FAQ – Will You Trade Engineering For Equity?
Many new inventors (and some small companies) have approached us with questions about trading Engineering Services for part ownership in their company. We believe that from the perspective of starting on a shoestring, trading equity is not a bad approach to minimize startup cost.
New inventors in particular are excited for the success of their new product, but often hit a barrier in handling the cost of both engineering development and production. It’s a hard spot, and we certainly sympathize with the situation — because we’ve been there. Here’s the full answer from our Frequently Asked Questions.
The Answer Is ‘Yes’ . . . Maybe.
Of course, nothing is absolute, Yes or No. Certainly we have walked this path — on both sides of the line — several times, and it’s taught us a lot. To be Good, the proposition must serve both sides. Look at both of these definitions from Google, or try Merriam Webster.
Then thinking about a trade, from the two perspectives involved, the viewpoints are really quite different. Let’s look together at the Value Propositions for both sides of such a trade.
Equity Holder Value Proposition
From the small company perspective, a trade for equity is a convenient way to get the needed engineering services without spending limited cash resources. Equity in a new entity is effectively “free”, but with future strings attached. If the company is successful, the equity will turn into real value and everyone will make money. If the company fails, there is no responsibility to ever pay the engineering costs.
With this in mind, the Value Proposition for the new concept owner is a trade of future success for the immediate needs of service.
Engineering Firm Value Proposition
We know that every invention is potentially the next million dollar idea, but we also know that it takes much more than engineering to accomplish the task. Unfortunately, the very nature of product development requires engineering first — you can’t sell something that doesn’t yet exist. (OK, some do, but that’s a super dangerous position.) Anyway, it means the Engineering Firm must do the work in advance, then rely on others to market and sell the product(s). That’s not necessarily a bad thing, but it does require the Engineering Firm to make its full investment in advance. AND, no matter how perfect the engineering, success still depends on others (sales, marketing, business) for success.
The other big issue in this kind of trade . . . equity cannot be bought and sold at will like on the stock market. For an Engineering Firm, it’s usually in it for the long haul — even if the majority shareholders make poor choices.
So, the Value Proposition for the Engineering Firm is the investment of time (and costs) in hopes of future success that will give value to the equity.
The Synthesis Policy
We definitely understand the desire to leverage equity for engineering, and we applaud the enthusiasm. Furthermore, we like to think of ourselves as champions for the underdog and we want to help. Even with that, we still have to eat, so we can’t work for equity all the time.
To solve this dilemma, we have a policy of taking on one “effort for equity” customer at a time. The arrangements vary, but almost always we require some “skin in the game” with these customers. Engineering Services comes early in building the company, so we need to be very confident that others involved will follow through with their parts. In many cases, the “skin” appears as reduced rates (sometimes drastically reduced rates) for services, rather than “free”.
The process for accepting that “one” effort for equity customer is somewhat nebulous. It is a process of looking at opportunities, judging the value, and choosing those with compatible upside potential. Here are some Big Pieces that go into the decisions.
- Type of product. (In an area where we’re comfortable.)
- Magnitude of work required. (A lot or a little, over a long time or short.)
- Significance of potential upside. (What do we think the end success can be?)
- Plans. (Well thought through and realistic plans forward.)
- Our evaluation of the people involved. (Personalities, and most of all, NIH?)
- History to date. (Where is/was the start? Is the homework done?)
- Skin in the Game. (What value does the Equity provider put on the proposition?)
We recognize that all of these are subjective judgements on our part. If you contact us, please understand that decisions to help (or not) as an equity partner do not tread on your vision or dreams. Our decisions do not say we believe you will be successful (or not), they only say we do (or don’t) have space in our timing and resources or we do (or don’t) feel it’s a match.
History Says . . .
The stories in history are not kind to startup businesses or inventors. There are a ton of patents that go abandoned every year because inventors don’t have the resources (or emotional fortitude) to bring them to fruition. Most small businesses fail, and a lot of good ideas don’t get traction in the market. All of these historical things add up to caution when stepping forward.
A more local historical perspective also says caution. Though several companies we have helped in this capacity sell reasonable volumes of product, none have met promises of success. Even when the products we develop are recognized with awards and accolades, if the business side struggles, or if marketing fails, the product goes nowhere.
Yet, there is also a lot of success. Inventors who prepare well often succeed. Small businesses with good direction and decisions are plentiful. There is bad news around, but there is also the positive.
Equity Trade — 3 Educational Examples:
We developed an awesome little device that captures attention wherever is it shown. They did a good job with marketing, and sales are reasonable for such a device. Yet, with a sale price of only a couple dollars, one tiny product can’t support an entire company. Unfortunately, the company owner(s) were unable or unwilling to branch out into more products. Furthermore, they were unwilling to allow someone else to take the product and run. An unrealistic expectation of market value keeps them from success. This scenario has happened twice here at Synthesis.
We Learn: Small products that expand a niche are awesome. However, owners must have plans (with lots of contingencies) for expansion and growth. They must also have personalities open to learning and changing and refocusing.
Second, for another company we developed several products with new levels of performance. Those products had the ability to change the market, but initial plans for a marketing didn’t pan out. Unfortunately, and the primary equity holder froze — unwilling and unprepared to run the business. Unwilling to sell the product, the owner had us continue new product development via investment instead of selling the award winning products already available. The sad part is they would not take the time to learn from others how to run a business. An opportunity squandered for ego and NIH.
We Learn: Owners must have commitment to stepping outside their comfort zone to build their company. They must focus on the bottom line as much or more than on the virtues of their invention.
Skin In The Game
Third, early on we jumped into an equity arrangement with an inventor without enough “skin” in the game. We spent thousands assisting him, then when a few bumps hit the road, he just quit. That left us high and dry.
We Learn: Owners must have significant “skin in the game” for commitment, even when things don’t go exactly to plan.
The Positive Side
The above may sound a little gloom and doom, but that’s not a complete picture. We remain optimistic about the future, and we continue to be excited about the success of companies we help. We have success stories too, several. They include individuals that sold ideas, and others with license agreements. Most importantly, they include some that are off to a good start — hopefully to succeed. And, we’re always looking for new opportunities.
This is not a solicitation for opportunities. On the contrary, this post addresses the question “Will You Trade Engineering Services for Equity in my Company?” As you can see, the answer is Yes, with qualifications. If your opportunity fits the above “We Learn” scenarios as well as the “Big Considerations” of our decision making process with a significant Value Proposition for everyone involved, we are certainly willing to consider your proposal.
Of course, the best way to find out if we can help is to Contact Us. Ask us the direct questions about your situation.