A Fair Way To Divide Up Ownership Of Any New Social Enterprise

This post is based on the response of Joel Spolsky to a question on Answers.OnStartups.com. The conversation was basically addressing startups but many aspects of it are very relevant for social enterprises, too.

My experience is that many social enterprises, especially those that are coming from the NGO sector with members having a background in social sciences tend to avoid the question of ownership at beginning of the work. There is an enthusiasm in the air, everybody is supernice, we hold each others hand and make this planet to be a better place together.

And just as at startups, almost everything that can go wrong will go wrong, ending up in angry, shouting matches between the founders as to who worked harder, who owns more, whose idea was it anyway, etc..

Even if your social enterprise has a legal form of a non-profit organization, for your entrepreneurial activities better to apply the startup ownership model making sure that the situation is crystal clear for everyone from day one.

I completely agree with Joel Spolsky that the most important principle is:

"Fairness, and the perception of fairness, is much more valuable than owning a large stake."

The model Joel is suggesting helps you to build up an enterprise based on co-ownership which is in itself a very impactful model of entrepreneurship fitting the idea of social enterprises.

He suggest to add people in "layers":

  • I would always rather split a new company 50-50 with a friend than insist on owning 60% because "it was my idea," or because "I was more experienced" or anything else. Why? Because if I split the company 60-40, the company is going to fail when we argue ourselves to death. And if you just say, "to heck with it, we can NEVER figure out what the correct split is, so let's just be pals and go 50-50," you'll stay friends and the company will survive.

  • The top layer is the first founder or founders. There may be 1, 2, 3, or more of you, but you all start working about the same time, and you all take the same risk... you are maybe quitting your jobs to go work for a new and unproven company.

  • The second layer is the first real employees. By the time you hire this layer, you've got cash coming in from somewhere (investors or customers--doesn't matter). These people didn't take as much risk because they got a salary from day one, and honestly, they didn't start the company, they joined it as a job.

  • The third layer are later employees. By the time they joined the company, it was going pretty well.

A social enterprise is usually rather small, you may end up having 3 layers. There might be two founders, five early employees in layer 2, 25 employees in layer 3.

The founders should end up with about 50% of the company, total. Each of the next layers should end up with about 10% of the company, split equally among everyone in the layer.

The basic idea is that you set up "stripes" of seniority, where the top stripe took the most risk and the bottom stripe took the least, and each "stripe" shares an equal number of shares, which magically gives employees more shares for joining early.

It is very nice to talk about all of this but it seems to pointless at the beginning when we have only plans and dreams and actually our bank account is at 0.

Here is the next principle coming:

You must have vesting. Preferably 4 or 5 years.

Nobody earns their shares until they've stayed with the company for a year. A good vesting schedule is 25% in the first year, 2% each additional month. Otherwise your co-founder is going to quit after three weeks and show up, 7 years later, claiming he owns 25% of the company. It never makes sense to give anyone equity without vesting.

This is an extremely common mistake and it's terrible when it happens.

You have these companies where 3 co-founders have been working day and night for five years, and then you discover there's some jerk that quit after two weeks and he still thinks he owns 25% of the company for his two weeks of work. All the nice ideas and dream and the feeling of we are holding each others hand is gone, and instead of making this planet a better place an ugly conflict remains.

Following this principle can help you to keep your people being motivated but you only give shares based on real performance.

Please note that shares (co-ownership) and salaries are two different things. Do not solve your salary problems with shares.

If you can't pay an employee as you are short of funds, in social entrepreneurship we do not recommend expecting voluntary work and also we do not recommend you give away shares. You can't jump from being an enterprise one day and a charity organization on the other. Instead, if someone goes without salary, give them an IOU (I OWE YOU a written promise to pay back money owed).

One more point of Joel Spolsky that I find very important not only for startups but for social entrepreneurs, too.

People tend to believe that if they have an idea, it has a value in itself. No. Ideas are pretty much worthless!

"Working on the company is what causes value, not thinking up some crazy invention in the shower."

I 100% agree with this statement. The only thing that matters is work, the micromanagement of the tiny details as value will be created only by action. Everything else is a fantasy.

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