The Board Member's Guide to Employee Led SPVs

Target Audience

  • Board members

    • of US based venture capital backed companies who want more equity upside.

  • Everyone: see the Master Plan

Overview

Every board member has two core fiduciary duties:

  • Care

    • Bring focus and attention to acting in the company's best interest

  • Loyalty

    • Act in the best interest of the company and shareholders

Encouraging employee led Special Purpose Vehicles (SPVs) helps board members better fulfill these core duties.

Background

What are the different types of board members and how are they compensated for these duties and the extra liability they entail?

  • CEO/co-founders

    • Common stock purchased at founding and follow on option and restricted stock grants

  • Lead investors of each funding found (“investors”)

    • Carried interest and management fees. The investors' LPs pay these fees.

  • Independent directors

    • The company will compensate the independent directors. Sometimes 0.5%-2% equity in the form of option grants of common shares. This percentage drops as the company grows. The company may sometimes compensate independent directors with cash in addition to the equity.

The board supervises the CEO. The CEO supervises employees. Employees are compensated with cash and options that allow the employees to purchase common shares at a discount to market price.

The difference in incentives creates principal agent misalignments between the various stakeholders.

Solution

Employee led Special Purpose Vehicles (SPVs) dramatically improve incentive alignment which will lead to stronger performance for the shareholders.

An employee SPV is like any other SPV on the cap table except that it is led by an employee and that employee earns the carried interest from the SPV at exit.

Employees who lead SPVs have hybrid incentives. They have the common stock incentives of founders, independent directors, and employees. They also have the carried interest incentive of investor board members. As a company grows in headcount, the CEO's decision making will become primarily strategy and hiring. In a healthy organization, the CEO and other leadership will continually delegate day to day decision making to the lowest ranked feasible employee.

Encouraging employee led SPVs ensures that the interests of all parties (shareholders, board members, CEOs, executive leadership, etc.) are aligned. This simultaneously reduces managerial load for all parties.

Resources

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