Loans could burn up start-up workers in downturn

SAN FRANCISCO – Last year, Bolt Financial, a payments startup, launched a new program for its employees. They owned stock options in the company, some worth millions of dollars on paper, but couldn’t touch that money until Bolt sold or went public. So Bolt began making them loans — some reaching hundreds of thousands of dollars — against the value of their shares.

In May, Bolt laid off 200 workers. This gave those who took out the loans a 90-day deadline to repay the money. The company was trying to help them figure out repayment options, said a person with knowledge of the situation, who spoke anonymously because the person was not authorized to speak publicly.

Bolt’s program was the most extreme example of a burgeoning ecosystem of credit for workers in private technology startups. In recent years, companies like Quid and Secfi have sprung up to offer start-up employees loans or other forms of financing, using the value of their private company shares as a form of collateral. These providers estimate that start-up workers around the world have at least $1 trillion in equity against which to lend.

But with the start-up economy now deflated, battered by economic uncertainty, rising inflation and rising interest rates, Bolt’s situation serves as a warning of the precariousness of those loans. While most of these are structured to be forgiven if a start-up fails, workers could still face a tax bill as loan forgiveness is treated as taxable income. And in situations like Bolt’s, it can be difficult to repay the loans in the short term.

“Nobody has thought about what happens when things go wrong,” said Rick Heitzmann, an investor at FirstMark Capital. “Everyone only thinks about the positive.”

The proliferation of these loans has sparked debate in Silicon Valley. Proponents said the loans were necessary so employees could participate in the technology’s wealth-creating engine. But critics said the loans represented an unnecessary risk in an already risky industry and were reminiscent of the dot-com era in the early 2000s, when many tech workers were badly burned by loans related to their stock options.

Ted Wang, a former startup lawyer and investor at Cowboy Ventures, was so alarmed by the loans that he blogged in 2014: “playing with fire‘ which discourages most people. Mr Wang said he got a fresh round of calls about the loans every time the market overheated and always feels obliged to explain the risks.

“I saw this go wrong, badly wrong,” he wrote in his blog post.

Start-up loans arise from the way workers are typically paid. As part of their compensation, most employees of privately held technology companies receive stock options. Eventually, the options must be exercised or purchased at a set price in order to own the stock. Once someone owns the shares, he or she usually can’t cash them out until the start-up goes public or is sold.

This is where loans and other financing options come into play. Start-up stocks are used as collateral for these cash advances. The structure of the loans varies, but most providers charge interest and take a percentage of the employee’s stock if the company sells or goes public. Some are structured as contracts or investments. Unlike the loans Bolt offers, most are known as “non-recourse” loans, meaning employees don’t have an obligation to repay them if their shares lose value.

This lending industry has experienced a boom in recent years. Many of the providers were founded in the mid-2010s, when hot start-ups like Uber and Airbnb delayed IPOs for as long as possible, reaching valuations in the tens of billions in the private market.

This meant that many of their workers were “golden handcuffed” and unable to leave their jobs because their stock options had become so valuable that they could not afford to pay the taxes based on current market value on their exercise to count. Others got tired of sitting on options while waiting for their companies to go public.

The loans, meanwhile, have provided start-up employees with cash, including money to cover the cost of buying their stock options. Still, many tech workers don’t always understand the intricacies of equity rewards.

“We’re working with super-smart computer science AI grads from Stanford, but nobody explains it to them,” said Oren Barzilai, CEO of Equitybee, a website that helps startups find investors for their stocks.

Secfi, a provider of financing and other services, has provided $700 million in cash funding to startups since it opened in 2017. Quid has provided hundreds of millions in loans and other financing to hundreds of people since 2016 most recently $320 million fund is backed by institutions including Oaktree Capital Management and charges those who borrow originating fees and interest.

To date, less than 2 percent of Quid’s loans have been underwater, meaning the stock’s market value has fallen below that of the loan, said Josh Berman, a founder of the company. Secfi said 35 percent of its loans and financing have been repaid in full and the loss rate is 2 to 3 percent.

But Frederik Mijnhardt, CEO of Secfi, predicted the next six to 12 months could be difficult for tech workers if their stock options fall in value in a downturn but they borrowed at a higher value.

“Employees could face a billing,” he said.

Such loans have become increasingly popular in recent years, said JT Forbus, an accountant at Bogdan & Frasco who works with start-up employees. An important reason is that traditional banks do not lend against seed capital. “The risk is too great,” he said.

Employees at startups pay $60 billion a year to exercise their stock options, Equitybee estimates. More than half of the options issued are never exercised for a variety of reasons including being unable to afford them, meaning employees forego part of their compensation.

Mr Forbus said he had to carefully explain the terms of such deals to his customers. “The treaties are very difficult to understand and they don’t really do the math,” he said.

Some founders regret taking out the loans. Grant Lee, 39, worked at Optimizely, a software startup, for five years and collected millions worth of stock options. When he left the company in 2018, he had the choice to buy or forego his options. He decided to pursue them by taking out a $400,000 loan to cover expenses and taxes.

In 2020, Optimizely was acquired by Episerver, a Swedish software company, at a price below its last private valuation of $1.1 billion. This meant that the higher-valued stock options held by employees were worth less. Mr. Lee’s Optimizely stock fell below the value of the loan he took out. While his loan was forgiven, he still owed approximately $15,000 in taxes as the loan forgiveness is considered taxable income.

“I didn’t get anything, and on top of that I had to pay taxes because I didn’t get anything,” he said.

Other companies use the loans to give their employees more flexibility. In May, Envoy, a San Francisco start-up that makes workplace software, used Quid to offer dozens of its employees non-recourse loans so they could then get cash. Envoy, which was recently valued at $1.4 billion, didn’t encourage or discourage people from taking out the loans, said Larry Gadea, the chief executive officer.

“If people believe in the company and they want to double down and see how much better they can get, that’s a great option,” he said.

In a downturn, credit conditions can become tighter. The IPO market has frozen, pushing potential payouts further into the future, and the weak stock market means private start-up shares are likely to be worth less than they were during boom times, particularly over the past two years.

Quid is adding more insurers to help find the right value for the start-up stocks it’s lending against. “We’re more conservative than we’ve been in the past,” said Mr. Berman.

Bolt appears to be a rarity in that it has offered all of its employees high-risk personal recourse loans. Bolt founder Ryan Breslow announced the program with a Congratulations on Twitter in February, writing that it shows “we just care more about our employees than most.”

The company’s program was designed to help employees afford to exercise their shares and save on taxes, he said.

Bolt declined to comment on how many laid-off employees were affected by the loan repayments. It offered employees the opportunity to return their start-up shares to the company to pay off their loans. Business Insider reported earlier on the offer.

Mr Breslow, who resigned as Bolt’s CEO in February, did not respond to a request for comment on the layoffs and loans.

In recent months he has been involved in founding Prysm, a provider of non-recourse seed capital lending. In pitch materials sent to investors and viewed by The New York Times, Prysm, which did not respond to a request for comment, advertised Mr. Breslow as its first client. Mr. Breslow borrowed $100 million for the value of his shares in Bolt, the presentation said.

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