If you're a small outfit you can't keep someone like that around. You need to part ways. You can't rescue this particular situation. You're screwing the guy/gal

If you're a small outfit you can't keep someone like that around. You need to part ways. You can't rescue this particular situation. You're screwing the guy/gal you hired, too - they're probably under a ton of stress, and high stress over the long term is not good for anyone. You should also recognize that this stress is not entirely their fault - it was _you_ who hired them, so you share some responsibility for this hiring failure. You may be tempted to demote, but I have not seen this actually work out in practice. I'd let that person go.