Could not agree more, and this is my stance which I will happily share with anyone who cares to listen. I was first employee (and only engineer) at a startup which dangled 'equity' in front of me but didn't deliver. Contract was so full of gotchas that the path to me seeing some sort of actual payoff was astronomically unlikely.
90 day exercise windows upon leaving or even getting sick and being forced to leave. Liquiditation preferences for VC shareholdings. No way to sell your options on a secondary market. Permission of the board required to actually exercise them. Half a dozen clauses that allowed the board to revoke your options at any point in time. Basically, they want you to give your fucking life to them for 5-10 years with only a contract not worth the paper it's written on as an incentive.
Between the shitty equity terms and the fact I was building a damn tech company to make someone other than myself rich, I told them to go fuck themselves and took a job at Google for over 3x times the pay. I have no regrets. Being an early employee at a startup is a complete waste of time and I still beat myself up for being so naive. Sharing this so other people don't make the same mistake.
If I decide the next day, “Nah, it’s not going to work; let’s close the company and distribute the assets to the shareholders,” it would be manifestly unfair for the 80% shareholders to take $1.6MM of the $2MM in the bank and give the VCs back the $400K that represents their 20% stake in the bank account.
Liquidation preferences ensure that the first $2MM that comes out goes to them.
Of course, everyone is disappointed. But it's still unfair for that engineer who gave up half a million dollars or more to work at the startup to get nothing. You might say that the engineer should be aware that they agreed to a way of structuring equity that means it's likely they'll get screwed. Fair enough! But all of this discussion is meant to make readers aware that, yes, the industry standard practice is to screw over the people who have the most skin in the game.
By all means understand it; I’ll never argue against that, but I find liquidation preferences quite reasonable.
I don't have statistics, but I believe the more common scenario is that the company gets acquired, and the return on investment is not the 10x or 1000x or 1000000x the VCs hoped for, so they recoup their original investment. Leaving the engineers with options worth nothing.
I view liquidation preferences as VCs offloading risk to employees because they can.
Just like the “declare strategic bankruptcy a few months before graduation” doesn’t happen much because student loans aren’t discharged in bankruptcy.
Both moves would “break the game” in a very similar way and so are blocked.
This is absolutely correct and it SPEAKS VOLUMES about the reality of the startup world, even apart from this discussion on liquidation preferences. I'd recommend anyone looking at working for a startup to consider the above and then consider the fact that as an employee they'd be in an even worse position than those founders before turning down that far more lucrative offer from BigTechCo.
The rich technically have less personal risk -- that's because, well, they're rich. GP arguably took more personal risk, took less pay, and created the machinery that made the company profitable.
If you want to say that the original $2M is paid out before anyone else is, that's fine, especially in a sinking ship.
If you mean to say that on a %1000 increase of company valuation, GP should not get his share because, well, he didn't fund $2M dollars -- that's _utter_ bullshit. And arguing that VC's should get preferential treatment so they can directly screw over the people who directly provided the growth is the stupidest argument I've heard for this clause.
It seems to me that you built and eviscerated a strawman right in front of us.
The liquidity preferences could certainly be structured in a fairer fashion. Just because it’s currently structured this way doesn’t mean that it needs to be always or that it’s a great model ( it’s not unless you’re a VC, which is basically the point).
Would you think this is a legitimate claim?
It's silly to automatically assume that "investor" or "capitalist" is someone rich. Chances are, the VC get their money from banks and pension funds who, in the end, invest money of people who earn much less than an average startup employee.
Come up with a different mechanism if you ever want anyone competent to work at your startup.