The First Deal: The Division of Founder Equity in New Ventures

51 Pages Posted: 11 Apr 2011 Last revised: 29 Oct 2014

See all articles by Thomas F. Hellmann

Thomas F. Hellmann

University of Oxford - Said Business School; University of Oxford - Said Business School

Noam Wasserman

University of Southern California - Lloyd Greif Center for Entrepreneurial Studies

Date Written: April 2011

Abstract

This paper examines the division of founder shares in entrepreneurial ventures, focusing on the decision of whether or not to divide the shares equally among all founders. To motivate the empirical analysis we develop a simple theory of costly bargaining, where founders trade off the simplicity of accepting an equal split, with the costs of negotiating a differentiated allocation of founder equity. We test the predictions of the theory on a proprietary dataset comprised of 1,476 founders in 511 entrepreneurial ventures. The empirical analysis consists of three main steps. First we consider determinants of equal splitting. We identify three founder characteristics -idea generation, prior entrepreneurial experience and founder capital contributions - regarding which greater team heterogeneity reduces the likelihood of equal splitting. Second, we show that these same founder characteristics also significantly affect the share premium in teams that split the equity unequally. Third, we show that equal splitting is associated with lower pre-money valuations in first financing rounds. Further econometric tests suggest that, as predicted by the theory, this effect is driven by unobservable heterogeneity, and it is more pronounced in teams that make quick decisions about founder share allocations. In addition we perform some counterfactual calculations that estimate the amount of money 'left on the table' by stronger founders who agree to an equal split. We estimate that the value at stake is approximately 10% of the firm equity, 25% of the average founder stake, or $450K in net present value.

Suggested Citation

Hellmann, Thomas F. and Wasserman, Noam, The First Deal: The Division of Founder Equity in New Ventures (April 2011). NBER Working Paper No. w16922. Available at SSRN: https://ssrn.com/abstract=1805427

Thomas F. Hellmann (Contact Author)

University of Oxford - Said Business School ( email )

Park End Street
Oxford, OX1 1HP
Great Britain
+44 (0)1865 288937 (Phone)

HOME PAGE: http://www.sbs.ox.ac.uk/community/people/thomas-hellmann

University of Oxford - Said Business School ( email )

Park End Street
Oxford, OX1 1HP
Great Britain
+44 (0)1865 288937 (Phone)

HOME PAGE: http://www.sbs.ox.ac.uk/community/people/thomas-hellmann

Noam Wasserman

University of Southern California - Lloyd Greif Center for Entrepreneurial Studies ( email )

United States

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