Startup Compensation Guide: Everything You Should Know
Compensation policy is a critical challenge for companies at every level but is especially high-stakes for startups just beginning to take shape. The key is finding the perfect combination of attractive cash compensation levels for employees and reasonable cash compensation levels that won’t threaten the stability of the business (or put off investors).
As a tech angel investor, I’ve seen startup compensation done all the wrong ways, but I’ve also seen startups get it right. It requires a general understanding of how to gauge your business’ success and calculate an appropriate cash compensation package while using other forms of compensation outside of salary to sweeten the pot.
This startup compensation guide covers setting cash compensation, other benefits to consider adding, and determining the right level of equity for employees.
What Is Startup Compensation and Why Do You Need One?
Startup compensation refers to the compensation packages a startup offers its employees. This comes together in a compensation plan, which consists of each compensatory element, often including salaries, benefits, equity, discounts, raise schedules, and more.
The goal is to create a compensation plan that reflects and supports your strategic business plans, budgeting goals, operating needs, and talent retention. As the business changes, so should your compensation plan. It’s a dynamic, evolving strategy.
Without a strong compensation plan, a startup will struggle with relevancy in its industry and might flounder amongst more competitive offers. Top talent will be hard to come by and even harder to keep as other companies find attractive ways to step up their compensation packages.
On the other hand, it also allows for consistent budgeting, which is paramount in the early startup stages when every dollar is precious. Investors like me want to see the rationale behind what and how you’re compensating your employees so we can trust that you’re allocating the funding in productive, thoughtful ways.
What Salary Should an Employee Get at a Startup?
The salary an employee “should” get at a startup is entirely subjective. Instead, what you can do is research average salaries for different kinds of startup employees and then analyze what’s strategic for your business by considering factors like your current stage, cash flow, and employee ROI to strike the delicate balance between an economically sound, yet still appealing, offer.
For example, using data from Payscale, a compensation software company, you can see that the average startup employee makes roughly $100k annually with a range from $54k to $180k. Further, some roles have more earning potential than others. Software engineers and product managers typically earn more, around the $100-120k range, as compared to UX designers and sales directors, who see compensation ranges closer to $80-90k.
While there’s no copy-and-paste process to use to determine your startup’s compensation plan, evaluating certain aspects of your situation will help you arrive at a reasonable number.
- Company Stage: Early-stage companies usually need high-skilled, full-time employees.
- Cash Flow: You should never be paying out more than you’re bringing in, but you can make a compensation package more attractive with equity or other benefits.
- Employee Role and ROI: Key positions require a higher salary, while other positions can be filled by contract workers or interns. Consider the ROI each employee will contribute – higher ROI employees are worth more (and worth keeping).
- Balancing the Package: Full-time employee compensation packages should include salary, equity, and benefits, not just a fixed salary sum.
- Work Culture: Thanks to the Great Resignation sweeping the nation, salary alone isn’t everything (but still matters). Employees today are looking for positive work culture, support, collaboration, flexibility, and a company that not only talks the talk about their values but also walks the walk.
What Should A Startup CEO’s Salary Be?
Startups range from two people working on a passion project in a garage to massive business operations, so CEO salaries have the potential to vary wildly. Startup executive compensation depends on their financial independence as well as the financial health of the business.
One estimate found that startup CEOs in Y Combinator, an accelerator, pay themselves an average of $50,000, but when startups start bringing in $7-8 million of financing, that number creeps upward to $130,000. Other founding roles bring in far more, so it’s hard to give a one-size-fits-all response.
Still, some CEOs don’t even take a salary or opt to take home very little. Some famous examples of this include Salesforce’s Marc Benioff, who took a salary of just $1 at IPO, and Jack Dorsey of Square, who only took $3750.
In 2021, the average startup CEO made $147,000. When all is said and done, a CEO’s salary will depend entirely on the business stage, industry, success, and funding.
Alternative Forms of Compensation Besides Salary
Startups strapped for cash can still compete in the job market by offering other forms of compensation such as benefits, a great team and culture, meaningful work, and equity.
Other benefits you can provide for your employees include healthcare, travel or WFH stipends, a gym membership, retirement contribution matching, or company-purchased technology.
The Problem You’re Solving
Job-seekers applying at startups often know that the pay might not be as high as other corporate giants, but are interested in the problem you’re solving and the meaningful work you’re doing. People want to be involved in something bigger than themselves, like a solution that will change an industry or improve people’s lives. Hone in on the value of the work you’re doing and make it clear to all applicants.
The Team & Culture
A startup needs a strong team and culture, especially when the team only consists of a couple of people. Employees often wear several hats and are promoted from within, which gives them a unique opportunity to climb the ranks without “paying their dues” in a hierarchical corporate setting. If they also see that professional development opportunities are offered, team members are supportive of each other, and there’s generally a positive culture in the workplace, it makes the opportunity even more attractive.
Equity gives employees a small level of ownership in the company, though they are rarely just “given” shares. Typically, startups will allow employees to purchase equity in the company with stock options, which essentially allows them to buy equity at a deeply discounted rate.
Startups may also increase stock options over a period of time, incentivizing employees to stay longer to receive a bigger payout.
Learn About How Much Equity Should I Give Up In A Startup
The Role of Equity in Startup Compensation
Equity is a startup’s secret weapon when trying to compete with an attractive compensation plan. While a large company is not likely to give equity to its employees, equity can be an easier way for startups to add value without disrupting cash flow. It bridges the gap between an employee’s market value and the budget constraints the startup is facing, and there are countless variations of equity to use.
What Are the Different Types of Equity Compensation?
- Employee Stock Option Schemes: This benefit scheme allows employees to purchase shares at a specified discounted price with pre-tax dollars, which are then typically bought back by the company if the employee goes elsewhere.
- Employee Stock Purchase Plan: Employees have the option to purchase stocks at a lower rate with after-tax dollars.
- Restricted Stocks: Restricted stock units entitle employees to earn shares on a specified date if certain conditions are satisfied or an event or accomplishment occurs.
- Phantom Stocks: Phantom stocks are not real stocks, but they mock the same movement in price as real stocks and create similar profits.
- Sweat Equity: Sweat equity can come in the form of stocks as a reward for a valuable development or contribution to the company, usually reserved for the company’s first few employees.
How to Determine the Right Amount of Equity for a Startup Employee
You should generally aim to reserve 10-15% of your total company equity for an employee stock option pool.
Some founders determine equity per employee based on the seniority of the position, while others maintain equal equity among employees regardless of role. In other cases, more equity is reserved for the first few employees, since startups have a high risk of failing early on.
Some tips to determine equity for a startup employee’s compensation plan:
- Think about the total value of their salary plus equity.
- Consider what number employee they are – employee #2 typically gets more equity than employee #50.
- Consider how many employees you have to manage dilution.
- Consider the employee’s skill set and the value they bring. Often, sales employees will take home more cash but get less equity, while other leadership roles may get more equity but less cash in their compensation package.
- Prove the value of your equity to your employees using recent company valuations.
- Make the rationale behind your final equity offers transparent.
Final Thoughts on Starting Up & Getting Started From Experts at MacDonald Ventures
Employees that feel valued, supported, and fairly compensated will work harder, and those who are compensated in part with equity in the company will have a greater vested interest in its success.
It’s a delicate balance, creating a compensation package consisting of cash, benefits, and equity, but it’s a unique opportunity for startups to create value in a way that large corporations can’t compete with. While startups may be tight on cash, they have incredible potential to grow into something extremely successful and profitable – and equity is the ticket for employees to share in that success.
As an investor, I want to see startups with compensation plans right in that sweet spot – both attractive to employees and investors. Has your tech startup nailed the compensation plan? Get in touch with MacDonald Ventures to learn more about potential investment opportunities.