an ordinary job, no. Doing it on the side could work out, as for instance you'd joined up to help a couple of guys build computers in their garage, back in the '70s. But realize that, like any entrepreneur, you're gambling your work against the chance of success. – jamesqf Mar 2 '15 at 18:35
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    "you might never see it". It's extremely likely you'll never see it. – ChrisInEdmonton Mar 2 '15 at 18:40
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    @Andy: Sure, but using your logic, no one would ever start anything. – jamesqf Mar 3 '15 at 3:07
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    @jamesqf no, by Andy's logic, nobody besides speculators should ever invest in a startup. Which is pretty much correct. – user253751 Mar 3 '15 at 3:34
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    @jamesqf If your goal is starting something, by all means, do a startup. If your goal is a reasonable return on your investment, find somewhere else to put your money. – Chris Hayes Mar 3 '15 at 7:49
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The details of how you can convert your 5% equity share to cash or stocks will be detailed in writing in the legal agreement you have already signed.

If you do not have any signed written agreement, there is no 5%. Since 0% of anything is zero, you can expect to get $0 some time within the next few years.

Lastly, if the person running the business, tells you that there is 5% equity for you, even though it is not in writing, that is extremely unlikely to be the case. This is because the Seller of the equity has no obligation whatsoever to pay you. In fact, they are obligated by their other agreements with actual shareholders not to dilute their equity without good cause.

So, odds are, if your agreement is not in writing, not only will it not be honored, but it probably can't be honored.

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Read the book, "Slicing Pie: Fund Your Company Without Funds". You can be given 5% over four years and in four years, they hire someone and give him twice as much as you, for working a month and not sacrificing his salary at all.

Over the four years, the idiot who offered you the deal will waste investors money on obvious, stupid things because he doesn't know anything about how to build what he's asking you to build, causing the need for more investment and the dilution of your equity. I'm speaking from personal experience.

Don't even do this. Start your own company if you're working for free, and tell the idiot who offered you 5% you'll offer him 2% for four years of him working for you for free.

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    So how do you start your own company if you have no ideas for (possibly) saleable products? Perhaps you team up with someone who has ideas, but not the skills to implement them well? Just make sure you have the deal in writing. And if somewhere along the way, you discover that your idea guy really is an idiot, walk away. – jamesqf Mar 3 '15 at 3:12
  • @jamesqf by hiring people who are willing to work for free. Probably not very ethical, so, there's that. – Wayne Werner Mar 3 '15 at 13:05
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    The value of ideas is covered in the book. The book suggests ideas be valued at 0, and I agree, considering how easy they are to come up with and how numerous and available they are. – Joseph Sep 25 '15 at 18:23
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Equity could mean stock options. If that's the case if the company makes it big, you'll have the option to buy stocks cheap (which can then be sold at a huge profit)

How are you going to buy those without income?

5% equity is laughable. I'd be looking for 30-40% if not better without salary. Or even better, a salary.

To elaborate, 5% is fine, and even normal for an early employee taking a mild pay cut in exchange for a chance at return. That chance of any return on the equity is only about 1/20 (94% of startups fail)

There is no reason for an employee to work for no pay. An argument could be made for a cofounder, with direct control and influence in the company to work for equity only, but it would be a /lot/ more (that 30-40%), or an advisory role (5% is reasonable)

I also just noticed you mentioned "investing" in the startup with cash. As an angel investor, I'd still expect far more than 5%, and preferred shares at that. More like 16-20%.

Read this for more info on how equity is usually split.

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    The same number of people that will work for free/reduced rates! – Matthew Steeples Mar 2 '15 at 18:44
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    A cofounder. Otherwise they can't pay a salary it's not a viable business model. – evandentremont Mar 2 '15 at 18:44
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    Stock Options are not equity. They are an option to purchase equity. Actual equity is given as a percentage of ownership of the business, either as actual stock (as in a corporation), or as member of an LLC, or as a partner. – Kent A. Mar 2 '15 at 18:56
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    @evandentremont, Not really. And we are trying to be as correct as possible on this site, no? – Kent A. Mar 2 '15 at 19:50
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    @evandentremont It is not used interchangeably by anyone who knows the difference, because they are fundamentally different. – quid Mar 2 '15 at 20:41
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I agree with all the people cautioning against working for free, but I'll also have a go at answering the question:

When do I see money related to that 5%? Is it only when they get bought, or is there some sort of quarterly payout of profits?

It's up to the shareholders of the company whether and when it pays dividends. A new startup will typically have a small number of people, perhaps 1-3, who between them control any shareholder vote (the founder(s) and an investor). If they're offering you 5%, chances are they've made sure your vote will not matter, but some companies (an equity partnership springs to mind) might be structured such that control is genuinely distributed. You would want to check what the particular situation is in this company. Assuming the founders/main investors have control, those people (or that person) will decide whether to pay dividends, so you can ask them their plans to realise money from the company.

It is very rare for startups to pay any dividends. This is firstly because they're rarely profitable, but even when they are profitable the whole point of a startup is to grow, so there are plenty of things to spend cash on other than payouts to shareholders. Paying anything out to shareholders is the opposite of receiving investment.

So unless you're in the very unusual position of a startup that will quickly make so much money that it doesn't need investment, and is planning to pay out to shareholders rather than spend on growth, then no, it will not pay out.

One way for a shareholder to exit is to be bought out by other shareholders. For example if they want to get rid of you then they might make you an offer for your 5%. This can be any amount they think you'll take, given the situation at the time. If you don't take it, there may be things they can do in future to reduce its value to you (see below). If you do take it then your 5% would pay you once, when you leave.

If the company succeeds, commonly it will be wholly or partly sold (either privately or by IPO). At this point, if it's wholly sold then the soon-to-be-ex-shareholders at the time will receive the proceeds of the sale. If it's partly sold then as with an investment round it's up for negotiation what happens. For example I believe the cash from an IPO of X% of the company could be taken into the company, leaving the shareholders with no immediate direct payout but (100-X)% of shares in their names that they're more-or-less free to sell, or retain and receive future dividends. Alternatively, if the company settles down as a small private business that's no longer in startup mode, it might start paying out without a sale. If the company fails, as most startups do, it will never pay anything.


It's very important to remember that it's the shareholders at the time who receive money in proportion to their holding (or as defined by the company articles, if there are different classes of share). Just because you have 5% now doesn't mean you'll have 5% by that time, because any new investment into the company in the mean time will "dilute" your shareholding. It works like this:

  • Initial investment into the company: $1 million
  • Of which equity given to you: 5%
  • New investment coming into the company: $9 million
  • New total shareholder capital in the company: $10 million
  • Of which your capital is: $50k (5% of the original $1 million)
  • Your new shareholding: 0.5%
  • Money paid to you so far: $0

Note that I've assumed for simplicity that the new investment comes in at equal value to the old investment. This isn't necessarily the case, it can be more or less according to the terms of the new investment voted for by the shareholders, so the first line really is "nominal value", not necessarily the actual cash the founders put in.

Therefore, you should not think of your 5% as 5% of what you imagine a company like yours might eventually exit for. At best, think of it as 5% of what a company like yours might exit for, if it receives no further investment whatsoever.

Ah, but won't the founders also have their holdings diluted and lose control of the company, so they wouldn't do that? Well, not necessarily. Look carefully at whether you're being offered the same class of shares as the founders. If not consider whether they can dilute your shares without diluting their own. Look also at whether a new investor could use the founders' executive positions to give them new equity in the same way they gave you old equity, without giving you any new equity. Look at whether the founders will themselves participate in future investment rounds using sacks of cash that they own from other ventures, when you can't afford to keep up. Look at whether new investors will receive a priority class of share that's guaranteed at exit to pay out a certain multiple of the money invested before the older, inferior classes of shares receive anything (VCs like to do this, at least in the UK). Look at any other tricks they can legally pull: even if the founders aren't inclined to be tricky, they may eventually be forced to consider pulling them by a future new investor. And when I say "look", I mean get your lawyer to look.

If your shareholding survives until exit, then it will pay out at exit. But repeated dilutions and investors with priority classes of shares could mean that your holding doesn't survive to exit even if the company does. Your 5% could turn into a nominal holding that hasn't really "survived", that entitles you to 0.5% of any sale value over $100 million. Then if the company sells for $50 million you get $0, while other investors are getting a good return.


All of this is why you should not work for equity unless you can afford to work for free. And even then you need to lawyer up, now and during any future investment, so your lawyer can explain to you what your investment actually is, which almost certainly is different from what it looks like at a casual uninformed glance.

  • It is very rare for startups to pay anything. Have you ever worked for a startup? Most do pay. – evandentremont Mar 3 '15 at 12:44
  • @evandentremont: yes, I've worked for a startup. They never paid any dividends on my shares. They paid my salary, of course, but the question isn't about that. – Steve Jessop Mar 3 '15 at 13:09
  • Ah, I read "It is very rare for startups to pay anything." as anything at all. – evandentremont Mar 3 '15 at 13:42
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    Can you explain this more: "Your 5% could turn into a nominal holding that hasn't really "survived", that entitles you to 0.5% of any sale value over $100 million. Then if the company sells for $50 million you get $0, while other investors are getting a good return." How could you have 0.5% of 100 mil but not 50 mil? – ACD Mar 3 '15 at 14:09
  • @ACD: because of "a priority class of share that's guaranteed at exit to pay out a certain multiple of the money invested before the older, inferior classes of shares receive anything". So if I'm a VC and I put in $10m with a guaranteed return of x5 at exit, then I'd get the first $50m of the sale price and everyone else would get squat if the price is <= $50m. This is why you need to pay attention at each investment round, exactly what is being sold to the new investors. – Steve Jessop Mar 3 '15 at 18:38
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In the real world, there are only two times you'll see that 5% become worth anything - ie, something you can exchange for cash - 1) if another company buys them; (2) if they go public. If neither of these things happen, you cannot do anything with the stock or stock options that you own.

  • You answer is not correct. You answer really only applies to a small subset of businesses. – Raze Mar 4 '15 at 19:31
  • @Raze. All the startups here in Silicon Valley use this business model. – Michael Martinez Mar 4 '15 at 20:10
  • Did I miss a reference to Silicon Valley? The world, even the US of A is much larger than Silicon Valley. You might be surprised to know that people are starting businesses all over the place, not just in Silicon Valley. – Raze Mar 4 '15 at 20:42
  • We're not talking about "starting a business." When people say "startup" they are not talking about a small mom-and-pop business. They are referring to one thing: a high-tech startup. Considering that the startup culture began here, and Silicon Valley has the largest concentration of startups in the world, and people still flock here from all over to launch new startups, the Valley is the authority on how startups are modeled and run. – Michael Martinez Mar 4 '15 at 20:44
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    you're confusing "startup" with other kinds of businesses. As I already said the OP is not asking about "starting a business". The OP is talking about "startups" and this specifically means high-tech startups in the sense of the Silicon Valley which, as you well know, was the birthplace of the concept of the high-tech startup in the 1970s. You're simply trying to skirt and muddle the issue, but the fact remains. – Michael Martinez Mar 4 '15 at 21:32

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