Although it has historically been relatively easy for companies to enforce non-competition agreements against employees in New York State, compared to, say, California, where such provisions are unenforceable, the New York Attorney General’s office has recently been cracking down on broad use of non-competes on lower-level employees.

Although the two types of provisions are often conceptually lumped together, it’s important to distinguish non-competes from non-solicitation agreements. With non-competes, although companies have valid business reasons for wanting their employees to refrain from leaving and starting a competitive business, potentially using the trade secrets they have learned on the job, as a matter of public policy, they are frowned upon for reducing worker mobility and harming economic growth. Non-solicitation provisions, on the other hand, which prevent departing employees from taking other employees or customers with them to their new venture, don’t raise the same policy concerns and, accordingly, are not the focus of the New York initiative.

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The well-known venture capital firm, Andreessen Horowitz, is now recommending to its portfolio companies that employees who hold vested stock options and leave the company have a much longer period following departure in which to exercise the option. As noted in the Andreessen article, the typical stock option will permit exercise within 90 days following departure. Andreessen is recommending that the period be extended to 10 years.

The rationale for this change is that, upon departure, many employees simply do not have the cash needed to exercise the option and then to pay the taxes that are imposed upon exercise. If the company is still private, the employee will likely not have the ability to immediately sell the shares following exercise, which would otherwise solve the cash flow issue, at least as to the taxes. By extending the period in which the employee can exercise, there is time for the employee to raise the funds to pay the exercise price and taxes, or even better, for the company to be sold or go public, allowing the employee to immediately realize value on the option. Alternatively, the company might fail sometime during the 10 years following departure, in which case the employee will be happy not to have forked over money for a share purchase and taxes and nothing to show for it.

This is an unambiguously better deal for employees, though the Andreessen post details some tweaks companies can make to the grants to protect itself. One might wonder why a VC firm is advocating a pro-employee change in terms. I think the answer is that a 90-day exercise period poses significant practical issues for employees who don’t have much ready cash and it therefore could discourage potential employees from joining a startup and not practically being able to realize value in an equity grant. By extending the period to 10 years, companies can potentially increase the pool of qualified employees.

Steven Davidoff Solomon, the New York Times DealBook’s Deal Professor, highlights an academic paper that he and others wrote, advocating tenure voting for public companies.  The basic concept is that the longer you hold a company’s shares, the more voting power you have when the company conducts shareholder votes.  The purpose is to incentivize long-term holding and accordingly dilute the voting power of activist shareholders that buy up a block of shares, immediately agitate for change that helps them in the short term, and then unload the shares, to the ultimate detriment of the company.  In fairness, I should note that the activist investor community contests this characterization of what they do, arguing that the changes they demand are beneficial to the companies in the long-term as well.  I will not wade into that argument but simply assume for the sake of this post that as a policy matter, we should try to encourage a long-term orientation among shareholders. [Read more…]

The Wall Street Journal recently detailed the increasing willingness of service providers to startups to accept the startup’s equity as payment for services.  With the startling growth of so-called unicorns, private companies like Uber that have achieved stratospheric valuations, there is a hope among many vendors that they’ll get lucky with one or more of the startups in which they accept equity.  I previously wrote on this topic, focusing specifically on law firm payment arrangements.  That post mainly addressed the possible conflicts of interest that can be associated with equity compensation, but for today I want to focus on whether it makes sense, as a business matter, for service providers to accept equity.

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