
Common Stock Ownership Spreads Among Startup Investors - dpflan
http://bits.blogs.nytimes.com/2015/12/27/common-stock-ownership-spreads-among-start-up-investors/
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CIPHERSTONE
Having read recently about "Good welling to blackberry for a fraction of what
it was valued at and how screwed the employees were that had common stock, I'd
be leery of any kind of common stock. But that's just me.

[http://www.nytimes.com/2015/12/27/technology/when-a-
unicorn-...](http://www.nytimes.com/2015/12/27/technology/when-a-unicorn-
start-up-stumbles-its-employees-get-hurt.html)

~~~
dpflan
It does showcase the preferential treatment and the motives of investors who
have preferred stock. When they need to ensure a return they seem to have the
leverage to do so. In this example though we see the battle emerging between
large common stock owners against preferred stock owners.

From that article on Good:

"In October, Brian Bogosian, a former Good C.E.O. and a significant
shareholder, along with two institutions that own common shares, said the
board was not looking after the interests of common stockholders and sued in
Delaware Chancery Court. They are seeking unspecified damages and fees."

The double-edge sword (taxes and cost to take ownership in a company that will
probably only payout from a long, expensive lawsuit, brought on mostly by
wealthier owners of common stock...) is when employees exercise their options
to obtain shares to then have ownership to contest payouts that obviously
favor preferred stock.

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dasil003
My dream is to start a company with sufficient traction and revenue that I can
demand investors take common stock if they want to invest. Such a situation
would be a huge recruiting advantage, and combined with a generous and
transparent employee equity plan would enable a much stronger team than
traditional arrangements allow for.

The only problem is getting that level of traction is far from easy.

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adventured
You don't need traction to get that. There are a few big investors that are
willing to buy common stock. I have one owning part of my company today. I had
zero traction, just an early functional product.

I would never allow an investor into my company under any other terms: they
eat the same dog food I or anyone else does. You don't _need_ their money,
there is a lot of money flowing around out there, so set the terms how you see
fit and find the investor to match it.

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matrix
Mind expanding on how one might find such an investor? I agree that the ideal
scenario would be for investors to take the same risk (and reward) as other
shareholders, but I have no idea how to find investors receptive to that idea.

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klochner
In the US, one benefit of two-tier structure is that employees can early
exercise options at a very low stock price to get preferential tax treatment
(taxed at long-term rate rather that ordinary income).

With all common it's likely too much money to exercise before a liquidity
event, so early employees end up losing an extra 15% of their payout in taxes.

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nycthrowaway
Apologies if I misunderstood your comment, but are you implying the price per
share can be different for common and preferred stock, and therefore the
spread used to calculate AMT for employees can be negligible even post
investment?

I assume you're referring to the "AMT" alternative minimum tax, which is
calculated based on the spread between exercise price and current valuation
according to most recent 409(a) filing. My impression was that this valuation,
calculated post-series A/B/C, reflects the most recent per-share price paid by
investors. Since investors typically receive preferred stock, the per-share
price in the 409(a) filing will reflect the price investors paid for
_preferred stock_.

In most cases, common stock will not have a real "per share" price until a
liquidity event. So how is the price-per-share valuation calculated for common
stock?

I was under the impression that the spread used to calculate AMT is the
difference between the most recent preferred stock price per share, and the
exercise price of the options, regardless of whether they bought common or
preferred stock.

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klochner
I was talking about income tax at time of exit. If you pre-exercise and file
an 83b, you realize profit as long-term capital gains rather than ordinary
income. It's hard to pre-exercise if doing so costs you $100k+ in exercise
costs (you have to pay the option price). Options on common stock will be set
at the price of common, which can be 10x if there are no preferred shares.

Read here regarding common/preferred valuations:

[https://www.quora.com/What-were-typical-ratios-
between-409a-...](https://www.quora.com/What-were-typical-ratios-
between-409a-and-preferred-stock-valuations-for-early-stage-web-startups-
in-2010)

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deegles
I've been thinking about a model where a startup/early-stage company would
give NO shares on hiring, but instead slightly more salary and a generous (15%
discount?) stock purchase program. That people feel less obligated to
negotiate and employees get more flexible vesting (month-to-month).

I have no idea how that would work with pre-IPO companies, tax implications,
etc but it feels more fair to me.

On a similar note, I wish there were better ways to prevent dilution among
early-stage employees. They ostensibly generated the value that investors are
buying, so why must they lose out on every funding round? Of course, employees
could negotiate for more options on every round but not everyone will do so.

~~~
laxatives
Getting a chunk of stock options with huge upside seems palatable vs
guaranteed shares at a large tech company. Offering me a 15% discount seems
insignificant. The moment you go public, everyone is going to buy all the
shares available. How do you decide how many each person can buy? If I buy
before an exit event, I am taking on even more risk than the option because
now I am paying all of the taxes. This offers no benefits, but increased tax
risk and I'm paying more to buy shares in the first place.

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analog31
Granted I'm neither a startup employee nor an investor in such things. But it
seems to me that if investors can trade in common stock, the greatest benefit
will be to establish a real value, rather than a fictitious value, for common
shares.

~~~
dpflan
I would suspect that the common stock and preferred stock are priced according
to their value (voting rights, preference at payout, etc). I think that
ownership of common stock by other investors with the desire to ensure that
common stock gets fairly represented (i.e. gets its money's worth) in a
liquidity event is the biggest benefit here because it may balance the desires
on both sides of the fence.

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dpflan
If anyone from the community has any experience with this (either as an
investor, a founder taking investing, or an employee taking options), I think
it'd be great to share how you dealt with it (if you legally can discuss it).

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thinkingkong
This is very different. These are all investors buying commons in a series D
or later timeframe which isnt terribly uncommon.

Some companies at this stage will have previous investors or other
shareholders cash out at some discounted rate prior to issuing any new equity.

Highly doubt this would happen for any but a few unicorn style companies. The
first few rounds of financing are where youll see the worst dillution.

