5 Ways App Startup Founders Can Pay Themselves
March 15, 2017
Hint: It’s not through in-app purchases, subscriptions, advertisements or sponsorships
The App Store is a “winner takes all” marketplace. Only the top 1.6% generate most of the App Store Revenue ーsome apps earning tens of millions per month.
Despite these numbers, the App Store is not as cut-throat as other business markets. The majority of apps that are being launched are developed by “solopreneurs” or offshore developers who rarely promote or update their apps. If you use real business tactics, your app startup (and you) could generate real profits. Here are four ways you can personally profit by starting an app business.
Disclaimer: This does not mean you personally will be making $500k+ a month. If your app is a business (not a side project) you will have real business expenses.
Salaries and dividends are two ways to extract personal funds from your company. They are both very similar if you’re a founder with significant shares in your company.
Salary: A salary is only paid to one person, in this case, you the founder. You can set the salary to whatever you want as long as you have enough money in the bank to pay it.
Dividend: Dividends are a set portion of your profits that are distributed proportionally to all shareholders.
Let’s say you make $100k in profits per quarter, and you own 50% of the business. If you give out 20% of your profit in dividends then you would make $10k/quarter in dividends, and the other shareholders (typically investors) get the other $10k/quarter.
If you’re investing all of your revenue back into your business then you won’t be paying out dividends because you will not have any net profits. Your salary would count as a part of the business you would be investing your revenue in.
In most cases, every founder will take a salary. Since salary is highly adjustable, there’s no personal incentive for you to take out a salary + dividends. If you want to take home more money, you could simply increase your salary without adding in those dividends.
The primary reason why startups will give out dividends is because it’s preferred by investors. If an investor knows he’s going to get a certain % of your profits in cash, he will see it as a less risky investment since he knows his investment won’t take years to start seeing returns.
When your startup is raising capital, there are typically six different rounds which will invest increasing amounts in your company.
Angel Investors: Angel investors are wealthy individuals that typically invest $100k or less in startups in exchange for equity or convertible debt. “Angels” can include friends, family, private or informal investors. Angel investments help startups get their ideas off the ground, which includes paying for initial technology development. In addition to providing funds, angel investors can act as knowledgeable business mentors. Their cash is at stake, so they’ll be highly motivated to help you succeed.
Seed Round: Multiple investors of smaller early stage funds typically invest $250k – $2 million in seed rounds. A seed round is the initial capital used when starting your business. You would raise these rounds in order to cover the expenses needed to find a product-market fit and a scaleable business model. We’ve written about raising seed capital here.
Series A: VC funds that focus on earlier companies can invest anywhere around $2 – $15 million in a Series A. A Series A is a startup’s first round of real venture capital financing. This round picks up from the first seed round and gives your startup the resources needed to start optimizing and scaling.
Series B: VC funds that work with later stage companies typically invest $10 million or more in a Series B round. This round is about taking your business past the development stage. If you get to this point you’re already making money and have an established growth rate. So it’s much easier to forecast your eventual market share and revenue. Series B rounds will help you reach profitability and give you the ability to dominate your market.
Series C: Banks and massive VC funds can invest anywhere from $10 million – 100 million+ in a Series C. After you have shown consistent market penetration and profitability, large banks will invest tens to hundreds of millions to help your company obtain mass market adoption. Series C rounds can also be used to acquire smaller companies that may have technology or talent that would be very difficult to find otherwise.
IPO: An IPO, or initial public offering, is the first sale of stock by a company to the public. $100 million – $1 billion can be raised through IPOs. When you go public you are simply opening up this ability to buy shares to the public. You will issue a certain amount of the shares in your company to be publicly traded and the public will now have the ability to buy stock in the range of .000001% (one stock) of your company for a very low price.
All financing round math is essentially the same. Companies will create more shares of the company that can be bought. This dilutes the shares of everyone currently owning stock proportional to their previous shares. Here’s an example from Twitter’s IPO.
After raising capital, you will be able to increase your salary without worrying about having enough money in your bank to pay employees and suppliers. Many VCs will also offer to buy a very small portion of your personal shares (see below). They know that the quality of life for CEOs can have a big impact on the company and providing liquid assets (money) in return for illiquid assets (shares) can make them more comfortable.
When you hear talk of “exit strategies” or “exiting”, those people are usually referring to getting acquired (bought by a bigger company). Your startup can be acquired for three main reasons:
An example of this would be when Intuit acquired Mint. Intuit could have easily created an app like Mint, but at the time, Mint was growing very quickly and was starting to make a dent in the accounting services market that Intuit was dominating with TurboTax and Quickbooks.
Let’s say you own 25% of your company, and you gave the other 75% of the company to investors for a total of $100 million. If you sell the company for $1 billion you have to give back $100 million to the investors first. So you would keep ($900 million x .25) for yourself = $225 million.
Selling shares to the public is almost never in the question for a “small” business, but selling stock in a private placement is a way of trading illiquid shares in your company for cash. For founders, they are often in the situation where the majority of their assets are in company equity, so living the ideal “high maintenance” lifestyle is not an option. Often they will sell shares on private markets, like the NASDAQ Private Market.
However, you need to be very careful when doing this. Unless your company is reporting very strong growth, selling shares can be a huge red flag to investors. If you aren’t willing to invest everything you have (money, time, resources) into your own company ーwhy should anyone else invest?
It can also be ill-advised for you to sell shares if you don’t trust the majority shareholders in your company. For tech companies at a later stage, the board of directors will most likely be investors and the founders. If you and your co-founders start to water down your equity in the company by selling shares to other board members or outside investors, the amount of founder control will decrease.
For example, let’s say two founders split 49% of a company. Employees have 11%, advisors have 6%, and investors have 34%. If one of the founders sells 8% of the company to the investors, then founder equity drops to 41% of the company. The investors now own 42% of the company, and have majority control of the company. If they are all aligned on an issue like bringing in a new CEO then there is nothing the founders can do to stop this.
Mobile app startups can be very profitable, so if your motivation to start an app business is to make money, you need to realize how you will be able to personally make moneyーrealistically. As with every startup, the founders rarely get huge salaries and bonuses, because it’s their job to sacrifice and work hard so they can grow the company. If you’re a CEO or co-founder, the majority of your assets will be in equity, so if you’re patient enough to grow your company for 3-10+ years, you could be like co-founder of Snapchat, Evan Spiegel, who sold 7.5% of his shares in the company for $272 million dollars when they went public.