Hi,<p>Just wondering if anybody else thought about it already. We all know how hard it is to build a team until you're financed enough to be able to pay wages; even if you get a person on board, it is hard to estimate their actual commitment vs. what they promised and what their stake should be. Then, if that person quits for any reason before their stock is fully vested, it is another legal burden to manage.<p>What if instead of offering a stock compensation off the bat the company would issue convertible notes in a lieu of wages, with the cash value equal to the what that person would have been paid if there was cash in the company? Then, if that person quits before funding, the company still owes that person so if the company is getting liquidated or financed (or sold) the person would either get paid (w/ interest on top of it) or he would get a good discount for the dollar amount of services that he provided to date?<p>What do you think about this? Does it make any sense? Any caveats? Any legal reasons to avoid this scenario?
I've long thought that the vesting-equity model is wrong, and if I were free to design a compensation system I would set it up more or less as you describe: No equity grants, but wages would be paid as a combination of cash and convertible debt. If someone leaves the company, they keep whatever they've been paid so far; they would be treated just the same as any other convertible debt holder. The debt would have a significant rate attached (say, 1% per month) due to its high risk.<p>Unfortunately, I don't think this would ever work, due to income tax issues. As I understand it, the convoluted games startups play with equity grants are to avoid having the equity taxed at its real value; but I imagine that the IRS would demand that income taxes be paid immediately on the total wages, including the value of the debt -- which would very quickly create a cash flow crunch for all but the wealthiest employees.<p>If this were possible, though, it would make things much simpler -- just imagine, having founders, employees, and angel investors all hold the same form of equity!<p>EDIT: Just to be clear, I would say that the cash+debt model should continue indefinitely, rather than being limited to 4 years. The idea that someone's effective salary should drop dramatically 4 years after they were hired (i.e., when they are no longer vesting stock each month) seems absolutely loony to me.
Curious. I wonder if that is a problem in funding rounds, since the person has no financial incentive not to quit like there is with vesting, and yet has stakes in funding events. I expect investors would be scared off by this just due to the pure unfamiliarity of it. Can anyone more intimate with the legal side comment? grellas?
What's the benefit for the prospective employee? If the company does well, they would be much better off with equity. If the company does poorly, they aren't going to get paid anyway.
I can see this maybe working with a couple of caveats:<p>a) There's a premium paid on conversion over what he/she would have earned in wages.<p>b) There would be a minimum payment for them even so, which would be almost living expenses.<p>But that's just off the top of my head, there may be legal issues.<p>I think the unfamiliarity issue only comes to the fore if your idea is not compelling enough. If it is, someone will find a workaround.
From the company's perspective, the main problem seems to be that it becomes harder to get investment as you accrue debt. The only incentive I see for an employee to accept such a scheme might be if a convertible note would have tax advantages to the employee compared to wages.