Question: I’m an accomplished salesman looking for a new company in my industry. I would be able to add considerable value to the company.
I am wondering if it is acceptable to ask for an equity stake, and if so, how to do so?.
West Palm Beach, Florida
Answer: Dear John: It is not very common for a prospective employee to ask a prospective employer for an equity stake right off the bat – without either “side” knowing the other all that well. While it does happen, it happens much more commonly by either an agreed “buy in” or “earn out” – or both – by means of a specified financial investment, accomplishment or tenure. Please let me explain:
1. As an analogy, it is not common for two people to agree before the “first date” to “marry,” because there is so much to find out about one another before making a serious commitment. The employment relation is a working relation that has generalized expectations of employer and employee, some even set by law. The employee provides services and the employer provides compensation. By law, the employee must remain “loyal” to the employer, and the employer has many legal requirements to keep, such as providing a safe work environment, not discriminating in hiring or compensation, and paying certain additional taxes, such as Social Security. It is not too hard to get into the employment relation, and not too difficult to get out of the employment relation.
In comparison, having an equity stake, as explained more below, is not at all “regulated,” but rather something that is set almost entirely by voluntary agreement, without any pre-set legal expectations or parameters. Being a part owner entails a greater level of clarity on many more points than employment does. Because part ownership is a much more variable relation, and co-owners can agree on almost anything they wish, it is not common for relative “strangers” to enter into ownership relations with each other, before they really get to know each other, and each other’s business acumen and abilities.
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2. Being an equity stake owner can also result in serious and long-term legal obligations and significant financial liabilities. Another reason it is not common for a prospective employee to ask for an equity stake in a prospective employer from “day one” is that having an equity stake may make the employee liable for many different company obligations, including unpaid taxes, uninsured legal claims, and unpaid wages, even when the employer is set up as a corporation or limited liability company. That is, there are far greater risks involved in becoming an equity owner than many imagine, and risks are to be assumed only very carefully and deliberately.
3. It is more common – and sensible – for a new employee to ask for the future right to become an equity owner, by choice, after learning more about the business and his or her prospective partners. Much more common – and wise, if you ask me – is for a new employee to ask that he or she have the right to either (a) buy an equity stake in the company in the future at some pre-set formula, if he or she then feels confident it is a good idea (commonly called a “buy-in”), or (b) earn an equity stake in the company if he or she achieves certain agreed-upon, pre-set goals, such as bringing in $2 million in revenue two years in a row, or is simply still employed after, say, three years (commonly called an “earn out”), or (c) most commonly, a combination of the two, that is, part “buy-in” and part “earn-out.”
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4. The best request for an equity stake requires a three-pronged “pitch”: (a) Value, (b) Vision, and (c) Vesting. As a salesman, John, surely you understand that you need to have a “pitch” prepared to make any “sale.” In my years of counseling executives in search of an equity stake in an employer, I suggest something I have come to call “Value, Vision and Vesting,” as follows:
(a) Value: This first pitch is a simple one: for a salesman, it is that “I can sell a lot, or open up new markets, or create new channels for sales.” For a baseball player, it is probably “I can hit 100 home runs, and attract many more viewers to watch your games on TV.” Of course, the pitch must appeal to the employer’s perception of your value, not your own sense; so many people have a higher sense of their own value than their employer’s, rightly or wrongly.
I have seen many situations where a new employee – often a celebrity or media star – is seen as so valuable that he or she is given a very substantial part of a business, at times even a majority stake, based on perceived value, alone. As a successful salesman, you know that it is the customer’s sense of value that counts, little else.
(b) Vision: Where do you and the prospective employer each want to take the company? If it is either a common vision, or at least compatible ones, that is great. If it is a contradictory vision, you’ll have a much harder time “selling” it. Shared vision is critical, although not crucial, to a long, successful business “marriage.”
(c) Vesting: This third pitch is based on a combination of some degree of “buy-in” and some degree of “earn-out” over time. If you don’t want to “invest” an appreciable amount of time, effort or money into the endeavor, you will not be seen as having “skin in the game.” And, too, your commitment may be questioned, as you would then have nothing to lose if things go badly.
If, on the other hand, you are willing to contribute some investment capital (“buy-in”), or your best efforts for a three-year period at a very reduced salary (“earn-out”), or some combination of the two, you will be viewed more positively and seriously. As an ancillary “pitch,” your interest in a long-term, “committed” relation will likely be viewed positively, provided your initial “value” is viewed as significant.
5. If a new employer agrees to grant you equity, whether now or in the future, negotiation of a written agreement describing how that will work surely requires the use of an experienced business attorney. As our frequent blog readers know, I do not often suggest the use of an attorney unless it seems absolutely necessary. However, this is one area of employment where I definitely do recommend the use of experienced legal counsel. I do so because there are many intricacies and details to be carefully attended to in such a written agreement. If not carefully handled, it could end up costing you many thousands of dollars invested and perhaps even years of effort invested, all lost by “wording.” Sadly, I’ve seen it happen many times.
Remember that your prospective employer will almost surely have an experienced attorney by his or her side, and looking out for his or her interests. Without your having an experienced attorney on your side, it is possible:
(a) You will forget that being an equity owner also entails possible liabilities, which must be avoided if at all possible, or that you will bear an inordinate degree of risk;
(b) You will end up, after years of efforts and sacrifice, finding out that quite unexpectedly you are not going to enjoy the “fruits” of your labors because, for example, you were laid off two days before the bulk of your equity vests;
(c) You will be notified that, while your shares have been “diluted” severely, making them near worthless, while other partners’ shares have not been diluted, making your equity worth 99% less than you expect; or
(d) You will find yourself in a legal dispute with your business partners without any way of getting legal redress because, for example, you have no right to examine the company’s financial records.
These are just a few of the many pitfalls that can make a grant of equity rather “inequitable,” and that can be spotted, and negotiated away, by experienced legal counsel.
The three main categories of detail that must bear the examination of your attorney include those regarding: (a) “control” of the entity, and how that “control” can be changed; (b) “ownership” of the entity, and how that ownership can be changed or affected; and (c) “profits” of the entity, that is, how they will be divided and distributed, and how that division and distribution can be changed.
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John, I hope you find this responsive to your inquiries and helpful to you. Your question about asking for equity is a good one, and one that I think will help a lot of people. Good luck as you move forward and, I expect “upward,” as well.
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