Ask HN: Accepting equity - What terms? How to ensure that the equity has value?

[eggsalad]

Hi, this is my first post here, so go easy on me. I am currently a consultant, and have a long working relationship with one of my clients (I've been working with them for two years), and we get along quite well. We occasionally have our disagreements, but we've always been able to work things out.

I would like to raise my rates, but my client can't really afford my new rates. So to compensate for the lower rates, we've been discussing me being paid in shares of the company along with cash. I would like to somehow guarantee that the equity I earn does not go to waste. I definitely see the company growing quite a bit in the next few years, and I believe they have a great product.

Currently the company's valuation is $X, which was calculated some time ago. The current proposal is to offer me $Y in cash and $Z worth of shares for every hour I work. The value of the stock would be based off of the current valuation. I'm not sure how this is typically done, but I was thinking that shares would be issued quarterly for hours worked that quarter. I'm also not sure what terms I can place in the agreement to protect myself and try to ensure that the shares don't end up worthless.

Any advice?

[justforthispost]

You'd do well in exploring alternatives that don't involve equity.

Have the other clients accepted your new rate? Do you expect to easily get additional clients at the new rate? If so, then you could work on a compromise with client X (the one who "can't afford" your new rate), e.g.

(i) lowering total number of hours per month you work with them, such that the total bill works out about the same as before. Proactively suggest scope cuts. If you know more or less how much revenue (or how much savings) they get due to the projects you do, you should also have a good idea of what features lead to more gains for them.

(ii) give them a discount, or even better, give them a number of "bonus" hours for free, as long as they order over x hours in an n-month period. Think of it as giving them the option of locking in a lower price in exchange for ordering in bulk. They get a lower price and you decrease the risk you won't have enough income in that period.

[eggsalad → justforthispost]

Instead of equity I've also been thinking of a commission on each product sold, once the product gets to market. Hopefully it will be ready for sale in 6-9 months, but there does appear to be significant demand for the product, so that might be a good alternative to equity.

[tuke]

I don't have much for you regarding equity. I'd propose thinking about other ways for you both to find a winning relationship:

Is your customer actually making money? One thing you might propose is some kind of profit share based on your contribution. I.e., propose that you take a % of future profits. This would be a great incentive for you to do a great job for them; and the premise is that everyone is making money. By this means, you might avoid some of the agony of trading your own time for something unpredictable.

[eggsalad → tuke]

This is an excellent point, I've been thinking about setting up a commission structure. Say 5% commission from each product sold.

Do you have any thoughts on commission versus equity?

[lutusp → tuke]

> One thing you might propose is some kind of profit share based on your contribution. I.e., propose that you take a % of future profits.

For a corporation that issues stock, this is illegal. Do avoid offering this kind of advice.

From the OP, we know the company is organized as a corporation and has a board and issues equities. Therefore, as a matter of law, it cannot "share profits" with a specific individual without breaking corporate law.

[eggsalad → lutusp]

I believe it is currently an LLC, with a bunch of private investors (wealthy individuals, not VCs). I also spoke with a lawyer, and they didn't foresee any issue with profit sharing. Can you be more specific on why you think it might be illegal?

[rdouble → eggsalad]

LLCs cannot issue stock.

[lutusp]

> Any advice?

Hire an attorney! Get legal advice. Being compensated with equity can become a legal morass if the offerors don't understand the rules.

> I'm also not sure what terms I can place in the agreement to protect myself and try to ensure that the shares don't end up worthless.

What? By definition, it must be possible for the equities to become worthless. Equities are not cash, they are tied to the value of the company, and any company can become worthless. If this were not so, it wouldn't be equities.

> The current proposal is to offer me $Y in cash and $Z worth of shares for every hour I work.

Again, be very careful with this arrangement. Corporate board members can't just give you shares in the company without meeting some rather complex requirements. And all other issues aside, if this arrangement went on for a while, you might automatically become a voting board member (for a small company) which means you become responsible for what the company does.

I suspect those making this offer simply don't understand corporate law. Be careful, and get competent legal advice.