The Fairshare Model a performance-based capital structure for companies that seek to raise venture capital via an initial public offering. The concept can be applied to an initial coin offering to raise equity capital. I call it the Fairshare Model because it balances and aligns the interests of investors and employees—capital and labor.
When a conventional capital structure is used, the issuer and investors must agree on a value for future performance when an equity investment is made. The Fairshare Model is unconventional because it places no value on its future performance when it has an IPO. Thus, a company that adopts it effectively presents IPO investors with zero valuation risk.
The Fairshare Model has two classes of stock. Both vote but only one can trade. To make it easy to distinguish them, I call the tradable stock “Investor Stock,” and the non-tradable one “Performance Stock.” In practice, Investor Stock will be the issuing company’s common stock, and its Performance Stock will be preferred stock or a separate class of common stock.
- The tradable Investor Stock is issued to pre-IPO and IPO investors—employees get it too, for performance delivered as of the IPO.
- For future performance, employees get the non-tradable Performance Stock.
- Performance Stock converts to Investor Stock based on rules established by the pre-IPO shareholders and described in the company’s offering documents.
- The criteria for conversions can be changed if the two classes agree.
A challenge for Fairshare Model issuers will be how to define performance, how to measure it, and how to allocate the benefits of it among employees.
There will be variation in how companies do these things, reflecting their industry, stage of development, and the personalities of decision-makers.
With that qualification, here are five categories of performance that issuers might adopt:
- Market capitalization—defined as the price of Investor Stock multiplied by the number of shares of Investor Stock outstanding.
- Developmental milestones such as release of a product or securing intellectual property.
- Operational measures like customer acquisition and retention, or measures of quality.
- Financial measures like revenue or profit.
- Measures of social good
- The eventual acquisition price of the company, if applicable.
There are two profound consequences for issuers that adopt the Fairshare Model:
- A company’s management has incentive to offer IPO investors a really low valuation. After all, if a rise in the market cap of the company is a performance measure, it makes sense to set the pre-money valuation very low—like a Black Friday sale (the day after Thanksgiving). So, in addition to the allure of the company’s business, investors will be drawn to the financial deal.
- A Fairshare Model issuer will have a competitive advantage when competing for human capital. In addition to a salary and benefits, it’s stock options will have more upside than those issued by a company that used a conventional capital structure to go public. More significantly, it will be able to offer something such companies cannot–an interest in it’s Performance Stock. A Fairshare Model issuer will say, “If we—as a team—meet the performance milestones, we share in the wealth our labor creates.” Someone’s share in the Performance Stock pool will be determined by the Performance Stock shareholders—when an employee is hired, or how aggressive a negotiator they are need not be a key factor in how they participate.