Imagine three twenty-something guys working on a startup that has more lines of code than dollars in the bank. They're working out of an apartment and spend most evenings eating ramen noodles from the same MSG-laden box. They work approximately equal hours (too many). They suffer approximately equal stress (more than they ever expected). They bear approximately equal responsibility for not tanking the company through poor performance. They each accept dramatic pay-cuts relative to easier, better jobs which they could sleepwalk their way into.
Next door, there are another three guys, eating ramen, etc etc.
Now, it seems to me like the three guys behind Door #1 are very similar to the three guys behind Door #2. However, in one case they're all co-founders, and in one case they are two co-founders and a first employee. Those are very, very different statuses for the third guy. The third co-founder gets mentioned in press hits about the company. The third co-founder can call himself a co-founder, a status of value in an industry (and society) which is sometimes obsessed with status. The third co-founder cannot get excised from the cap table without that being mentioned as a subplot in the eventual movie.
The first employee will not usually get mentioned. The first employee gets no social status of particular esteem. The first employee will not have a seat at the table -- literally or figuratively -- when the eventual disposition of the first employee's equity is decided. The first employee's equity stake is approximately 1/6 to 1/40th (or less!) of what the third co-founder's was. Well, theoretically. 0.5% is 1/40th of 20% in engineering math, not in investor math, because investors can change the laws of mathematics retroactively. 0.5% of millions of dollars is sometimes nothing at all. (This is one of the least obvious and most important things I have learned from HN.)
If you're good enough to be a first employee, you're probably epsilon away from being good enough to be a third co-founder. There may be good reasons to prefer being an employee... but think darn hard before you make that decision.
There's a simple solution: employees shouldn't accept a lower-than-market salary. Having been in this situation myself I understand that the psychology of these situations makes it difficult for early employees to maintain an employer-employee distance from the founders, but (in my experience) that spirit of camaraderie ends with the acquisition. The founders will likely be gone within a year, the unique cultural aspects of the company will be subsumed by the acquirer, and early employees will be stuck with nothing in exactly the kind of company they were avoiding when they took a startup job.
Herein lies the problem for early stage companies trying to hire. The people they really need/want are probably capable of starting their own companies.
Kinda boils down to timing of the opportunity and how much risk is on the table before you sign up.
Employees generally come post-funding, get paid, etc. Co-founders work with free with no assurance of EVER getting paid, have to pony up when the company needs cash, etc.
In spirit, though-- I agree. If your risk level is the same as the founders, you should be a founder. If you can't handle or afford the risk but still love the idea of startups, try being an early employee.
Another way of working things out is figuring out what the probable return on the stake being given is, e.g. something like, say:
• Employee given 1%
• Two additional funding rounds at 30% dillution each bring that to 0.49%
• In a $30 million exit the employee will get $147,000
• Probability of an exit at $30m of 10% (somewhat generous, but let's assume that the company has already raised an angel round and that's being used as a filter)
• So the adjusted value, including probability of failure, of those options is just $14,700
You can adjust the math to fit the startup at hand, but it's generally a reasonable formula for evaluating the value of options vs. salary. In general if you want to join a startup as a first employee you should either push for a larger slice, a near-industry-standard salary or do it for the experience (say, if you're interested in starting a startup of your own down the line).
Something to further emphasize here: time to exit.
Many would-be startup employees seem to underestimate the length of the road from founding to funding to payout. Even if an exit happens (which, as we've established, is rare), it's likely going to happen a lot later than you'd think. And the exit itself is more likely to be a drawn-out process than an instantaneous event.
I hope I didn't just get screwed then..I've been given 1.5% equity as a first employee, with an option to get additional 1.5% over the next 9 months (0.5% every quarter). With a salary of 65,000. I'm the web programmer developing the product from the ground up. We haven't yet raised any VC money, it's self funded by the 2 co-founders, one of which is a doctor who is primarily the finance arm. Did I just seal my fate? I'm 22 and have not dealt with being part of a technology startup so I wasn't really sure what percent equity was fair. I believe my shares won't get diluted with investment rounds based on the paperwork that I signed though, they're preferred as opposed to common, if that makes any difference?
You forgot that the Series B round was raised at a bubble-driven $60m valuation. Investor preferences kick in at the $30m exit so the employee gets $52,500.
You can write an article claiming that anyone doing x is probably getting screwed, if you choose numbers that make it a bad deal. In my experience (which at this point is pretty extensive) the numbers he uses here are extreme outliers.
I'd expect a startup that was only able to raise money at $2m pre to be giving the first employee way more than 1%. How much more depends on how good he is (a factor that's not even considered in this article). Someone as good as the founders could reasonably expect 15%.
"What he should do if he actually wants to work on the startup: First, he needs to value his contribution to the company over the next 4 years appropriately and put a number on his "sweat equity". Let's say his market salary is $100,000 and he's being paid $50,000. Now add to his base salary: benefits (15% for health insurance, 401k matching), job-loss risk (25%, since typical severance offers are 1/4 tenure at current salary), career risk and opportunity cost (15%), and overage hours (30%, assuming a 50-55 hour work week). That's $185,000 per year. Take that, less the $50,000 he's making, and his sweat equity is $135,000 per year. Over 4 years, that's $540,000. The company's valuation is $2.5 million, "pre" to his contributions. He should be getting about 16% of the company, assuming he remains for 4 years. This number seems high, but if he's there after 4 years he will have been there almost as long as the founders, so it's about right."
It's been my experience that they get about 3% or 4% and if they are good they get more in subsequent bonuses. Usually totaling to around 5%. If they end up in an executive role they get about 7% to 10%. But maybe YC companies have different metrics than my local TO startup scene.
I received 4 subsequent bonuses in about 20 months before leaving a successful startup tripling my stake, but I was employee 20.
The comparison math forgot the impact of taxes. The employee's $50K "investment" is pretax money, whereas the investors are putting in after-tax dollars. The marginal combined state, federal, and payroll tax rate on that second $50,000 in earnings is probably over 40%, so maybe the actual take-home salary given up for the deal is $29,000. Plus the equity earned is taxed at much lower capital gains rates (15%).
Also don't forget that if the employee is not accredited, it's unlikely he could (legally) invest at all. So there's an opportunity that must be valued, as well.
Leaving aside that 1% is, in reality, too small a % for employee #1 of most startups, there are two factors that might make it worth it:
1. Route from employee #1 to v. senior position (with commensurately higher salary) is shorter* irrespective of whether the employee stays with the startup or moves on. (*Shorter than if the employee was working as a small cog elsewhere), and thus there is a fairly strong "jam tomorrow" argument that can be made.
2. Route from employee #1 to owning your own funded startup is again shorter. As employee #1, if you do a good job, then you'll be considered a de facto founder, and thus will have that to add to your pitch when it is your turn to try and raise $500k.
A third factor is that money is not everything. Working for a startup can be awesome, and might give you a whole range of professional and life experiences that you would not get when sucking down at your $100k pa teat.
Agreed. One of the biggest intangibles of being an early employee is the amount learned, which (I imagine) is better than the learning for an investor.
The path of early employee => founder is pretty well trodden. Aaron Patzer of Mint and Drew Houston of Dropbox are two immediate examples that come to mind. Who else am I missing?
The founders are playing a dangerous game in this story. If key engineers don't have much reason to stick around other than it being exciting, they are likely to leave as soon as they get bored or tired. And yes, you can get bored while working 80 hour weeks.
I was once in this exact position. I was the first employee and over the next few years a bunch of senior managers came in and each got 5-10x the stock I'd gotten.
When the whole thing got old, I looked around and saw that I didn't have much upside potential (especially since there had been dilution), my salary was below market, and I left.
What was incredible looking back is that something similar happened with a truly key engineer... someone who was recruited out of a university because he had more or less built the text mining library the company was using by himself. A product line rested on his shoulders, so he had a ton of responsibility, but when things got rough he didn't have enough reason to stick around.
Added: The point is, there are good times and bad times in startups. In the good times you should look around and decide who you really need to stick around in the bad times and give out stock accordingly.
Years of effort . . . startup bought . . . eventually wound up with 17 shares of Oracle.
I'm not bitter. It was a fun ride, I learned a lot, and after an initial pay cut (when I first joined, and funding was tight) I got paid a decent salary.
Some people are talking about the "expected value" of being an early employee, which is a very valuable view. I'd like to focus more on the best case to give a sense of what you can hope for if everything goes right.
I was fortunate enough to be an early engineer at LinkedIn after I graduated college. I was one of the first few engineers hired. I'm not an amazing company picker, and I barely knew what a startup was at the time -- I just got lucky because I knew one of the cofounders.
I received a decent option grant (especially for a kid just out of college!) and stayed at the company for two years. My options got diluted approximately 50% during the various funding rounds. Right now, LinkedIn is a top 20 website in the world, and there's a consensus that its current stock price is "very optimistic". My net worth on paper ends up being a couple of million. Needless to say, I'm thrilled. However, I also want to point out that there are only twenty "top 20 websites", and most of them aren't going to change anytime soon. So if you're one of the first few engineers at one of the 10-20 companies that's going to go from nothing to huge in the next 5-10 years, then you can view a few million -- perhaps 10-20 million -- as being the best that you can expect. And there are literally a few dozen, or maybe 100 people that will get this kind of success every decade. There is little skill involved here. It's all about getting lucky.
Furthermore, people forget that it takes time for value to build. It might take you 4 years to get most of your stock options and decide you want a more stable job or a change of scenery, but it might take another 10 years for your company to go public or get sold. You're giving up a big chunk of your 20s for the potential of a few million in your mid-late 30s -- but you could probably save close to that much anyway with good spending habits and better paying jobs.
So if you want to be an early employee at a start-up, it's an awesome experience. But you should do it because you love it, because you're passionate about the product, or because you cherish the learning opportunity. You shouldn't do it because you think it will make you a gazillionaire.
(just to be clear, I did love my time at LinkedIn -- I made some great friends, learned a ton, understood that startups are the kind of places that I like to work at, etc. I'm really happy I was there, and would be even if the company hadn't become a big success)
My first gig out of school was with a startup. First employee. They paid 20% below market wage and gave way less than 1% equity. I didnt know any better (young/naive). I got screwed, big time.
But comparing to the opportunity of somebody else is irrelevant. If the employee has 500k to invest, they're free to get the same terms as the investor. It's about scarcity: apparently the founders think that finding an investor with 500k is harder than finding the tech guy. Ergo, the investor gets paid more.
>It's about scarcity: apparently the founders think that finding an investor with 500k is harder than finding the tech guy
Sure, and this article looks like an attempt to educate the tech guy, thus making "tech guys who don't properly valuate their contribution" more scarce.
It'd be very interesting to look at real data from real companies and see how early employees made out. And naturally you'd want to include a wide spectrum of companies, both successful and unsuccessful. You could look at what rates people were actually paid, how much stock/options they got, how much it turned out to be worth and so on.
I'm not sure, but if you want to build a world class team you need to pay more than market rate + excellent team/work environment + more responsibility + more impact on world + give equity. There is no free lunch. Really.
Did Facebook become successfully because they went cheap with hiring VP of engineering early in their game? (answer not: they recruited the top)
Yes, you can get lucky and build a successful company by hiring people which are fresh from college for less than market and dream about being rich.
The point is the following: DONT HIRE BAD DEVELOPERS.
Unfortunately, good developers are good in math and they were around so they will not go with salary cut + questionable equity stake. Yes you can get lucky but there are so many other unknowns when you run a business and you should limit unknowns to the minimum.
Why not? The salary money is real, even if you discount for the fact that it is not available immediately. The employee could as well stay at their current job and actually invest half of their salary in whatever they please - including a startup which pays its employees half of market salary.
...and party A didn't encourage them to do so (or give them enough information to do so). That's the part I dislike about all the ads for early hires. 'Meaningful equity' is rarely put into context.
Without having a bias towards the investor community, I think this comparison is only done from a money standpoint. Its also important to note what other value investor money and involvement brings to the organisation.
Investors bring contacts from their immediate and extended network, sometimes a strong brand (think SV Angel/ YC), mentorship, experts in the given field, and media attention.
Just wanted to point out (read a bit) you get equity at big companies too? That's not a not negligible amount of cash. So the guy isn't just losing $50K in salary, but the equity that the other company (bigger company) would be giving him. Not sure what the equity grants at bigger companies end up being though.
Depends on if the startup got production material and deals. Letting people in more than a very small equity and salary is just plain stupid if you worked hard for a year to get anywhere. Hardest thing is not to compe up with an idea, hardest things are: start, execute, ship, and have models to get paid. When these are almost done, new founders are not needed - they should have joined earlier.
I've lately met people tryng to get onto the boat as if all we worked for was air. If I take someone more in for more than a good salary he/she better be a unshaped diamond.
Of course, the article mentions 50% of normal salary for 1% - that is just so stupid. The people who wants to signed up on that cannot be unshaped diamonds.
[+] [-] patio11|14 years ago|reply
Next door, there are another three guys, eating ramen, etc etc.
Now, it seems to me like the three guys behind Door #1 are very similar to the three guys behind Door #2. However, in one case they're all co-founders, and in one case they are two co-founders and a first employee. Those are very, very different statuses for the third guy. The third co-founder gets mentioned in press hits about the company. The third co-founder can call himself a co-founder, a status of value in an industry (and society) which is sometimes obsessed with status. The third co-founder cannot get excised from the cap table without that being mentioned as a subplot in the eventual movie.
The first employee will not usually get mentioned. The first employee gets no social status of particular esteem. The first employee will not have a seat at the table -- literally or figuratively -- when the eventual disposition of the first employee's equity is decided. The first employee's equity stake is approximately 1/6 to 1/40th (or less!) of what the third co-founder's was. Well, theoretically. 0.5% is 1/40th of 20% in engineering math, not in investor math, because investors can change the laws of mathematics retroactively. 0.5% of millions of dollars is sometimes nothing at all. (This is one of the least obvious and most important things I have learned from HN.)
If you're good enough to be a first employee, you're probably epsilon away from being good enough to be a third co-founder. There may be good reasons to prefer being an employee... but think darn hard before you make that decision.
[+] [-] gamble|14 years ago|reply
[+] [-] amirmc|14 years ago|reply
[+] [-] webwright|14 years ago|reply
Employees generally come post-funding, get paid, etc. Co-founders work with free with no assurance of EVER getting paid, have to pony up when the company needs cash, etc.
In spirit, though-- I agree. If your risk level is the same as the founders, you should be a founder. If you can't handle or afford the risk but still love the idea of startups, try being an early employee.
[+] [-] wheels|14 years ago|reply
• Employee given 1%
• Two additional funding rounds at 30% dillution each bring that to 0.49%
• In a $30 million exit the employee will get $147,000
• Probability of an exit at $30m of 10% (somewhat generous, but let's assume that the company has already raised an angel round and that's being used as a filter)
• So the adjusted value, including probability of failure, of those options is just $14,700
You can adjust the math to fit the startup at hand, but it's generally a reasonable formula for evaluating the value of options vs. salary. In general if you want to join a startup as a first employee you should either push for a larger slice, a near-industry-standard salary or do it for the experience (say, if you're interested in starting a startup of your own down the line).
[+] [-] jonnathanson|14 years ago|reply
Many would-be startup employees seem to underestimate the length of the road from founding to funding to payout. Even if an exit happens (which, as we've established, is rare), it's likely going to happen a lot later than you'd think. And the exit itself is more likely to be a drawn-out process than an instantaneous event.
[+] [-] fatalerrorx3|14 years ago|reply
[+] [-] Murkin|14 years ago|reply
Seed numbers should tell you what other (professional) investors consider to be a 'good deal'.
If you are willing to get in and worse conditions, you are either brilliant or..
[+] [-] notbitter|14 years ago|reply
[+] [-] pg|14 years ago|reply
I'd expect a startup that was only able to raise money at $2m pre to be giving the first employee way more than 1%. How much more depends on how good he is (a factor that's not even considered in this article). Someone as good as the founders could reasonably expect 15%.
[+] [-] amirmc|14 years ago|reply
What do you think of his reasoning? [edit: from 7th para at http://news.ycombinator.com/item?id=2949795]
"What he should do if he actually wants to work on the startup: First, he needs to value his contribution to the company over the next 4 years appropriately and put a number on his "sweat equity". Let's say his market salary is $100,000 and he's being paid $50,000. Now add to his base salary: benefits (15% for health insurance, 401k matching), job-loss risk (25%, since typical severance offers are 1/4 tenure at current salary), career risk and opportunity cost (15%), and overage hours (30%, assuming a 50-55 hour work week). That's $185,000 per year. Take that, less the $50,000 he's making, and his sweat equity is $135,000 per year. Over 4 years, that's $540,000. The company's valuation is $2.5 million, "pre" to his contributions. He should be getting about 16% of the company, assuming he remains for 4 years. This number seems high, but if he's there after 4 years he will have been there almost as long as the founders, so it's about right."
[+] [-] 3pt14159|14 years ago|reply
I received 4 subsequent bonuses in about 20 months before leaving a successful startup tripling my stake, but I was employee 20.
[+] [-] blader|14 years ago|reply
"Taking a pay cut that is more than the market value of your equity stake? You are probably getting screwed."
[+] [-] OstiaAntica|14 years ago|reply
[+] [-] pbreit|14 years ago|reply
[+] [-] craigmc|14 years ago|reply
1. Route from employee #1 to v. senior position (with commensurately higher salary) is shorter* irrespective of whether the employee stays with the startup or moves on. (*Shorter than if the employee was working as a small cog elsewhere), and thus there is a fairly strong "jam tomorrow" argument that can be made.
2. Route from employee #1 to owning your own funded startup is again shorter. As employee #1, if you do a good job, then you'll be considered a de facto founder, and thus will have that to add to your pitch when it is your turn to try and raise $500k.
A third factor is that money is not everything. Working for a startup can be awesome, and might give you a whole range of professional and life experiences that you would not get when sucking down at your $100k pa teat.
[+] [-] AlexeyMK|14 years ago|reply
The path of early employee => founder is pretty well trodden. Aaron Patzer of Mint and Drew Houston of Dropbox are two immediate examples that come to mind. Who else am I missing?
[+] [-] pgroves|14 years ago|reply
I was once in this exact position. I was the first employee and over the next few years a bunch of senior managers came in and each got 5-10x the stock I'd gotten.
When the whole thing got old, I looked around and saw that I didn't have much upside potential (especially since there had been dilution), my salary was below market, and I left.
What was incredible looking back is that something similar happened with a truly key engineer... someone who was recruited out of a university because he had more or less built the text mining library the company was using by himself. A product line rested on his shoulders, so he had a ton of responsibility, but when things got rough he didn't have enough reason to stick around.
Added: The point is, there are good times and bad times in startups. In the good times you should look around and decide who you really need to stick around in the bad times and give out stock accordingly.
[+] [-] kabdib|14 years ago|reply
Years of effort . . . startup bought . . . eventually wound up with 17 shares of Oracle.
I'm not bitter. It was a fun ride, I learned a lot, and after an initial pay cut (when I first joined, and funding was tight) I got paid a decent salary.
[+] [-] earlylinkedin|14 years ago|reply
I was fortunate enough to be an early engineer at LinkedIn after I graduated college. I was one of the first few engineers hired. I'm not an amazing company picker, and I barely knew what a startup was at the time -- I just got lucky because I knew one of the cofounders.
I received a decent option grant (especially for a kid just out of college!) and stayed at the company for two years. My options got diluted approximately 50% during the various funding rounds. Right now, LinkedIn is a top 20 website in the world, and there's a consensus that its current stock price is "very optimistic". My net worth on paper ends up being a couple of million. Needless to say, I'm thrilled. However, I also want to point out that there are only twenty "top 20 websites", and most of them aren't going to change anytime soon. So if you're one of the first few engineers at one of the 10-20 companies that's going to go from nothing to huge in the next 5-10 years, then you can view a few million -- perhaps 10-20 million -- as being the best that you can expect. And there are literally a few dozen, or maybe 100 people that will get this kind of success every decade. There is little skill involved here. It's all about getting lucky.
Furthermore, people forget that it takes time for value to build. It might take you 4 years to get most of your stock options and decide you want a more stable job or a change of scenery, but it might take another 10 years for your company to go public or get sold. You're giving up a big chunk of your 20s for the potential of a few million in your mid-late 30s -- but you could probably save close to that much anyway with good spending habits and better paying jobs.
So if you want to be an early employee at a start-up, it's an awesome experience. But you should do it because you love it, because you're passionate about the product, or because you cherish the learning opportunity. You shouldn't do it because you think it will make you a gazillionaire.
(just to be clear, I did love my time at LinkedIn -- I made some great friends, learned a ton, understood that startups are the kind of places that I like to work at, etc. I'm really happy I was there, and would be even if the company hadn't become a big success)
[+] [-] localhost3000|14 years ago|reply
[+] [-] roel_v|14 years ago|reply
[+] [-] jasonwocky|14 years ago|reply
Sure, and this article looks like an attempt to educate the tech guy, thus making "tech guys who don't properly valuate their contribution" more scarce.
[+] [-] gaius|14 years ago|reply
[+] [-] davidw|14 years ago|reply
[+] [-] cHalgan|14 years ago|reply
Did Facebook become successfully because they went cheap with hiring VP of engineering early in their game? (answer not: they recruited the top)
Yes, you can get lucky and build a successful company by hiring people which are fresh from college for less than market and dream about being rich.
The point is the following: DONT HIRE BAD DEVELOPERS.
Unfortunately, good developers are good in math and they were around so they will not go with salary cut + questionable equity stake. Yes you can get lucky but there are so many other unknowns when you run a business and you should limit unknowns to the minimum.
[+] [-] Joakal|14 years ago|reply
[+] [-] praptak|14 years ago|reply
[+] [-] par|14 years ago|reply
[+] [-] jacques_chester|14 years ago|reply
There's so many things in life where party A gets away with soaking party B because B didn't perform some simple arithmetic.
[+] [-] amirmc|14 years ago|reply
[+] [-] itg|14 years ago|reply
[+] [-] GBond|14 years ago|reply
[+] [-] davidw|14 years ago|reply
[+] [-] goldmab|14 years ago|reply
[+] [-] ayanb|14 years ago|reply
Investors bring contacts from their immediate and extended network, sometimes a strong brand (think SV Angel/ YC), mentorship, experts in the given field, and media attention.
[+] [-] gaius|14 years ago|reply
[+] [-] HaloZero|14 years ago|reply
[+] [-] grimen|14 years ago|reply
I've lately met people tryng to get onto the boat as if all we worked for was air. If I take someone more in for more than a good salary he/she better be a unshaped diamond.
Of course, the article mentions 50% of normal salary for 1% - that is just so stupid. The people who wants to signed up on that cannot be unshaped diamonds.