How do I determine ownership split on a franchise model?
"There is no one solution to every project finance problem. Two models might make sense in this situation, however. In this case, you would count all the money that you give to your friend as a loan which he will pay back with interest. The interest rate and loan amounts will have to be agreed on by both of you. One one hand, the interest should be high enough to reward you in a successful outcome for the amount of risk that you take on if things don't work out. On the other, the interest rate needs to be low enough where his earnings after loan repayment justify your friend's effort, in addition to being competitive to ant rate your friend could secure from a bank. The downside to this plan is you don't directly benefit from the franchise's profits. In this model, you will record the cash that each of you invests. Since your friend is also adding ""sweat equity"" by setting up and operating the franchise, you will need to quantify the work that your friend and you invest into the franchise. Then you can determine how much each of you has invested in terms of dollars and split any franchise profits based on those proportions. The downside of this plan is that it is difficult to estimate how much time each of you invests and how much that time is worth." There is no right and wrong answer to this question. What you and your business partner perceive as Fair is the best way to split the ownership of the new venture.  First, regarding the two issues you have raised: Capital Contributions: The fact that you are contributing 90% of initial capital does not necessarily translate to 90% of equity. In my opinion, what is fair is that you transform your contributions into a loan for the company. The securitization of your contribution into a loan will make it easier to calculate your fair contribution and also compensate you for your risk by choosing whatever combination of interest income and equity you see suitable. For example, you might decide to split the company in half and consider your contributions a loan with 20%, 50% or 200%  annual interest.  Salary: It is common that co-founders of start-ups forgo their wages at the start of the company. I do not recommend that this forgone salary be compensated through equity because it is impossible to determine the suitable amount of equity to be paid. I suggest the translation of forgone wages into loans or preferred stocks in similar fashion to capital contribution Also, consider the following in deciding the best way to allocate equity between both of you and your partner Whose idea was it? Talk with you business partner how both of you value the inventor of the concept. In general, execution is more important but talking about how you both feel about it is good. Full-time vs. part-time: A person who works full time at the new venture should have more equity than the partner who is only a part-time helper. Control: It is important to talk about control and decision making of the company. You can separate the control and decision making of important decisions from ownership. You can also check the following article about this topic at http://www.forbes.com/sites/dailymuse/2012/04/05/what-every-founder-needs-to-know-about-equity/#726842f3668a
"In your words, you want to ""easily determine whether an item was purchased as part of our individual accounts, or our combined family account."" It's not clear exactly to me what kind of reporting you're trying to get. (I find a useful approach here to be to start with the output you're trying to get from a system, and then see how that maps to the input you want to give the system.) Here's some possibilities:" A parent company may own 70% of a subsidiary, and the remaining 30% is owned by someone else. Now the parent company has a controlling stake, so it can use the subsidiary's assets as it wishes, so the parent company can report 100% of the subsidiary's assets on the parent's balance sheet. Now here lies the problem, how can they report 100% of the assets when it only owns 70% of the subsidiary? That correction is the minority interest. "This is such a common question here and elsewhere that I will attempt   to write the world's most canonical answer to this question. Hopefully   in the future when someone on answers.onstartups asks how to split up   the ownership of their new company, you can simply point to this   answer. The most important principle: Fairness, and the perception of   fairness, is much more valuable than owning a large stake. Almost   everything that can go wrong in a startup will go wrong, and one of   the biggest things that can go wrong is huge, angry, shouting matches   between the founders as to who worked harder, who owns more, whose   idea was it anyway, etc. That is why 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. Thus, I present you with Joel's Totally Fair Method to Divide Up The   Ownership of Any Startup. For simplicity sake, I'm going to start by assuming that you are not   going to raise venture capital and you are not going to have outside   investors. Later, I'll explain how to deal with venture capital, but   for now assume no investors. Also for simplicity sake, let's temporarily assume that the founders   all quit their jobs and start working on the new company full time at   the same time. Later, I'll explain how to deal with founders who do   not start at the same time. Here's the principle. As your company grows, you tend to add people in   ""layers"". 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... 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. For many companies, each ""layer"" will be approximately one year long.   By the time your company is big enough to sell to Google or go public   or whatever, you probably have about 6 layers: the founders and   roughly five layers of employees. Each successive layer is larger.   There might be two founders, five early employees in layer 2, 25   employees in layer 3, and 200 employees in layer 4. The later layers   took less risk. OK, now here's how you use that information: The founders should end up with about 50% of the company, total. Each of the next five layers should end up with about 10% of the   company, split equally among everyone in the layer. Example: Two founders start the company. They each take 2500 shares. There are   5000 shares outstanding, so each founder owns half. They hire four employees in year one. These four employees each take   250 shares. There are 6000 shares outstanding. They hire another 20 employees in year two. Each one takes 50 shares.   They get fewer shares because they took less risk, and they get 50   shares because we're giving each layer 1000 shares to divide up. By the time the company has six layers, you have given out 10,000   shares. Each founder ends up owning 25%. Each employee layer owns 10%   collectively. The earliest employees who took the most risk own the   most shares. Make sense? You don't have to follow this exact formula but 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. A slightly different way to use the stripes is for seniority. Your top   stripe is the founders, below that you reserve a whole stripe for the   fancy CEO that you recruited who insisted on owning 10%, the stripe   below that is for the early employees and also the top managers, etc.   However you organize the stripes, it should be simple and clear and   easy to understand and not prone to arguments. Now that we have a fair system set out, there is one important   principle. 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 cofounders 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. Now, let me clear up some little things that often complicate the   picture. What happens if you raise an investment? The investment can come from anywhere... an angel, a VC, or someone's dad. Basically, the   answer is simple: the investment just dilutes everyone. Using the example from above... we're two founders, we gave ourselves   2500 shares each, so we each own 50%, and now we go to a VC and he   offers to give us a million dollars in exchange for 1/3rd of the   company. 1/3rd of the company is 2500 shares. So you make another 2500 shares   and give them to the VC. He owns 1/3rd and you each own 1/3rd. That's   all there is to it. What happens if not all the early employees need to take a salary? A lot of times you have one founder who has a little bit of money   saved up, so she decides to go without a salary for a while, while the   other founder, who needs the money, takes a salary. It is tempting   just to give the founder who went without pay more shares to make up   for it. The trouble is that you can never figure out the right amount   of shares to give. This is just going to cause conflicts. Don't   resolve these problems with shares. Instead, just keep a ledger of how   much you paid each of the founders, and if someone goes without   salary, give them an IOU. Later, when you have money, you'll pay them   back in cash. In a few years when the money comes rolling in, or even   after the first VC investment, you can pay back each founder so that   each founder has taken exactly the same amount of salary from the   company. Shouldn't I get more equity because it was my idea? No. Ideas are pretty much worthless. It is not worth the arguments it would cause to   pay someone in equity for an idea. If one of you had the idea but you   both quit your jobs and started working at the same time, you should   both get the same amount of equity. Working on the company is what   causes value, not thinking up some crazy invention in the shower. What if one of the founders doesn't work full time on the company? Then they're not a founder. In my book nobody who is not working full   time counts as a founder. Anyone who holds on to their day job gets a   salary or IOUs, but not equity. If they hang onto that day job until   the VC puts in funding and then comes to work for the company full   time, they didn't take nearly as much risk and they deserve to receive   equity along with the first layer of employees. What if someone contributes equipment or other valuable goods (patents, domain names, etc) to the company? Great. Pay for that in   cash or IOUs, not shares. Figure out the right price for that computer   they brought with them, or their clever word-processing patent, and   give them an IOU to be paid off when you're doing well. Trying to buy   things with equity at this early stage just creates inequality,   arguments, and unfairness. How much should the investors own vs. the founders and employees? That depends on market conditions. Realistically, if the investors end   up owning more than 50%, the founders are going to feel like   sharecroppers and lose motivation, so good investors don't get greedy   that way. If the company can bootstrap without investors, the founders   and employees might end up owning 100% of the company. Interestingly   enough, the pressure is pretty strong to keep things balanced between   investors and founders/employees; an old rule of thumb was that at IPO   time (when you had hired all the employees and raised as much money as   you were going to raise) the investors would have 50% and the   founders/employees would have 50%, but with hot Internet companies in   2011, investors may end up owning a lot less than 50%. Conclusion There is no one-size-fits-all solution to this problem, but anything   you can do to make it simple, transparent, straightforward, and,   above-all, fair, will make your company much more likely to be   successful. The above awesome answer came from the Stack Exchange beta site for startups, which has now closed. I expect that this equity distribution question (which is strongly tied to personal finance) will come up more times in the future so I have copied the content originally posted.  All credit for this excellent answer is due to Joel Spolsky, a moderator for the Startups SE beta site, and co-founder of Stack Exchange." "Equity does not represent production divisions in a company (i.e. chocolate, strawberry, and vanilla does not make sense).  In Sole proprietorship, equity represents 1 owner.  In Partnership, equity has at least two sub-accounts, namely Partner 1 and Partner 2.  In Corporations, equity may have Common Stockholders and Preferred Stockholders, or even different class of shares for insiders and angel investors.  As you can see, equity represents who owns the company. It is not what the company does or manufactures.  First and foremost, define the boundary of the firm. Are your books titled ""The books of the family of Doe"", ""The books of Mr & Mrs Doe"", or ""The books of Mr & Mrs Doe & Sons"".  Ask yourself, who ""owns"" this family. If you believe that a marriage is perpetual until further notice then it does not make any sense to constantly calculate which parent owns the family more. In partnership, firm profits are attributed to partner's accounts using previously agreed ratio. For example, (60%/40% because Partner 1 is more hard working and valuable to the firm.  Does your child own this family? Does he/she have any rights to use the assets, to earn income from the assets, to transfer the assets to others, or to enforce private property rights? If they don't have a part of these rights, they are certainly NOT part of Equity.  So what happens to the expenses of children if you follow the ""partnership"" model? There are two ways. The first way is to attribute the Loss to the parents/family since you do not expect the children to repay. It is an unrecoverable loss written off. The second way is to create a Debtor(Asset) account to aggregate all child expense, then create a separate book called ""The books Children 1"", and classify the expense in that separate book.  I advise using ""The family of Doe"" as the firm's boundary, and having 1 Equity account to simplify everything. It is ultimately up to you to decide the boundaries." "Thanks for your reply. I think a lot of people are confused when talking about ownership, and I think it is a definitional issue.   When a company issues stock (the first time or anytime), what they are doing is ""selling"" the right to a percentage of the dividend. They are not actually selling parts of the company to you. Everyone thinks this way though, and that has to do with the Chicago School economists who perpetuated their ideas of ownership which is what everyone know thinks is the case. This way of thinking about corporations and ownership is just wrong (not ethically), just erroneous.   As I stated before, Lynn Stout of Cornell University explains this really well. I would encourage anyone to read more about it." "For a personal finance forum, this is too complicated for sustained use and you should find a simpler solution. For a mathematical exercise, you are missing information required to do the split fairly.  You have to know who overlaps and when to know how to do the splits.   For an extreme example, take your dates given: Considering 100 days of calculation period,  If Roommate D was the only person present for the last 10 days, they should pay 100% of the grocery bill as they are the only one eating.   From your initial data set, you can't know who should be splitting the tab for any given day. To do this mathematically, you'd need:  But don't forget ""In Theory, Theory works.  In Practice, Practice works."" Good theory would say make a large, complicated spreadsheet as described above.   Good practice would be to split up the costs in a much, much simpler way." They're not going to look very hard at the asset value (except for actual cash in the bank), which doesn't bear much relationship to the real value of the company. More likely they will look at the last three years' earnings and choose a target P/E ratio based on that. The owner's share depends entirely on how much of the business they choose to sell. If the business is worth $60M and they want to raise $20M for themselves, then that means selling 33% of the company. If they want to raise $20M for the business as well, then that means selling half the company and retaining ownership of the other half, which is now worth $80M because of the cash infusion. But many stock exchanges will have minimum requirements for the percentage of the shares that are trading freely, so they will have to sell at least that much. Ok well in that case here are my thoughts.  Its been a while since I've done this type of school work so hope it's right/helpful.  AR Oustanding = Avg AR / (credit sales/Operating Cycle*) = 35   *I'm guessing they didn't give you sales for the year or else I would divide by 365 but since you mentioned operating cycle I'm assuming thats the sales number you were given.  So you want to divide the sales by 50 and then times it by the 35.  Should give you the average AR.  Inventory - I really don't remember having to calculate this so I'm just thinking logically here.  You should be able to take COGS divide by the days in the period then times it by In Invetory.  So = (COGS/Operating Cycle)* In Inventory = (COGS/50)*15  Accounts Payable....man, I'm afraid to drive you in the wrong direction on this one.  Avg Accounts Payable/(COGS/Operating Cycle) = 40  Plug in COGS, divide by the operating cycle, 50 then times by 40, the days vendor credit. Great read. Good points. My only complaint is that our North American union model could learn much from the German model where the union plays an important role IN the company. There are corrupt unions like anything else, which ruin it for the grassroots unions that operate as intended. I really don't think it's too much to ask for CEOs and companies to operate more like, for example, Costco; where the CEO sees his employees as his most important asset, and as such pays top wages in the industry, and provides benefits for families of employees. Somehow they still seem to reap a positive return for investors, while spreading the wealth by providing a living wage for their employees.   Thanks for your well thought out, we'll organized reply! Cheers. Ok maybe I should have went into further detail but I'm not interested in a single point estimate to compare the different options.  I want to look at the comparable NPVs for the two different options for a range of exit points (sell property / exit lease and sell equity shares). I want to graph the present values of each (y-axis being the PVs and x-axis being the exit date) and look at the 'cross-over' point where one option becomes better than the other (i'm taking into account all of the up front costs of the real estate purchase which will be a bit different in the first years).  i'm also looking to do the same for multiple real estate and equity scenarios, in all likelihood generate a distribution of cross-over points.  this is all theoretical, i'm not really going to take the results to heart. merely an exercise and i'm tangling with the discount rates at the moment. The 1 for 1 split could be the case where a company is being split into two parts. The new part may be spun off, or sold to another company. Any time a company splits into two parts, the ratio of the resulting companies needs to be determined. For each class A share (GOOGL) there's a class C share (GOOG), hence the missing half in your calculation. The almost comes from the slightly higher market price of the class A shares (due to them having voting powers) over class C (which have no voting powers). There's also class B share which is owned by the founders (Larry, Sergei, Eric and perhaps some to Stanford University and others) and differs from class A by the voting power. These are not publicly traded. Yep, but it you didn't answer my question (edit: I know it was phrased as a question, but I do know youre supposed to model changes in cash). When bankers calculate all three approaches, how do they compare them? From what I see, the conclusion of each approach gives us:  * Public Company Approach: Enterprise Value * Transaction Approach: Enterprise Value * Discounted Cash Flow Approach: Enterprise Value + Minimum Level of Operating Cash  Does an investment banker subtract out that minimum level of operating cash at the end of the calculation to get to a value that he can then compare? Another way to decide would be to do a fair valuation of the company agreeable to both the partners. Lets assume when you started the company it was worth $10,000 and to acquire 75%, you must have put $7,500 worth of money and effort. Similarly, the other partner must have put $2,500 worth of time and money. Now say after 2 years, you both agree that company is worth $50,000. And say now the company needs $10,000 worth of investment. Whoever invests that money should get 20% (10k/50k) of the company. Or each $1,000 will buy 2% in the company. Post this investment the equity division would be  First investor (you) 75% of 80% = 60 % Second investor (your partner) 25% of 80% = 20% Third (new) investor = 20% Now, if you alone decide to put all the money you stake will be 60 + 20 = 80% and your partner will be reduced to 20%. If you guys want to maintain equity as it was (75-25), you need to put money in the same ratio ($7500 and $2500). If you do that- First investor 60% + 15% (for $7,500) = 75% Second investor 20% + 5% (for $2,500) = 25%. Please know for IP-centric company valuation is very subjective. But, do make an effort to do the valuation at every stage of the company so that you can put a number in terms of equity for each investment. To me this sounds like a transaction, where E already owns a company worth 400k and can therefore pocket the money from D and give D 25% of the profits every year. There is nothing objective (like a piece of paper) that states the company is worth 400K. It is all about perceived value. Some investors may think it is worth something because of some knowledge they may have. Heck, the company could be worth nothing but the investor could have some sentimental value associated to it. So is it actually the case that E's company is worth 400k only AFTER the transaction? It is worth what someone pays for it when they pay for it. I repeat- the 400K valuation is subjective. In return the investor is getting 25% ownership of the product or company. The idea is that when someone has ownership, they have a vested interest in it being successful. In that case, the investor will do whatever he/she can to improve the chances of success (in addition to supplying the 100K capital). For instance, the investor will leverage their network or perhaps put more money into it in the future. Is the 100k added to the balance sheet as cash? Perhaps. It is an asset that may later be used to fund inventory (for instance). ... and would the other 300k be listed as an IP asset? No. See what I said about the valuation just being perception. Note that the above analysis doesn't apply to all Dragons Den deals. It only applies to situations where capital is exchanged for ownership in the form of equity.