Comments on: Giving Up Salary for Equity After VC Funding

By: burritoboy

burritoboy — Wed, 21 Jun 2006 21:41:26 +0000

“While there is no tension yet”

First, there certainly is tension already. If the team is so financially personally viable they can go entirely without salary:

1. why aren’t they fronting the salary already, as jvaleski mentioned.

2. clearly, if there’s a major launch just months away and the team is quite comfortable taking a fairly large gamble on it while the VC is clearly unwilling to take a comparatively much more modest gamble (probably the VC has soured on the opportunity since initial investment). The team and the VCs are so far apart on the underlying fundamentals of the investment that I would suggest that the relationship is going to be very difficult to continue. (I.E. the team expects substantial near-term positive improvement, while the funder is likely thinking the whole thing is worthless).

“it�s an uncertain one for the entrepreneur because there is no way to predict whether or not the launch will be successful”

But certainly the entrepreneur would be the best possible source of information (or hopefully among the best sources at minimum)on that, and they are willing to put considerable resources on that bet. Again, I think the value here would, instead of trying to structure the deal more creatively, for the entrepreneurs to find other investors more in line with their own views on the opportunity.

As we wind the situation forward, I would suggest that the funder has now likely moved his opinion of the opportunity from “worthless” to “having some value” which really should reduce the gap in expectations between funder and entrepreneur. I mean, if the funder really wants to play the heavy on an investment that’s

By: Brad Feld

Brad Feld — Tue, 20 Jun 2006 00:58:33 +0000

Ralph – true – although if the compensation is traded into preferred stock in the next round, the common value shouldn’t be impacted by the trade (although it will be impacted by the next round valuation.)

By: Ralph Clark

Ralph Clark — Tue, 20 Jun 2006 00:52:36 +0000

Hi Brad,

There is also the issue of creating a valuation event by trading compensation for common equity. There is particularly tricky in the 409a era. They potentially risk having to price any future options at the same price that they traded their compensation for.

Ralph

By: Brad Feld

Brad Feld — Sat, 17 Jun 2006 21:03:26 +0000

I had another suggestion from someone that I thought was good – have the salary accrue as senior debt that converts into the next equity round at the same price as the financing. There are some tricky compensation / tax issues here, but given the magnitude of the dollars, there’s probably a way to figure this out so the employee gets credit for his net salary and the company pays the normal taxes.

By: jvaleski

jvaleski — Fri, 16 Jun 2006 23:11:40 +0000

Interesting challenge. Seems to me the entrepeneurs should consider fronting the cash to buy actual shares (board produces more common stock if required) to the tune of the salary they’d forgoe. That way all of the financial/interest dynamics can remain the same; they’d just be arbitrary 3rd party funding sources, with regular, defined, interests. They should act like investors, not staff forgoing their salaries.

By: jvaleski

jvaleski — Fri, 16 Jun 2006 23:07:58 +0000

Interesting challenge. Perhaps the entrepeneurs should consider fronting the cash equivelent of their salaries over period X, and act like true investors (not staff foregoing their salaries). Seems to me, that would allow all the right financial/interest-level dynamics to remain in place.

By: Peter Cranstone

Peter Cranstone — Fri, 16 Jun 2006 14:38:37 +0000

It’s all about execution. I still think the best thing to do is find some common middle ground. The entrepreneur needs to mitigate risk and hedge against a poor launch. The VC needs to hedge against an excellent launch. Ultimately it’s all a bet… the key for me is the status of all of the parties (regarding alignment) after the bet has played out.