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CEO Equity Entitlement - Early Stage

Nazareth Tankarian's Profile

A Venture Capital firm has verbally offered me the role of CEO for an investment it has made into a scientist's innovative industrial technology. The company has not been formed yet and patents are pending. I am being offered a salary and a 5% equity, I need some guidance on what the typical percentage equity entitlement should be for a CEO entering a concept at such an embryonic stage and what can the CEO do to protect his/her interest s moving forward. Any advice in this regard would be much appreciated. Thanks.

Answers

Topic Expert
Simon Westbrook
Title: CFO
Company: Aargo Inc.
( CFO, Aargo Inc.) |

I would suggest a range up to 10% for a hired CEO at this stage, assuming that the salary is competitive. Typically the board should review the equity position of key management and employees on an annual basis, and provide additional grants to offset the dilution created by financing rounds.

Topic Expert
Tom Pai
Title: CFO consultant
Company: Sunstone Group
(CFO consultant, Sunstone Group) |

A non-founding CEO of early stage company equity ranges from 5% - 10% typically. Salary and equity comprise the compensation package. There is a tradeoff between these. If you're looking for more equity, then you can counter with more equity and possibly be more flexible on cash comp.

Other concepts you may want to think about include vesting acceleration due to acquisition or other significant events, separation payment based on length of service, bonus tied to certain milestones. These are highly variable depending on situation, what you bring to the company, and so forth.

Sarah Jackson
Title: Associate Editor
Company: Proformative
(Associate Editor, Proformative) |

Especially with an eye to the future, you might want to take a look at this free white paper:

"Top Six Accounting Hazards in Equity Compensation"
https://www.proformative.com/whitepapers/top-six-accounting-hazards-equity-compensation

Best... Sarah

Topic Expert
Regis Quirin
Title: Director of Finance
Company: Gibney Anthony & Flaherty LLP
LinkedIn Profile
(Director of Finance, Gibney Anthony & Flaherty LLP) |

I agree with the 5% to 10% range stated above. But there are so many variables and ways to position the package as Tom pointed out. But all negotiations will reference your experience. Do you have previous CEO experience with proven success in this market, with an early stage company?

If the answer is yes, you can ask for a total compensation package with a higher equity component, i.e. day one equity of 7%. Over the next three years, based on your performance and the company performance, you should be awarded an additional 1% equity annually, to end-up at the 10% level.

However if the answer is no, you can ask for a total compensation package with a lower equity component, i.e. day one equity of 5%. Over the next five years, based on your performance and the company performance, you should be awarded an additional 1% equity annually, to end-up at the 10% level.

Any award will most likely be options. Whatever the outcome, expect that the final comp package will be a scale. Make sure that the awards are related to achievable, pre-established goals.

Good luck.

John Argo
Title: Consultant
Company: Independent Advisory Services
(Consultant, Independent Advisory Services) |

It depends a little on how much and the type risk is in different areas technical/development, execution (i.e., team) experience risk, market risk. Then it's a discussion about how your experience/ability matches the needs to manage the variety of risks in the company. It is also a discussion about the makeup of the existing and founding team, the gaps and how to fill them. Try to understand the deal structure and what drove that. They should be open with that because, as CEO, you will eventually know anyway and you have to live with it.

For example, if it was an A round (base case), consisting of $xM (sufficient to enter market to prove a market and address technical risk), with Founders retaining 50%, investors getting 35%, and 15% going into an option pool, you chunk would come out of the option pool and you need to make sure you, as CEO have enough to make the other key hires out of that, like CFO and others that will help you address the execution risk. 7.5% is half of the option pool.

If it's a seed deal (i.e., enough cash to build a prototype) with less cash and you're expected to make more founder-like cash comp sacrifices, you should get more founder-like equity comp.

You need to understand everyone's vesting schedule, too. Recognize that the option pool can get refreshed at different times, often with subsequent financing. So, the equity structure can get re-leveled later.

I prefer to see packages where the equity is large enough to cover what is expected over a multi-year plan, subject to vesting, rather than periodic (annual?) reassessment of what makes sense. Then ensure whoever is vesting is meeting their goals or deal with it.

Robert Price
Title: CFO/Board Advisor
Company: Not Disclosed
(CFO/Board Advisor, Not Disclosed) |

I think John has nailed this. One last item to consider is future dilution. At some point, the percentage ownership becomes less relevant than the overall value of the equity stake. Realistically, if this is a Seed or A round, then assume at least 20% - 30% dilution (B and C rounds, IPO) before reaching an exit event. So while 5% - 10% is the initial range for a CEO, most times this is heavily diluted down the road.

Jon Sortland
Title: CFO
Company: Verity Solutions Group, Inc.
(CFO, Verity Solutions Group, Inc.) |

In addition to dilution, it is also very important to understand the distinctions between the types of equity being offered and the features contained in each type of equity. Given that this is a VC deal, the chances are VERY high that the institutional investors are creating/buying preferred stock and that the founders shares and option pool will remain in common stock. Two critical features to understand: the liquidation preferences and the accrual of preferred dividends. These features alone can often make the future value of the common stock almost entirely worthless upon exit unless the company hits a grand slam home run. If you are not familiar with these concepts (and I've found that many CEOs are not when they have their first experience with VC-backed businesses), I would suggest finding a knowledgeable advisor to assist you in evaluating and negotiating your equity and non-equity compensation package.

O Thongsrinoon
Title: Digital Director
Company: Edge Asia
(Digital Director, Edge Asia) |

My situation:
- I have offer to join a post-seed stage start-up by one of the investors from their latest round (post-seed).
- C-level position, likely COO role at this point with possible growth into CEO in near future
- Base salary: ~70% discount off my market rate

What should be expected equity structure in this situation? Obviously risk and personal sacrifice level is pretty high at this point. Do keep in mind that I plan to raise again in 6 months time because the matrix achieved by the company is already very good and part of that raise will go into putting my salary into more reasonable level (50%) along with expansion.

Appreciate any input.

EMERSON GALFO
Title: CFO
Company: C-Suite Services
LinkedIn Profile
(CFO, C-Suite Services) |

O, the responses should apply to you as well. One caveat in your case is your ability to live off the 70% discounted base salary until (1) increase in salary down the road even at 50% market rate and (2) a liquidation even whether full or partial. You should be able to negotiate from there.

Topic Expert
Jaime Campbell
Title: Chief Financial Officer
Company: Tier One Services, LLC
(Chief Financial Officer, Tier One Services, LLC) |

Of you negotiate any part of your compensation to be milestone-related, be sure that the milestones will apply regardless of any pivots the business might make.

For example, if the current "embryonic" business model is high-volume, low-dollar value, someone might want to discuss setting a milestone related to the number of customers acquired, but that's not in your best interest. What if the business pivots and becomes a high-dollar, low-volume business instead? So imagine a flexible business and select milestones that will always apply, and always show the results of your performance.

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