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Employees Are Cashing Out Their Private Shares, But Is It Healthy For Startups?

21 points by ssclafani 16y ago

ardit33 16y ago
I think earlier liquidity is healthier for the eco-system. It allows more mobility of employees and the creation of new companies when people cash some of their stock for cash and move on and found new companies. It only sucks for companies that treat their employees badly, or don't compensate enough, etc...
anamax 16y ago
Loyalty is earned, not owed.
jamesaguilar 16y ago
Is it healthy for startups? Probably not. It means your workers are no longer indentured to your megalomaniacal aspirations and personal views on the valuation of your company. It means they are not enslaved to your whim regarding whether or not your company needs liquidity. In short, it is good for employees at the expense of companies.
- ojbyrne 16y ago
  Which will produce better companies.
  - jamesaguilar 16y ago
    That may be true but I am not certain that it follows. It's true that much of the economy is a positive sum game but not all parts of it are. In this case, if you model a startup as a product that has a relatively fixed market-value after some amount of work by employees, then it is entirely possible that shifting market power over labor to employees will make it more expensive to produce that fixed-value product. Perhaps this change will also spur employees to greater efforts or attract even more talented employees for a shorter duration, but that's not necessarily the case.
    - lsc 16y ago
      The problem with employees losing interest because they've already gotten paid is one we've faced before, and one that's easily solved. Vesting. Hell, if you don't want your employees to sell out before the IPO, simply set your vesting schedule so that nobody vests pre-IPO. Really, the only difference here is that now it's /possible/ to let people vest and cash out before the IPO. To me, this seems like a simple work-around to the regulatory rules that make IPOs difficult. If the market was regulated like it was 1998, twitter, facebook, groupon, etc, etc... would all have IPO'd some time ago, and employees would have cashed out the old fashioned way. I guess this does mean that companies need to be more careful about vesting schedules... the article seemed to say that the guy doing the selling worked at facebook 6 months. It seems pretty funny to me that much anything would vest in that time period.
      - roel_v 16y ago
        "Hell, if you don't want your employees to sell out before the IPO, simply set your vesting schedule so that nobody vests pre-IPO." I think the whole point is that these employees are actually selling futures, not vested shares. The only solution is to prohibit that, and I don't think such things are contractually allowed (otherwise the lawyers mentioned in the article, who tried stopping these secondary markets, would have succeeded and this article wouldn't have been written).
        lsc 16y ago
        I think vesting would still at least help the problem. If I'm a startup employee with options that are not vested and I'm selling you futures on my yet-to-be-vested stock, you're not only betting on the stock, you are betting that I'm going to stick around at the company and not quit or get fired before I vest. I don't think futures on un-vested stock options are going to be worth nearly as much as options on vested stock.
        roel_v 16y ago
        Of course, and although part of that risk (from the pov of the broker and the buyer) could be hedged contractually, there is still the risk of dilution etc. That's why I'm interested in learning more about the exact mechanics of this 'cashing out' - it seems to me that the staff involved must be paying a hefty risk premium for their liquidity. I haven't seem many details of how these deals are structured show up, though. Probably because it would reduce the numbers that employees actually receive much smaller, making for much less interesting headlines.
pdenya 16y ago
First page had some interesting info but tl;dr. A summary would be appreciated from folks that finished the article.
ojbyrne 16y ago
Replacing a club with a market. Obviously the club insiders will complain.
guelo 16y ago
These companies allow this to happen, if they wanted to they could restrict the transfer of ownership of the shares. But the secondary market allows zuck to blow $100 mill on public schools and such.
- patio11 16y ago
  Zuckerberg will have access to $100 million regardless of the secondary market, because he can call up any investment bank and say "I invented poking. Will you give me a $100 million loan at sweetheart interest rates?", and they will say "Of course, Mr. Zuckerberg." because you do not piss off future clients with multi-billion dollar accounts over the trifling matter of a million here or there. (Zuckerberg has substantial influence in deciding e.g. who to pick for underwriting the Facebook IPO.) The huge impact of secondary markets isn't that Zuckerberg gets to invest other people's money in public schools, it is that a married Facebook engineer who did not invent poking but might have worked on optimizing MySQL calls gets to send his kids to private school using his own wages. He cannot call up Goldman Sachs and get a loan secured by the value of his Facebook options, because he does not have anything Goldman Sachs wants.
  - guelo 16y ago
    There's no doubt it is a great deal for the engineer, but the question the article is posing is if it is good for the company. The point I was trying to make is that if they try to stop it it would also personally affect top management, so they won't do it even if they should.
onan_barbarian 16y ago
Smoothing out the income that employees get from options seems like it could be both healthy (psychologically) and good for tax purposes, at least in some jurisdictions (Australia, for example). I'm not sure how having an incentive for employees to want the company to be more valuable not just at a far-off IPO but also in the next six months or two years is a bad thing. As another poster pointed out, there can be restrictions placed on transfers of ownership.
- roel_v 16y ago
  A large windfall like this would be structured in a SPV that pays out over many years anyway, also in Australia, no?
  - onan_barbarian 16y ago
    Honestly, I don't know. Would be nice to have experience in this area. :-)
kevinburke 16y ago
Having too much of your own wealth invested in one place is very risky (from a personal finance POV). However it signals disloyalty/bad outcomes in the venture (think of an entrepreneur looking to sell all of his shares; would you buy them?). The idea behind getting shares is that you're motivated to work harder because your worth is tied to the worth of the company. However it's not clear that the thing holding you back is a lack of motivation.

21 points by ssclafani 16y ago

I think earlier liquidity is healthier for the eco-system. It allows more mobility of employees and the creation of new companies when people cash some of their stock for cash and move on and found new companies. It only sucks for companies that treat their employees badly, or don't compensate enough, etc...

anamax 16y ago

Loyalty is earned, not owed.

jamesaguilar 16y ago

Is it healthy for startups? Probably not. It means your workers are no longer indentured to your megalomaniacal aspirations and personal views on the valuation of your company. It means they are not enslaved to your whim regarding whether or not your company needs liquidity. In short, it is good for employees at the expense of companies.

ojbyrne 16y ago
Which will produce better companies.
- jamesaguilar 16y ago
  That may be true but I am not certain that it follows. It's true that much of the economy is a positive sum game but not all parts of it are. In this case, if you model a startup as a product that has a relatively fixed market-value after some amount of work by employees, then it is entirely possible that shifting market power over labor to employees will make it more expensive to produce that fixed-value product. Perhaps this change will also spur employees to greater efforts or attract even more talented employees for a shorter duration, but that's not necessarily the case.
  - lsc 16y ago
    The problem with employees losing interest because they've already gotten paid is one we've faced before, and one that's easily solved. Vesting. Hell, if you don't want your employees to sell out before the IPO, simply set your vesting schedule so that nobody vests pre-IPO. Really, the only difference here is that now it's /possible/ to let people vest and cash out before the IPO. To me, this seems like a simple work-around to the regulatory rules that make IPOs difficult. If the market was regulated like it was 1998, twitter, facebook, groupon, etc, etc... would all have IPO'd some time ago, and employees would have cashed out the old fashioned way. I guess this does mean that companies need to be more careful about vesting schedules... the article seemed to say that the guy doing the selling worked at facebook 6 months. It seems pretty funny to me that much anything would vest in that time period.
    - roel_v 16y ago
      "Hell, if you don't want your employees to sell out before the IPO, simply set your vesting schedule so that nobody vests pre-IPO." I think the whole point is that these employees are actually selling futures, not vested shares. The only solution is to prohibit that, and I don't think such things are contractually allowed (otherwise the lawyers mentioned in the article, who tried stopping these secondary markets, would have succeeded and this article wouldn't have been written).
      - lsc 16y ago
        I think vesting would still at least help the problem. If I'm a startup employee with options that are not vested and I'm selling you futures on my yet-to-be-vested stock, you're not only betting on the stock, you are betting that I'm going to stick around at the company and not quit or get fired before I vest. I don't think futures on un-vested stock options are going to be worth nearly as much as options on vested stock.
        roel_v 16y ago
        Of course, and although part of that risk (from the pov of the broker and the buyer) could be hedged contractually, there is still the risk of dilution etc. That's why I'm interested in learning more about the exact mechanics of this 'cashing out' - it seems to me that the staff involved must be paying a hefty risk premium for their liquidity. I haven't seem many details of how these deals are structured show up, though. Probably because it would reduce the numbers that employees actually receive much smaller, making for much less interesting headlines.

pdenya 16y ago

First page had some interesting info but tl;dr. A summary would be appreciated from folks that finished the article.

ojbyrne 16y ago

Replacing a club with a market. Obviously the club insiders will complain.

guelo 16y ago

These companies allow this to happen, if they wanted to they could restrict the transfer of ownership of the shares. But the secondary market allows zuck to blow $100 mill on public schools and such.

patio11 16y ago
Zuckerberg will have access to $100 million regardless of the secondary market, because he can call up any investment bank and say "I invented poking. Will you give me a $100 million loan at sweetheart interest rates?", and they will say "Of course, Mr. Zuckerberg." because you do not piss off future clients with multi-billion dollar accounts over the trifling matter of a million here or there. (Zuckerberg has substantial influence in deciding e.g. who to pick for underwriting the Facebook IPO.) The huge impact of secondary markets isn't that Zuckerberg gets to invest other people's money in public schools, it is that a married Facebook engineer who did not invent poking but might have worked on optimizing MySQL calls gets to send his kids to private school using his own wages. He cannot call up Goldman Sachs and get a loan secured by the value of his Facebook options, because he does not have anything Goldman Sachs wants.
- guelo 16y ago
  There's no doubt it is a great deal for the engineer, but the question the article is posing is if it is good for the company. The point I was trying to make is that if they try to stop it it would also personally affect top management, so they won't do it even if they should.

onan_barbarian 16y ago

Smoothing out the income that employees get from options seems like it could be both healthy (psychologically) and good for tax purposes, at least in some jurisdictions (Australia, for example). I'm not sure how having an incentive for employees to want the company to be more valuable not just at a far-off IPO but also in the next six months or two years is a bad thing. As another poster pointed out, there can be restrictions placed on transfers of ownership.

roel_v 16y ago
A large windfall like this would be structured in a SPV that pays out over many years anyway, also in Australia, no?
- onan_barbarian 16y ago
  Honestly, I don't know. Would be nice to have experience in this area. :-)

kevinburke 16y ago

Having too much of your own wealth invested in one place is very risky (from a personal finance POV). However it signals disloyalty/bad outcomes in the venture (think of an entrepreneur looking to sell all of his shares; would you buy them?). The idea behind getting shares is that you're motivated to work harder because your worth is tied to the worth of the company. However it's not clear that the thing holding you back is a lack of motivation.