Many start-ups use equity to compensate key employees and to fund early stage activities. This approach is sensible given that, at least in the beginning, cash is in short supply and staff can be motivated by the prospect of shared ownership. However, the specific allocation of shares among founders and contributors – or the slicing of the ownership “pie” – can be a stressful process for entrepreneurs.
In his recent book, Slicing Pie: Funding Your Company Without Funds, Mike Moyer deconstructs the start-up equity allocation process and proposes an interesting strategy by which founders can fairly and respectfully dish out equity “pie” to remunerate workers with a stake in the business.
The premise of the book is that an otherwise viable start-up business can quickly self-destruct if the equity allocations are arbitrary, or worse, unfair. Start-ups are inherently risky ventures, and according to Moyer no one Grunt (he comically refers to the various founders, employees, consultants and contractors that build start-ups as “Grunts”) should bear the risk of failure or enjoy the fruits of success in a disproportionate way.
Moyer cites several examples of how improper “pie slicing” can frustrate organizational success and lead to Grunt strife. For instance, Moyer claims that slicing the equity pie too early (i.e. before a company even launches) is a classic error which can lead to intra-Grunt resentment, particularly when the subsequent contributions of the Grunts are at odds with the initial equity allocations. On the other hand, Moyer cautions that if equity division is inadvisably postponed until a start-up has real value (think liquidation event), Grunts may be inclined to exaggerate (and dispute) the value of their respective contributions in an effort to seize more “pie” on an exit.
To avoid these pitfalls and others, Slicing Pie sets out a process by which founders can objectively allocate equity among the Grunts while the value in the business is growing - so that each Grunt is proportionately compensated for his or her actual inputs in the business. The Slicing Pie method, an accounting system of sorts, would allocate a value to each type of input - be it cash, equipment, intellectual property or time – and the assigned value of each Grunt input is tracked in separate Grunt Funds. Theoretically, on any given day, the aggregate value of each Grunt’s inputs vis-à-vis the other Grunts represents his or her equity stake.
In Moyer’s scheme, “pie” represents not real equity but rather a promise to allocate a fair share of equity at a future point in time. Moyerargues that in the early days, when Grunts come and go and there is little actual value in the start-up, the Slicing Pie system efficiently tracks a fluid situation.
From a legal perspective, there is clear risk that a founder may not honour its obligations under the system, and that a Grunt may not be allocated the equity he or she is promised when the time comes. However, Moyer counters that true start-up participants are risk-takers and don’t need the security of a bi-weekly pay check or share certificate. Moreover, if all participants buy-in to the system, a culture of trust will be created and the company will benefit from stronger intra-organizational relationships.
Overall, the Slicing Pie concept is well thought out and can probably be implemented relatively easily by a start-up. The trick, of course, is that all of the employees, consultants, contractors, supplies, etc. (the Grunts) will need to engage in the process and have faith that, when the time comes, the system will work. For more information about Slicing Pie visit www.slicingpie.com.