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Great comment, thanks. former employees can be written right out of the deal Can you elaborate on this? How does this work? As a holder of a lot of common sto

by lemming 16y ago

Great comment, thanks. former employees can be written right out of the deal Can you elaborate on this? How does this work? As a holder of a lot of common stock in an increasingly VC-dominated company, this is interesting to me - surely if I buy my shares, I have that proportion of the company with the same rights as any other common stock holder? What about a "normal" acquisition deal could change that?

tptacek 16y ago
VC and founders, holding preferred shares, take money off the table first. If things get tight, later VC's may take 2+x preferences. Deals can be structured that return cash to the VC, wipe out the rest of the equity, and leave existing employees grants or bonuses for retention; this latter deal element is an incentive extended by the acquiring company, not an entitlement owed shareholders.
- lemming 16y ago
  Is it normal for founders to have preferred shares? In our case the founders all have common stock (albeit a lot of it), and in fact it came with more restrictions than normal common stock, namely a 3-year restricted stock period similar to an option vesting period.
  - tptacek 16y ago
    Dunno, but note that founders often hold board states, and VC has an incentive to make sure they can take some money off the table, else they can make it harder to complete the best deal VC thinks they can get, in the name of holding out for an actual return.
  - danshapiro 16y ago
    That's very normal; founders usually have mostly common, and sometimes have extra restrictions. The other commenter is right, though - anyone with influence in a transaction typically comes out better, and founders are often in such a position.
- timr 16y ago
  Concrete example -- Slide's acquisition: http://www.sfgate.com/cgi-bin/article.cgi?f=/g/a/2010/08/06/businessinsider-googles-slide-acquisition-proves-why-you-need-a-liquidation-preference-2010-8.DTL http://www.sfgate.com/cgi-bin/article.cgi?f=/g/a/2010/08/06/... The later investors just barely made their money back, so the employee options were (probably) worthless as well. Google issued new retention to make up for the fact that the employees got squashed, but not every acquirer is so generous.
trotsky 16y ago
I can't tell you the best or even the most modern ways, but one of the simpler ways I've seen this done is a massive dilution where key owners (investors, founders) have anti-dilution clauses coupled with new grants and acceleration for current employees. This works even if the liquidity event is so massive everyone involved is recouping well past their preferences. My impression is that options agreements and grants that offer any real protection against being screwed once the company lacks any incentive to keep you happy are few and far between. If you don't _know_ you're protected from such things, you're undoubtedly not.
URSpider94 16y ago
Key phrase: tyranny of the majority. You can bet that the founders and VC's (or other institutional investors) own a super-majority of the shares. Therefore, they can simply write the rules to give themselves whatever they want. For even more fun, sub-groups of VC's can team up to force out founders or other VC's. One way this is typically done is to increase the share count by 10X, then sell these new shares for 10 cents on the dollar to a sub-group of new investors. As an existing shareholder, you MAY have the right to buy into such a deal, but only if you are a "qualified investor", meaning that you have substantial liquid wealth. Otherwise, you'll be left sitting on the sidelines. Even in a "normal" acquisition, the current shareholders will have to vote on the deal, so it's not uncommon for the large shareholders to cut lucrative side deals with the buyer that give them much more profit than the average shareholder.
- skinnymuch 16y ago
  Did Facebook's Eduardo Saverin get 5% of Facebook back because he was singled out? If more stock holders were pushed out, would Saverin not have gotten 5% back?
- tptacek 16y ago
  This all sounds plausible but note that the owners don't even have to intend to screw you out of your equity to screw you out of your equity. All that has to happen is for the company valuation to come in under the value of liquidation preferences, or for the deal to be so tight that much of the return is structured as an earnout for existing employees.
- danshapiro 16y ago
  One mistake in the above: the right to participate in future financing rounds has nothing to do with qualified investor status, and everything to do with whether your agreement guarantees it. Good CEOs will often make sure all their investors are given a chance to participate (because it's the right thing to do and reduces the chance of one class of lawsuits) but it's only a guarantee if your documents say it is.
  - tptacek 16y ago

by lemming 16y ago

tptacek 16y ago

VC and founders, holding preferred shares, take money off the table first. If things get tight, later VC's may take 2+x preferences. Deals can be structured that return cash to the VC, wipe out the rest of the equity, and leave existing employees grants or bonuses for retention; this latter deal element is an incentive extended by the acquiring company, not an entitlement owed shareholders.

lemming 16y ago
Is it normal for founders to have preferred shares? In our case the founders all have common stock (albeit a lot of it), and in fact it came with more restrictions than normal common stock, namely a 3-year restricted stock period similar to an option vesting period.
- tptacek 16y ago
  Dunno, but note that founders often hold board states, and VC has an incentive to make sure they can take some money off the table, else they can make it harder to complete the best deal VC thinks they can get, in the name of holding out for an actual return.
- danshapiro 16y ago
  That's very normal; founders usually have mostly common, and sometimes have extra restrictions. The other commenter is right, though - anyone with influence in a transaction typically comes out better, and founders are often in such a position.
timr 16y ago
Concrete example -- Slide's acquisition: http://www.sfgate.com/cgi-bin/article.cgi?f=/g/a/2010/08/06/businessinsider-googles-slide-acquisition-proves-why-you-need-a-liquidation-preference-2010-8.DTL http://www.sfgate.com/cgi-bin/article.cgi?f=/g/a/2010/08/06/... The later investors just barely made their money back, so the employee options were (probably) worthless as well. Google issued new retention to make up for the fact that the employees got squashed, but not every acquirer is so generous.

trotsky 16y ago

I can't tell you the best or even the most modern ways, but one of the simpler ways I've seen this done is a massive dilution where key owners (investors, founders) have anti-dilution clauses coupled with new grants and acceleration for current employees. This works even if the liquidity event is so massive everyone involved is recouping well past their preferences. My impression is that options agreements and grants that offer any real protection against being screwed once the company lacks any incentive to keep you happy are few and far between. If you don't _know_ you're protected from such things, you're undoubtedly not.

URSpider94 16y ago

Key phrase: tyranny of the majority. You can bet that the founders and VC's (or other institutional investors) own a super-majority of the shares. Therefore, they can simply write the rules to give themselves whatever they want. For even more fun, sub-groups of VC's can team up to force out founders or other VC's. One way this is typically done is to increase the share count by 10X, then sell these new shares for 10 cents on the dollar to a sub-group of new investors. As an existing shareholder, you MAY have the right to buy into such a deal, but only if you are a "qualified investor", meaning that you have substantial liquid wealth. Otherwise, you'll be left sitting on the sidelines. Even in a "normal" acquisition, the current shareholders will have to vote on the deal, so it's not uncommon for the large shareholders to cut lucrative side deals with the buyer that give them much more profit than the average shareholder.

skinnymuch 16y ago
Did Facebook's Eduardo Saverin get 5% of Facebook back because he was singled out? If more stock holders were pushed out, would Saverin not have gotten 5% back?
tptacek 16y ago
This all sounds plausible but note that the owners don't even have to intend to screw you out of your equity to screw you out of your equity. All that has to happen is for the company valuation to come in under the value of liquidation preferences, or for the deal to be so tight that much of the return is structured as an earnout for existing employees.
danshapiro 16y ago
One mistake in the above: the right to participate in future financing rounds has nothing to do with qualified investor status, and everything to do with whether your agreement guarantees it. Good CEOs will often make sure all their investors are given a chance to participate (because it's the right thing to do and reduces the chance of one class of lawsuits) but it's only a guarantee if your documents say it is.
- tptacek 16y ago