Gross profit royalties vs non-voting equity

First of all I'd make sure everyone is in agreement to the money owed you at the moment. Total up your percentage of the gross profits to arrive at a figure owed right now. To keep it simple, let's just say it is $1000. Write it down and make everyone sign it so it can never be disputed later.

Now, from their stand point, they have several options. One, they can pay you the $1000 today and just let everything continue on as is with no contract changes. If so, you get the cash and owe taxes on $1000. Or two, they can exchange the money owed now for shares in the company. This is where it gets dicey.

Sometimes being granted shares is the same as taking a cash payment, and you'll owe taxes on the shares. But who's to say what one share is worth? A voting share is worth more than a non-voting share, but still it's hard to place a hard value on any of the shares. With a big contract in the wings those shares have a greater perceived value, but it's all still guesswork. Make it clear you are living off savings and cash is of primary importance right now. And from what little I know so far I'd leave the arrangement alone.

Even if you have to plan for taking one large lump sum payment should the contract materialize, you can still plan for this. There are ways to reduce your tax liability after the cash is in hand. With that cash comes the ability to make some financial moves you wouldn't ordinarily have.

OK, breaking down the question into its components

Assets + Expenses = Equity + Revenue + Liability

and gross profits is Revenue-Expenses and you get X% but only for 10 years. Since equity is by definition Assets-Liability - Profit the question is whether the profit is retained (goes into the asset column) or paid out as dividends (apportioned to equity). So if there are debts, then your friend is correct in saying that gross points is better than shares but not if the bulk of the profit comes after 10 years. Also valuation of the equity portion factors in growth which the vulture capitalists salivate over due to the supposed J-curve.

royalty == lumpy income ... now whist this is a tax issue which varies across jurisdictions, there are standard ways to handle it without renegotiating. The obvious is to assign to discretionary trust (if contract allows) then let the trust dribble out as necessary. More complicated financing firms can buy out the revenue in return for once off lump-sum which could be interpreted as capital which in some jurisdictions has tax benefits in rolling over to a new startup. I'm not an accountant so don't quote me.

working from savings - presumably the others are doing also or are they coughing up extra money for the day-to-day expenses? there are too many variables to give any answer to what is a fair % because reward should follow risk ... if the 2 founders saw the market opportunity first and you didn't (initially consultant) then that indicates that hard work is not sufficient. From their PoV are you band-riding or have you put in the effort that distinguishes an employee from founder? Should you need to chip in cash as well (but then they take out labor costs in expenses column)?

share structure/class - if they want to create a 2nd tier shareholding which is purely financial, then this is a debt/equity swap (debt considered your time if paid market rates). There's no indication what it is relative to the Class A shares but presumably there's a formulae that everyone is happy with. The voting is a different question as an owner has specific legal rights and recourse under law (again depending on jurisdiction). This is dangerous if the voting rights can allow them to alter or change the share-structure at will, potentially squeezing out minority shareholders (or more likely allowing investors to have preferential rights). This is where a shareholder agreement comes in handy indicating what happens during liquidity events or dilution ... that 3 pager rapidly expands to mind-numbing detail !! Here you have to ask yourself the question, are you the type that is good at being a director (ie corporate governance) or have sufficient experience to make long-term decisions?

What you are asking doesn't have an "obvious" answer but I've crafted the framework to think about it (if engineer, 5 variables should be trivial). Is there scope for diddling the books? Is the risk-return curve appropriate (horizon of time-frame and appetite for risk ... money now or later). If you had to put yourself in a box, would you be (passive) owner, director, or manager/employee?