Stock or Cash?

By James Kwak

I’m sure many of you saw the article featuring David Choe, the artist who painted the walls of Facebook’s first offices and received stock that now could be worth $200 million. Nice story. I was thinking, though: why was Facebook paying its vendors with stock?

I understand what you pay your early employees with stock: (a) you have to in Silicon Valley and (b) you want their fortunes aligned with those of the company. Outside board members also will often demand stock. But in most circumstances, you should pay your vendors with cash.

Giving a vendor stock instead of cash is equivalent to raising capital from that vendor—at the existing valuation. When you’re an early-stage startup, you want to raise as little money as possible, at as high a valuation as possible—because the whole point of the startup is that it should be getting much more valuable over time. There are tactical considerations, like not letting your bank balance get too low (because then your VCs will have too much negotiating power). But in general, you want to delay raising more capital until you reach some milestone that will boost your valuation significantly.

Obviously, things turned out just fine for Facebook. But it doesn’t seem like the smartest business move.

6 responses to “Stock or Cash?

  1. Decided Fence Sitter

    I think you are thinking way too much like economist/business finance type here.

    You pay someone in stock when you don’t want to pay them in cash for the services. The stock may be practically worthless now, but it may have worth later. It is a gamble for the person taking the stock, Choe, in this case, but hey that’s double or nothing. But to the layman, start-up, handing out stock is cheap, and if the company makes it big, well then it papers over the gamble, and if the stock never turns out to be worth anything, well, hey the vendor took his chances.

  2. When I read that I assumed he must have been friends (for real) with someone higher up at facebook at the time. Based on the facebook movie I believe that it must have been Justin Timberlake.

    It reminds me of this story about when Mark Zuckerberg’s sister Randi joined the company (http://nyti.ms/px9kdA):

    Mr. Zuckerberg, then 21, sat behind a desk and slipped her a piece of paper with two lines: one with her salary; another with the number of stock options she would receive. She crossed out the stock options, doubled the salary and slid it back. “He took the pen back from me and rewrote the original offer he proposed,” she said. “And, he’s like: ‘Trust me. You don’t want what you think you want.’ ”

  3. RE: Decided Fence Sitter

    Based on how much equity and how much control Mark Zuckerberg was able to retain (sounds like 28% equity and complete voting control), I think it’s very unlikely that he wasn’t savvy about distributing stock from very early on.

  4. I thought the painter was very smart …

  5. Bizarre company Facebook; valuation at 100b dollars? I remember people scratching their heads trying to figure out what the product was. Still, they make a billion in profit so they clearly do something pretty well (or very well, I should say). Having said that, the end user gets a raw deal – the company that’ll destroy Facebook is one that profit shares with the end user.

  6. You sound a bit tight fisted James!