Third Year MBA

I recently received an email from a friend that contained the following (somewhat paraphrased):

I'm looking for a job at a startup. I would like to work for an early-stage startup with ten or fewer people where I can learn a lot and feel like I'm an important part of the company. I want to do something entrepreneurial, but at this point, I would rather join an existing startup than create my own.

I thought about this a bit, and realized that there are a bunch of conflicting values here. Clearly, this guy is looking for something more exciting than a job at a large and faceless corporation. But he also isn't looking to take the full risk of starting his own company. This is fine - a lot of founders work for a startup before they go out on their own. Paul Graham says that working for a startup makes you 1/2^n of a founder, where n is the number of existing employees. However, not all startup opportunities are equal, and not all are right for each person. If you want to find the right fit, it's important to know what you are looking for, and to make sure that you find the right opportunity for your situation.

Quantifying Your Level of Risk Tolerance
Probably the most important thing is knowing how much risk you are willing to tolerate, and which opportunities cater to that risk level. My friend Jason Freedman has said that there are three essential things that people can bring to a startup, and probably the most important one is the ability to handle risk. With few exceptions, the most successful startup founders are the ones who ate Ramen and packed three people into a one-bedroom apartment. If you're looking for a job, you most likely aren't willing to do that (and it really isn't at all glamorous), but you should probably understand exactly what you are willing to live with.

For example, are you looking to reduce the financial risk (ie. Are you looking for something that will pay a livable salary from day 1)? Or are you looking to reduce the risk of building a team (by starting with well rounded team that may already have experience working together)? Or, perhaps you want to work for a small company that already has a stable revenue stream and is on the road to profitability? (Ask yourself whether you could you possibly handle working for a company that might go out of business at any point?)

Understanding What the Rewards Will Be
Once you have quantified your risk tolerance, you should understand what the probable rewards will be. A lot of people have the dream of joining a startup that pays a salary and gives them 10% equity. Most likely this isn't going to happen (unless you are already some sort of celebrity), but you should know what to expect. And remember that the company you are working for will most likely fail, and your equity will be worth somewhere between zero and your strike price (this may happen even if the company has an exit).

If you're employee number one, you could potentially expect 2-3%, and maybe 5% in some extraordinary situations (if you fill a gap that no one on the founding team can fill, or if having you on the team will drastically increase the probability of the company getting funding). If you come in after employee 5 or so (or after the company takes a significant funding round), I wouldn't expect to get more than 1%, and potentially a lot less (if they are particularly promising/have funding from a well-known investor).

If you consider that most exits that aren't entirely talent acquisitions seem to be in the $10-$30M range (and even those are relatively rare), a 1% share would give you $100-$300K, and this would require working for the acquiring company, which is probably a large corporation, for 2-3 years after the exit. Imagine going back to your corporate job but making 50-100% more salary, and then ask yourself whether you could live with that being one of the better possible outcomes. Everyone thinks about the Google or Facebook-sized exits, but those happen about once every five years or so. Even getting acquired by Google or Facebook (for a sizable sum) is a lot rarer than anyone expects. There are further things that reduce your chance of getting rich by working for a startup, but those are probably too complicated to discuss here.

On a more positive note, most companies that can't give you a huge chunk of equity will probably pay you something approaching market rates. So you get to work for a startup, and make almost as much as you would have at a large company.

My Recommendations
After having made some mistakes on this side, I don't see much benefit to being an employee of a pre-funding (or pre-profitability) startup. They are never as stable as they seem, and you will be taking a lot less equity than the founders for only marginally reduced risk. You will get either no salary or a barely-livable wage, and the company could go out of business at any point (making your few percent equity essentially worthless). If you can get 5% of a company that has taken a couple hundred thousand in a seed round, you might want to go for it, but in all likelihood, that probably won't happen. If you are comfortable working without livable pay for an indefinite period of time, found your own startup. Otherwise, my advice follows:

If you're primarily looking to learn a lot and to prepare for your own startup, I would target a startup with 15-30 employees who has taken a decent-sized round. They will pay you a salary that is close to what you could have gotten elsewhere, and you will still have the opportunity to feel like you are part of a small team that can have a big impact. Plus, money won't be super-tight, so they won't need a quick exit, and will be likely to be around for a while. The reward won't be as great as if you were the founder, but the expected value will be greater (since the company already has had some success), and you might actually learn more. They will already have some senior engineers on board, and there will be less focus on getting things done NOW, and more on getting them done correctly.

After a few years, hopefully this startup will be successful, the founders will retire, and you can move on to your own startup (possibly with some angel funding from people you meet along the way). Or, maybe they won't be successful, and you can avoid their mistakes when you go out on your own.

I'm not going to get into culture fit issues here, although that probably justifies a separate post.