3 ms·

I understand your concerns, but I can't provide an exact citation, and you are free to not believe a word of what I'm saying. All I can say is that this practi

I understand your concerns, but I can't provide an exact citation, and you are free to not believe a word of what I'm saying. All I can say is that this practice has been explicitly described to me by several execs and investors in San Francisco (in my previous life I was a heavy startup guy). One investor, from one of the top 5 VC firms in the valley, told me that this is how they dilute early employees who left the company after vesting significant equity: in many cases the acquiring company would be pissed at having to pay millions of dollars to people who are not going to effectively bring any value to them anymore, so they redistribute the equity among key employees and execs, by voting a new very large emission of common stocks, and redistributing it with grants having very short-lived vesting cycles (typically 12 months), naturally excluding non-key people.

mlyle 7y ago
You might be thinking of a recapitalization. If you have done multiple rounds of investment already, and need to raise more capital... and the cap sheet is "dirty"-- having non-involved investors, major blocks of shares for employees that are no longer there and were involved on past projects, etc... It can become difficult for a new investor to invest, particularly if the company is otherwise troubled. After all, the investor wants to make sure there's enough upside for A) them, B) key executives, and C) new employees hired/the incentive option pool. They also do not want to be 6th in line, or whatever, for liquidity preferences. So they may demand that the capital structure of the company change. Management / the board are generally obligated by fiduciary duty to not recapitalize if there's any reasonable option to protect existing shareholders. But if the only way you're getting a fundraise done is with a recap, it happens-- after all it is still looking out for existing common shareholders in getting them something instead of nothing.
- deanmoriarty 7y ago
  This might well be what I'm talking about, thanks for giving it a proper term. Still, keep in mind that the examples I was explicitly told about were for companies who were going to be acquired in less than 6 months (so there was no new round of investment), and that the recapitalization affected not only the ex-employees (which is terribly dirty and dishonest in itself), but also the existing non-key employees who happened to be there for a long time and got significant equity by joining early (which is a tragedy).
  - mlyle 7y ago
    Recapitalization like this would generally not happen before an acquisition-- because it would likely be a breach of fiduciary duty. There are other things, though, like carve-outs. If company A is being acquired by company B, and company B needs key people from company A to stay, and the employees do not have enough upside for company B to be assured they'd stay... you might set aside some acquisition proceeds for those people. This tends to hurt both investors and past employees.
    - deanmoriarty 7y ago
      Thanks for this. What you described is another practice that was described to me by a few execs who I happen to know quite well: they explicitly said it's a way to not only screw employees (especially the ex), but also investors, and basically redistribute the wealth just to a very small subset of very very key employees.
      - mlyle 7y ago
        Just to be explicit: - I have never been part of a recapitalization or carveout (though I did do diligence on a couple of companies that would have recapitalized as part of a fundraise if funded)-- other than the normal term of stepping up the incentive option pool as part of a capital raise. - Even so I pretty strongly feel there are times they are necessary tools, and are mostly used in this way. - Of course, anything can be abused by people with poor ethics.
      - mlyle 7y ago
        It isn't, though. Any deal has to make sense for everyone who has to agree to it. E.g. my last time around-- there was a deal that would have paid back investors and even paid a little to employees... but the acquirer would have required key technical staff to stick around. The only way that deal would have gotten done would be if it was possible to carve out enough funds for those key technical staff. (It wasn't, so instead it was an asset sale that did not pay back investors).
    - lawnchair_larry 7y ago

mlyle 7y ago

You might be thinking of a recapitalization. If you have done multiple rounds of investment already, and need to raise more capital... and the cap sheet is "dirty"-- having non-involved investors, major blocks of shares for employees that are no longer there and were involved on past projects, etc... It can become difficult for a new investor to invest, particularly if the company is otherwise troubled. After all, the investor wants to make sure there's enough upside for A) them, B) key executives, and C) new employees hired/the incentive option pool. They also do not want to be 6th in line, or whatever, for liquidity preferences. So they may demand that the capital structure of the company change. Management / the board are generally obligated by fiduciary duty to not recapitalize if there's any reasonable option to protect existing shareholders. But if the only way you're getting a fundraise done is with a recap, it happens-- after all it is still looking out for existing common shareholders in getting them something instead of nothing.

deanmoriarty 7y ago
This might well be what I'm talking about, thanks for giving it a proper term. Still, keep in mind that the examples I was explicitly told about were for companies who were going to be acquired in less than 6 months (so there was no new round of investment), and that the recapitalization affected not only the ex-employees (which is terribly dirty and dishonest in itself), but also the existing non-key employees who happened to be there for a long time and got significant equity by joining early (which is a tragedy).
- mlyle 7y ago
  Recapitalization like this would generally not happen before an acquisition-- because it would likely be a breach of fiduciary duty. There are other things, though, like carve-outs. If company A is being acquired by company B, and company B needs key people from company A to stay, and the employees do not have enough upside for company B to be assured they'd stay... you might set aside some acquisition proceeds for those people. This tends to hurt both investors and past employees.
  - deanmoriarty 7y ago
    Thanks for this. What you described is another practice that was described to me by a few execs who I happen to know quite well: they explicitly said it's a way to not only screw employees (especially the ex), but also investors, and basically redistribute the wealth just to a very small subset of very very key employees.
    - mlyle 7y ago
      Just to be explicit: - I have never been part of a recapitalization or carveout (though I did do diligence on a couple of companies that would have recapitalized as part of a fundraise if funded)-- other than the normal term of stepping up the incentive option pool as part of a capital raise. - Even so I pretty strongly feel there are times they are necessary tools, and are mostly used in this way. - Of course, anything can be abused by people with poor ethics.
    - mlyle 7y ago
      It isn't, though. Any deal has to make sense for everyone who has to agree to it. E.g. my last time around-- there was a deal that would have paid back investors and even paid a little to employees... but the acquirer would have required key technical staff to stick around. The only way that deal would have gotten done would be if it was possible to carve out enough funds for those key technical staff. (It wasn't, so instead it was an asset sale that did not pay back investors).
  - lawnchair_larry 7y ago