System #15: Dilutive Time-Based Equity

Having been a consultant, a gig worker, an employee, and an employer, I've been fascinated with the idea and implications of the way we pay one another. The strings that come with those contracts of payments and the dynamics that they illicit in us. Solely by their own merit, they can enhance productivity, empower employees, and elevate the culture, or not...

Pay Per Hour

Let's take one of the most ubiquitous modes of payment in the jobs that most of us would call work – pay per hour. This mode pays the employee for every hour that they work. The employee wants the highest pay possible, and the employer aims for the lowest pay possible, to still attract talent. The employee, other than not applying for the jobs that don't pay enough, doesn't usually have much say on the hourly number (unless he has a rare-ish skill). He does, however, have much say over his effort. He can increase his pay per hour of effort which he'll keep just above the threshold of losing his job. This creates an antagonistic relationship between the employer and employees which necessitates the hiring of a manager or "slave-driver" to increase the effort, or productivity of the business using the motivation of fear (of losing your job). Unfortunately, as this is the largest mode of payment, it paints a picture in most people's eyes of people being irresponsible, lacking self-motivation, and lacking ownership of their tasks, leading them to NEED management. Even while this view has been culturally indoctrinated, the effect can be reversed, in most cases, when a person shifts to be included in a different payment mode.

...creates an antagonistic relationship between the employer and employees.

Salaries

Salaried jobs suffer from the same issues as hourly pay, with one exception; "stability." Hourly pay can depend on a schedule, if you don't get shifts, you don't get paid. This can, unfortunately, lead to some catty behavior, affect team and company culture. In salaried environments, if you don't have work, you still get paid, but doesn't benefit from hourly jobs' bonus pay for overtime work. This again creates an antagonistic relationship between employees and employers, where the employee is incentivized to do the least amount of work possible without being let go, and the employer is incentivized to spend money to squeeze more productivity out of his employees via managers/rules. Employees, outside of a good, stewarded work culture, unconsciously create a cartel (of sorts) which collectively puts in effort aligned with the least common denominator.

Pay Per Project

I once worked as a mason, and while I was new, and the least experienced, my boss would bring me along on material or equipment runs (as the others provided more benefit for the same amount of time). I asked him, as I do, why he paid people per hour, and if he ever thought of paying people per project and I'll never forget what he said. But first he told me a story:

A while ago, he had been commissioned to build a retaining wall for a property owner. He calculated how much time it would take for a certain number of guys, and negotiated with the owner on a price. They both agreed. He then told his crew how much they would make from this deal, regardless of how long it took them. While normally, it would have taken them a week, it ended up taking them just two days. In the end, they (who usually get paid $20-25/hr) brought home somewhere around $62/hr. My boss was happy, his employees were happy and proud, but the owner was upset. Why? He had paid for a week of work! He felt like a sucker, and wanted his money back, but luckily my boss was able to explain to him that what they had agreed to WAS a fair price (compared to others), and that his workers had busted their asses to make this happen.

In the end, he told me that he paid per project when he had too much work, and paid per hour when he didn't. That way he could keep his good guys, who needed a consistent threshold of income, as well as bless them when he could. He understood, as they did, however, that they were much more capable than they let on.

...he paid per project when he had too much work, and paid per hour when he didn't

The difficulty with project based pay is estimating. If you over-estimate, you don't get the project, if you under-estimate, you could lose money. However, if you've done something before, it isn't too hard to estimate. There's money to be made by turning the unpredictable into the predictable. And this is the bread and butter of a majority of businesses; being paid per project but paying employees per hour or per year.

Equity

These previous forms of payment are fine for many people, but it always exchanges work/effort/attention for pay. Equity, on the other hand, exchanges effort for ownership. Equity is the first form of payment that we've analyzed that removes the person from the rat race; the first form of payment that can grow without direct input from its bearer. This is also the first form of payment that aligns the incentives of the employer and employee. Both of them now want to grow the business and increase the worth of their equity. However, both of them now, also want to guard their equity.

This is also the first form of payment that aligns the incentives of the employer and employee. ... However, both of them now, also want to guard their equity.

Imagine you have a sole company owner (owning 100% of the equity) of a company worth $1 million. He hires an employee who helps him grow the company to $2 million. He then decides to share equity with this employee. Let's imagine he's super generous and gives him 50%, now the owner is back to where he started, with his equity still worth $1 million, even with all the hard work he put in.

Imagine instead, that he gives 10% away. And then hires another employee and wants to give him equity. But where does the equity come from? Does it come all from the owner lowering his share to 80% (non-dilutive)? Or does it come from the company (both owners together) lowering their respective shares to 83.33% and 8.33% (dilutive)?

As you can see, there's a barrier to giving this away, as it "hurts" the owners of the company.

Many companies create a pool of shares that are available to be given out so that ownership ratios don't have to be recalculated with every new person who gets equity.

Dilutive Time-Based Equity

I'd been thinking of a better way to create a company that would inspire productivity and distribute the wealth, abundance, and responsibility that gets created by the coming together of minds, and I thought of an idea (let me know if this already has a name) but I've decided to call it Dilutive Time-Based Equity.

Imagine, instead, that our owner created a company with a constitution that awarded 1 token of equity per month to its members. Then at the end of the year (or quarter), some amount (maybe 10% or even 50%) of the net profit of the company would be distributed among its token holders.

Our little company owner hustles for a year, and gets enough work to hire someone else (per hour, or salaried). Maybe there's an integration period for new hires (but that may not be needed). Now, after a year plus a month of integration, and a month of work, our new hire makes his first token. The company ownership would now be:

• Owner - 14 tokens = 93.33%
• 1st Employee - 1 token = 6.66%

Now imagine that 6 months later, this "cooperative" decides to hire two new people. After their integration period, they start earning tokens and at the end of the second year, the company ownership landscape would look like this:

• Owner - 24 tokens = 58%
• 1st Employee - 11 tokens = 27%
• 2nd Batch - 3 tokens = 7.5% each

As you can imagine, you'd need to make sure you hire well, and fire quickly but if you did, each employee would immediate feel impactful and be rewarded for the growth that the company has. As the years progressed, if the company stayed the same size, all employees' ownership would converge on even divisions. In this case, with 4 owners, it would converge on 25%:

• Owner - 144 tokens = 27.6%
• 1st Employee - 131 tokens = 25%
• 2nd Batch - 123 tokens = 23.6%

As the years progressed, if the company stayed the same size, all employees' ownership would converge on even divisions

A Safety Net

A wonderful thing about this type of structure would be a built-in safety net. Imagine that you now wanted to go out on your own and start a new company, or that you needed parental leave for your new child, or a sabbatical. You would still keep your tokens, and their respective dividends but you wouldn't be acruing them on leave, or once you leave. This would provide a platform and income for you to spread your wings and get paid for the work you contributed to help that company grow. As the company scales, these tokens would become negligible but would commemorate and reward you as a builder of the company.

You could theoretically even sell your tokens back to the company (for a cash out) if the company/cooperative wanted as that would directly increase their future dividends.

Investing

The interesting thing is that this company could even take investments that could be rewarded with tokens. The investments would be paid over the life of the company through the dividends that the tokens symbolize. This would essentially be paid back by the owners of the company by taxing their future dividends. This one-time investment ownership would become negligible as the company grew. And, as with our other example, could potentially be bought out after a certain amount of time.

This would make us have to revamp our understanding of how investments work but would align all the actors towards the same goal, to grow the company.

An Aside

I worked for a wonderful company in San Diego that went through an acquisition with private capital. Before the acquisition, we were small but mighty. At 20, or so odd people, we were catering to 8 of the Forbes 10. We had no sales team, since customers were coming to us so overwhelmingly that we actually had to turn folks away. But instead had a great "marketing" department (the owner) and incredible story telling and branding.

The company was successful, we were the best in our ecosystem, and it filtered through our work culture. We were blessed with the best colleagues I've ever had the privilege of working with, and each of them were inspired by one another, actively trying to live up to our collective reputation. However, once we sold, something weird happened. This company that was thriving, and didn't have any debt, now was supporting a shadow version of itself since it had to finance the debt that was used to buy it. No longer was it nimble and agile, as this agility became replaced with the heaviness of carrying the burden of a debt to be owed. Quickly the myriad of clients we had became "not enough." And the joy of working was replaced with a desperate need for survival, for profitability. With the desperation came the rules, such as the dreaded "utilization" or the ideologically driven reorganizations. Gone were the days of innovation, curiosity, and drive, which were soon replaced with needing to be driven, management ballooned, silos were formed, and egos came out, as everyone wanted a piece of the pie.

All of this made a few folks enormously wealthy, and left the others with salary bumps, maybe a retention bonus (increasing the burden on the company), and even fewer got equity in the new acquiring company. This is what prompted me to find a better way. Even my dream company wasn't structured correctly. The joy of creating with other wonderful people wasn't enough, though it sure felt like it was at the time. People, I realized, needed ownership of the fruits of their labor. This, actually, is a cause of poverty, as outlined in Henry George's book, Prosperity and Poverty, that "men no longer own[ed] the fruits of their labor" (as it was given out for rent).

Advanced Features

With this new structure, and your new found ownership, there's a few new things you all could do. Maybe your constitution allows owners to reinvest their dividends into the company for more tokens? Or maybe you could outright buy more tokens to keep funding the company? You could even collectively decide to forgo dividends some years to help your company grow. The thing I like the most, other than distributing ownership, wealth creation, pride, and responsibility is that each role in the company would need to be impactful. The people you hire, and keep, would need to be able to hold their own, and contribute to this growing organism. This type of structure would pair wonderfully with a decentralized management system such as Holacracy (which I'll write an article on at some point).

Potential Pitfalls

While trying to wrap my head around this new possibility, I was trying to understand ways that this could be abused, or things that would cause this not to work. I wanted to bring them to light as they can be worked around, but need to be known:

• What's considered a "net profit"? (All sorts of bookkeeping gynmastics can be done to pay people bonuses and such while removing that from net profits affecting the entire company).
• Too large of a dividend (stunting company growth)
• Hiring bad employees (who decides when and who to hire?)
• Abusing new hires (Creating too many hoops or requirements to start accruing tokens)
• Potentially difficult for investors to understand (difficult to raise capital).
• Fairness? Different rates of accrual? (factory worker versus machine builder for the factory)

Conclusion

The way we pay, or get paid has drastic implications on how our world works. I believe that everyone wants to have their skills valued, and their efforts rewarded. Although our current system of rewarding work is deeply ingrained, it doesn't mean there doesn't exist other ways. Imagine a model where those who contribute to building a company share in its growth and success, motivating them to reach their highest potential rather than just meeting minimum expectations to keep their jobs. What if companies were founded on the principle of Dilutive Time-Based Equity, where those who helped build them gained ownership? We wouldn't need to 'tax' the rich, because wealth would be shared more broadly. Consider if you owned a small (or if you worked at one company all you life - significant) piece of every company you've ever worked for. This would lead to a more equitable distribution of prosperity within our society. Perhaps it's time we reflect on what our time is truly worth and whether we're allowing ourselves to be compensated fairly. Selling our time might seem convenient, but is it the kind of world we aspire to create?