[Fwd: Kudos and questions]

[Jeff Bone]

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Third...

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Date: Fri, 02 Nov 2001 00:37:26 -0600
From: Jeff Bone <jbone@jump.net>
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To: ThosStew@aol.com
Subject: Re: Kudos and questions
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Jeff Bone wrote:

> Let me tell you as an entrepreneur in knowledge-based industries that if
> the options go away, I go away.  And I suspect that's pretty representative of
> the attitudes of most of the early-stage folks I know.

By the way, Tom, let me expand on this just a bit.  I'm not speaking strictly of
option-based compensation to founder-execs like myself;  your position seems to be
that options period are inappropriate in IP-driven industries.  I can follow your
thought process in this already without you explaining to me, and it's actually not
nutty.  It just rests on a false assumption, and one common to folks who have not
grown up in soft technologies or taken a technical career path to management.

I would assume that the basic case you would make for stock-based compensation is
that once the IP is created, such equity gives the IP creator a perpetual vested
interest in the concern that gets ownership of said IP.  And that's fine idea --- if
IP were a static artifact.  But it's not, and this fact drives lawyers and
non-technical execs --- and apparently journalists --- slightly batty, or at least
confuses the hell out of them.

Let's say I'm a technical IC at a software company, and I come up with some great
code whirligig.  That whirligig is kind of like a painting that doesn't stay painted
forever, rather has to be reworked and retouched continuously to be of value.  Now
let's put on the entrepreneur / founder / tech-savvy manager's hat for a moment:  I'm
not interested in buying a static artifact of IP creation;  I'm interested rather in
buying the expertise over time to create and maintain that artifact.  If I give the
IC a fixed amount of stock compensation for the creation of that artifact and then
they walk, that's problematic for me.

So, you say, there are many ways to address this issue.  Don't provide lump-sum
equity chunks, rather dribble them out over time.  That's fine, one could do that.
Or grant them in a lump sum with reverse-vesting repurchase rights;  that's fine too,
and indeed that's now a relatively standard feature of founder's stock plans.
Indeed, I put that latter in the plan for my current venture; all of the founders and
founding employees have shares which reverse-vest away a repurchase right.

The problems with doing this for many people outside of a core executive team are
many.  There are many, many reasons its in the company's best interest to keep the
number of actual shareholders as opposed to option holders minimized.  Repurchase is
always harder than just vaporizing unvested options;  it creates a lot more paperwork
and legal fees;  great if you're a lawyer, bad if you're an entrepreneur.  And people
*will* leave.  I've been lucky to have fairly low attrition at my various plays, but
I wouldn't bank on that.  Then there are the tax issues, the issues of and impact on
acquisition opportunities, etc. etc. etc.  The biggest issue of all is the net effect
using stock for compensation at early stages has on setting FMV for the company;
trust me, you DON'T want to be doing that in many, many early-stage contexts.

Options exist because they are a more flexible tool than paying with shares.  When I
want to hire a VP of Marketing immediately after an A round of funding, say, options
are the right tool for the job.  Options just have a lot more flexibility for the guy
whose ass is on the line to build the team, deliver the product, and ultimately
create shareholder value.

So, there you have it.  Pro bono --- call it input for your current book.  Assuming
you even care about input from actual practitioners.  Happy to provide further
discussion in detail of option plans, cap structures, stock purchase agreements, and
about 9 million little issues related to all of those that I've had to deal with over
the years if that's helpful to you.

jb



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