8.2 Benefit from Failure

We always talk about highly visible and publicized success stories. Most of the failures in entrepreneurship are not discussed publicly.

Failed entrepreneurs may become “Serial entrepreneurs” with starting a new enterprise or come with correction or improvement in the same business.

We fear failure though failure has some benefits in your entrepreneurial journey.

• Failure teaches us how to avoid mistakes 

• Failure makes you more credible 

• Failure cultivates your support system 

• Failure keeps you humble 

• Failure helps you focus on the goal 

• Failure is a valuable step toward success

Equity Distribution in Startups

Equity: “The value of the shares issued by a company”, “one’s degree of ownership in any assets after all debts associated with that asset are paid off.”

In new startups equity allocation could be complex and difficult.

Incorrect allocation of equity may backfire or lead to entrepreneurial failure.

Effective and efficient equity distribution is important for any startups or existing business.

Two ways to equity allocation

• Equity distribution within the core team

• Investor equity allocation

Equity distribution within the core team

If you have a founding team in your company the allocation of equity among the team members is important. According to the founders’ DilemmaBy Noam Wassermann, “65%of startups fail due to co-founder fallout”

You can determine how to split equity considering the following factors:

Risk: Who is facing more risk in the company?

Level of commitment: who has more responsibilities and roles?

Innovation: who generated the idea for the business?

Equal allocation of shares is not taken as a better idea of splitting. Resources such as money investment, time investment, technology, or contacts. The most important factors include the amount of money invested by each person

The degree of time investment(full-time or part-time), which technologies (especially core technologies)that can help the company develop,

Human connections (such as business development, marketing, public relations, technical personnel, etc.) resources. The CEO of a company, it’s usually the team organizer and the initiator of the idea. Ideally, the CEO also contributes a lot to the combination of resources such as money investment, time investment, and technology. So the CEO owns more equity or shares of the company.

If the CEO only initiates the idea and organizes the team, then he invests less effort and resources than other core members own more equity. In addition, it is not recommended that other co-founders have too low shares in a company. 

Vested shares

Some members of the entrepreneurial team may leave or new people may join.

If all the shares allocated in the beginning it will be problematic because those who leave still hold a lot of shares and those who come late to join the company won't get many shares.

So start-up companies usually have vested shares design.

entrepreneurial team members receive a certain proportion of shares year by year. You have to wait a few years to receive a full share. If someone wants to leave, the future shares will not belong to him, it can be allocated to new people.

Investor equity allocation

Those who invest in your company-angel investors, venture capitalist, or other partners, they need to get equity or shares of your company as a financial return.

The equity allocation to investors depends on the valuation of your company when they invest, and the size of their investment.

If you seek $1 million and offer 20% of your company equity in return, an investment of $500000 would be 10% of the stake.

Investors may attempt to negotiate a lower price or higher equity.

If an external investor has enough shares than the founder team they can take control of decision-making

Transfer Ratio per round

Startups need more than one round of financing, it must leave room for future investors. 

If you allocate more equity in the beginning it is difficult for new investors to join you in the future.

Then how do you make the ratio better?

Generally, seed round 10~25%

Series A round 25%-50%

Series B Round about 33%.

There can be more rounds of investments according to your business nature and size. The crucial point is you should design equity in your company that can welcome future investors.

Use of Convertible bonds

Convertible bonds are corporate bonds that can be exchanged for common stock in the issuing company.

This allows the company to survive initially and who has bonds can exchange in the future with stocks.

This method is very popular abroad especially in the USA and Europe.

Companies issue convertible bonds to lower the coupon rate on debt and to delay dilution.

Bond conversion ratio determines how many shares an investor will get for it.

Companies can force conversion of the bonds the stock price is higher than if the bond were to be redeemed.

Control and Equity

Equity may not be directly equivalent to control in a company.

It protects investors’ capital and it also guarantees the core team's operational control rights in the company (i.e. the voting rights of the board of directors),

These contractual arrangements require consultations with relevant lawyers to better protect the interests of both investors and entrepreneurs.