David Cummings on Startups

Performance-Based Equity for Semi-Active Business Partners

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David Cummings

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Over the years I’ve talked with at least three different entrepreneurs that have given away a large chunk of equity to a semi-active business partner (non co-founder) only to have the involvement not meet expectations. Now, I’m talking about a role similar to an advisor where the person will help out but doesn’t invest any cash and doesn’t have a committed number of hours per week in the business. Whenever I hear this I ask why they didn’t make it a performance-based equity plan and, naturally, I get a blank stare. A performance-based equity plan is just what it sounds like: equity vests when certain goals are achieved (e.g. when you deliver X million in deals, you get Y percent of the business).

Here are a few thoughts on performance-based equity for semi-active business partners:

  • Never give away equity in a startup without expectations being clearly defined (this isn’t limited to semi-active business partners as it’s also applicable to advisors and consultants)
  • Always have a buy/sell agreement that defines what happens if someone leaves the business
  • Similar to a vesting schedule, provide a schedule for the performance-based equity such that once a milestone is met, more equity vests (e.g. achieve X and 1/3rd vests, achieve Y and the next 1/3rd vests, and achieve Z and the final 1/3rd vests)
  • Know that if the person doesn’t want the equity to vest based on performance, they aren’t likely to deliver (if they’re confident in the value they’ll add, they’ll agree to a plan)

My recommendation: make equity performance-based before bringing on a semi-active business partner. If the partner delivers the value, everyone will be happy. If the partner isn’t able to deliver the value, the startup retains the equity.

What else? What are some more thoughts on performance-based equity for semi-active business partners?

Comments

2 responses to “Performance-Based Equity for Semi-Active Business Partners”

  1. Alan Ho Avatar
    Alan Ho

    Yeah, I’m advising several companies and I think this makes a lot of sense – especially if it beyond just “advice”. My opinion is that advisors should have 2 chunks of equity. One is the traditional advisory equity that vests over 4 years with a 1 year cliff. The entrepreneur should the be able to get 2-4 hours of advice per month. If there is no natural cadence of conversation – the the entrepreneur doesn’t need the advice, and should be able to “let go” the advisor.

    The other batch should be performances based similar to what David suggested. This would be time bound, and probably not for 4 years. It essentially gives entrepreneurs the best of both worlds.

    Reply
  2. Nikhil Bhaskaran Avatar
    Nikhil Bhaskaran

    Very good advice .I am exactly at this phase of my startup where I have to plan equity for each of my co founders and contributors .
    Besides my vision plan is too grand and will shift tectonic plate in healthcare space empowering people with realtime advice by choosing specific suggestions (from a pool of best health practices) for an individual based on his personal data thus changing healthcare from cure focussed to prevention focussed.
    (I know everyone feels their Idea is going to change the world but I am totally on it and building the lean model very carefully to create best and thats how I read this as part of equity planning)

    Where I want to differ :
    A startup
    Plans-executes -gets feedback-pivots/Knots(ties a knot and moves on in same direction).
    Some of the Pivots/Knots will be eventually (when launched) known to be the most valuable ones and if these came because of an early advisor(feedback) or a contributor’s foresight then it saved the startup a lot of money and there should be a reward for those too based on the which stage and how valuable the keypoint was.

    This article is very logical and perfectly rewards based on hard work ,I think adding points to reward key insights at right time (can be known only in the end) will make it better .Advisor Insights though appear small effort is actually a compressed form of high punch energy delivered due to logical hard work in the past.

    Thanks for the article .Startups are going to rock because this is collective intelligence at work now changing the world. Keep this spirit going …

    Reply

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