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"Dead equity" could also be used in reference to most of a company's investors.

That is of course, tongue in cheek. Why should employees have their investment of time and energy taken away from them when investors' one-time cash investment earns preference? Another industry double-standard.

Because the investors' cash is the thing that enables high growth companies to survive and be, well, high growth (who do you think pays said employees' salaries?). Not saying they don't often make out much better than employees, but no one forces you to accept a term sheet you don't want to, and you should understand the implications of the equity you're getting walking in.

I don't buy that argument for a second. The employees actual work, causing the startup to be able to actually do something or sell something, is what allows the company to survive.

And the investors are who pays for the employees, no?

And the employees are the ones who create the returns for the investors, no?

That's possibly the most bullshit argument I've ever heard.

Any founder will tell you employees are more important than investors. It's possible to build a successful company without VC—it's impossible to build one without quality employees.

Employees are effectively making an investment in the company in the form of work instead of cash. If a startup chose not to give out stock options, they'd likely have to pay their employees more, and they may have to raise another round to get cash to do so. The dilution from that round would never come back to the original stockholders under any circumstances.

When employees accepted the options in lieu of cash, they were taking a risk in exchange for a potential future reward. The work they put in often makes that success happen, whether or not they're actually working for the company at the time a liquidation event occurs.

I liken the scheme a16z proposes to something like using a loophole to buy back all of your investors' stock at their original valuation, just because you got to profitability. At that point you no longer _need_ their money, so why do investors deserve to reap the rewards?

IMO there's no point in arguing about the relative importance of investors versus employees, because everyone should be in favor of more flexible equity terms.

The 90 day rule creates a lot of risk for employees who lack the capital for early exercise. If employees are rational and well-informed, they'll heavily discount the value of any options with a 90 day expiration. By offering more flexible terms (like Quora's), companies should be able to hire the same candidates while giving away less equity.

Granted, some employees don't ask about the equity terms in their offers, or don't carefully consider the risks. But I think this is improving, and eventually more flexible terms will become standard. I've personally declined a few offers based on the equity terms.

> If employees are rational and well-informed [...]

That's a biiiiiig if. In my experience, this is definitely not the case for the vast majority of startup employees I know.

It's not really a double standard. A share of stock and an option to buy such share of stock are two distinct products, priced differently.

E.g. MSFT share price today is $64.27, a contract allowing you to buy a share of MSFT on March 17, 2017 for $64 is 83c.

Investors buy their shares in full, cash-on-delivery, so to speak. Would investors like to be able to buy call options in the companies at pre-specified valuations for just 1.5% of the price and complete freedom to exercise (as well as forfeit) those options four years down the road? You betcha.

Not only do they need to pay significantly less to participate, they can spread those bets around and cover roughly 60x more companies, if they choose. Or double or triple down on this one specific company. Or just sell their option down the road in case it's the next FB or Uber without ever needing to put up cash.

Both investors and employees get to buy their shares for cash. Employees though do get the luxury of time, and can not only benefit immensely from stock's rise, but also save their hard-earned money in case of a dud. Investors do not get the latter option. Therefore they seek compensation elsewhere, usually in the liquidation preference department (which is moot anyways if the liquidation value is $0).

Well then that's doubly ironic, because most startup employees would probably much prefer to have shares over options. I know I would.

If the company allows 83(b) early exercise, they can.

Yeah, but you still have to buy the shares at strike price. So not only are you getting paid below market rate, but you have to spend some of that pay exercise cost and taxes to have proper equity. So it's not so simple.

What did you mean then by "much prefer to have shares over options"? I assumed this implied equal footing with the investors, and shares distributed in exchange for the check. If you have the means and are willing to tolerate the risk, shares are a better deal. If at least one of those components is missing, call options are a better deal.

I don't think you're really justifying why employees and investors ought to have different terms. To the extend that investors need extra compensation, they can always be compensated with additional shares, regardless of those shares' terms.

I think in an ideal world, investors would normally receive common stock (and more of it), but there are some practical reasons why that isn't the case:

- Selling preferred stock lets a company declare a more lofty valuation.

- If a company sold common stock to investors, they'd have to use the more realistic fundraising valuation when pricing options, rather than a (typically) more conservative 409a price.

- Employees tend to not have access to the cap table, or not understand it, so there's not much disadvantage to giving them less favorable terms.

I'd go with Occam's razor on this - investors always want preferred, the more preferences the merrier, companies always want to sell common, and if they could go sub-common (by stripping the shares of voting rights or dividend participation) they would.

Whoever has the most leverage in the transaction tends to win.

The basic reason that investor capital has a liquidation preference is that if it didn't, the founders could raise $X million on day N, then since they hold the majority of voting rights, declare bankruptcy on day N+1, and split the majority of the invested capital among each other.

There are ways around this, such as giving the investor a veto on bankruptcies and reorganizations, but the time-honored solution is a 1x liquidation preference where the investor gets their capital back in a bankruptcy.

This a16z article states that some options not returning to option pool is a bad thing, because option pool has to be extended faster than expected. As I read it, this means that some employees granted stock options are expected not to exercise, or in other words, option pools are overcommitted (more options are scheduled than expected to be excercised).

To my mind, this is a very dangerous mindset, driving actual option value even lower, because for every 100 options vested, only say 90 are expected to be exercised, meaning that upon liquidity event options are expected to be diluted to at least 90% of their value. Amount of options offered therefore must be discounted for this. Sadly a prospective employee has no idea what is the expected option pool commit ratio adding one more variable to the equation and tipping the scales towards hard cash compensation.

"Dead Equity" has some advantages as well. You align the long-term incentives of the company with those of employees who are moving on earlier. If you know that you'll never have to deal with a scaling issue, why would you spend the effort dealing with it? Getting employees invested in long-term outcomes helps with principle-agent problems like this, which can help company performance more than the cost of "Dead Equity".

I see your point but don't really agree with your argument -- in my experience engineers who consciously know what a good or a bad engineering decision for the future is will make the good decisions regardless -- it's the terrible engineers who don't know any better you need to worry about.

In either case, given an extended exercise window both are sitting around collecting value indefinitely after leaving. They don't need to contribute anything to the next "generation" of work but they still collect the rewards. I'd expect that in most high-growth companies the impact of individual contributors quickly gets washed away after they leave.

If you think that former early employees don't contribute to future "generations" of work, then the ethical thing to do is to offer better cash compensations and less equity. It's not really ethical to offer equity compensation that looks like it could be valuable but has significant hidden barriers to actually being used.

> the ethical thing to do is to offer better cash compensations and less equity

That's one of my main points: Employees have the power to refuse employers that offer equity in lieu of fair salary. But my experience has been that people keep falling for the equity carrot again and again, and as long as they keep falling for it, employers will keep doing it.

Just because it's legal and in your best interest to do things doesn't mean that it's ethical. This is analogous to misleading advertising.

>I'd expect that in most high-growth companies the impact of individual contributors quickly gets washed away after they leave

I'd argue it's the opposite. Early employees often have an outsized impact on the trajectory of a company and get it to a point where additional hiring is possible. Future generations of workers tend to iterate on the existing (unless there's a significant pivot) and come on board in a more de-risked situation often with salaries much closer to market.

Most start-ups also present equity as a form of compensation for work performed (trading cash for illiquid options). To take away that earned and vested compensation component because an employee doesn't have the money to exercise within the 90 day is not only arbitrarily absurd but also grossly unfair in my opinion.

> Early employees often have an outsized impact on the trajectory of a company

Mmm... I think we'll have to agree to disagree there... Seems to me that the bulk of the work adding value in a company, even if it's "just maintenance", is in the marathon and not the sprint. The initial engineers who contributed to Google Search no doubt contributed value but it's the folks who kept it going strong (and changing for the better) for many years afterwards that are the real company heroes.

And if someone is really such a special snowflake, I don't see why they'd bother working for someone else instead of founding their own company. If they expect to get paid proportionally that is.

> get it to a point where additional hiring is possible

Usually investors do this by injecting cash, at least in your traditional high growth "startup".

> To take away that earned and vested compensation ... is ... grossly unfair

How is it unfair if the employee agrees to the terms walking in?

If Joe Vendor down the street sells something to you at a loss, do you feel bad about buying it anyway? Likely not, since he happily signed it over to you for a reduced price.

If a company really believes that, they're free to back-load their grants and vesting. The reason they generally don't do this is because "dead equity" isn't a real problem. I'm nearly certain most employee options go unexercised. For one thing, most employees don't vest their full grant before they move on. And those that do often can't afford to buy it anyway.

The one exception might be the handful of employees that joined before the first big round, who might still be able to exercise at a negligible strike price. Again, I don't think it's a real problem in the grand scheme of things.

Good point. My thought is that to compensate the people who stick around you have to combine two things: 1) vesting period (already happening for virtually everybody), and 2) a predefined plan to give people increasing amount of options for staying longer. So basically get 20k options in year 1, 30k options in year 2, 50 options in year 3, 70k options in year 4, or something like that.. so if you leave after 1 year and have the 10 year vesting period, you end up missing out on multiple option granting periods. The dead equity often is a small portion of around 10-15% of total equity in the company. So assuming that there are maybe 5 employees floating out there in the wild with this "dead equity", they probably are comprising a tiny portion of the equity in the company -- most likely around 1% of the company equity max. If that 1% of dead equity is having any kind of real effect on the companies day to day situation or ability to raise funding, I would be thinking the company is in some serious shit.. Yea definitely agree with the IRS trying to fix this. Think of it this way, in one case the founders get a ton of money during the IPO event. They have tons of resources and time to figure out how to avoid paying as much taxes as possible. Versus if you have a ton of people who now get relatively large payouts of stock options worth say 300k or so, those people will likely end up paying 20-30% tax or more on that since they have less ways they can try to reclassify the capital gains -- and maybe will just opt to sell everything short term and pay maximum capital gains. But the rich guy who just did the IPO is like, "eh, I already got like 10 million in the bank, so lets see.. if I just say that my stock is worth 0.1 cents per share, then put into my Roth IRA, then I can cash it out in 20 years with a 1 million X gain with no taxes.."

or, you know, just get rid of the idea of a separate capital gains rate.

"A 90-day window might be better for you if you want to stick around at a company for a while"

I don't know many people that go into a job not wanting to stick around for a while. But that's at the beginning of the relationship, when everything is rosy. After the honeymoon, if it turns out that the company is toxic, things change.

"They're your employer, not your parents."

This statement makes no sense. That doesn't mean they aren't obligated to act ethically.