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I'm currently working at a company that was acquired in the not too distant past. The company is still relatively small and still has a "start-up" mentality in a lot of ways, for better or for worse. One of those ways is employee compensation. Before acquisition (I was at the acquired company) employees were paid below market value, but also given stock options. Those then paid off upon acquisition as these things tend to do in fortunate circumstances.

The problem now is that the salaries are not up to market value for a decent sized chunk of the company. There are a number of reasons for this, but I believe a big part of it is that the company is acting in a very "growth industry" and is currently waiting on the "hockey stick" moment of exponential growth in orders to occur. They would then like to keep costs down to stretch out the investments from the parent company for as long as possible until they are self-sustaining. This to also compensate for the fact that the company is growing to accommodate the size and scope of sales we are expecting versus those that we have now.

The question then is: how to compensate employees that may be making below market value without directly increasing their salary.

At a traditional start-up, this would often be done via stock options and a vesting schedule with the hope that it will retain people at under market value for longer periods of time. In my understanding (and experience), the value of those stocks to the employee really only comes into play if the company is acquired or goes public. As such, in the case that an employee is confident that the company is not going to be sold nor go public, they seemingly have little effective value. I know it's also possible for companies to buy back the options or issued stock, but again, it's my understanding that this is usually under one of these two contexts. Definitely correct me if I'm wrong though.

At a previous start-up I worked at, part of the employment contract for employees included a type of "coupon" (my word here, not theirs). In the case that individual contributors were provided services below market (sometimes nothing) and either without stock options or with options provided insufficient to cover the value, 'coupons' were issued. These could be immediately redeemed for a value of well under market for the amount worked, or could be held until a future date (what I'll refer to as a 'vesting period' or 'maturation period', as it seems to apply) at which point they could be redeemed for beyond market value. The amount of time and amount of compensation can be tailored to the company's situation.

So net net, I'd like to make the recommendation to the company that they adopt this kind of system. This will allow for them to pay compensation beyond the below-market salaries without having to dilute their ownership and in a way that the employees appreciate because there is a directly calculable value. It also has the benefit of keeping people around using positive reinforcement instead of negative reinforcement a la "employment bonds".

So, what is this kind of deal called? When I make the proposal, I'd like ideally for me to point directly to existing term-of-art both to give the idea credibility as well as to ease the burden on and concern from the legal and finance teams so they don't have to invent anything. As you can see from the question, I referred to this as a sort of "Corporate Bond". When I look into this concept, I mainly find descriptions of securities that companies sell to investors to raise money.

Finally the questions: Would it be accurate to describe the method above as having the company issue "corporate bonds" to the employees? If not, what would be a better way to describe it? Is it at all common? What are any downsides to this over stock options, under the assumption that the employee assumes that the company won't be sold or go public?

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I could be wrong, but it sounds like you're talking about convertible notes

Promissory Note / Convertible Note

A promissory note is evidence of indebtedness. The company could give employees a promissory note in lieu of payment for services rendered, and then the company can repay the note at a later date when additional funds are available. The company can also “pay” the employee with a convertible promissory note, which is similar evidence of indebtedness, except that it may be converted into shares of the company on a set date or upon the occurrence of an identified or specific event, and at a set conversion price per share. The employees would receive interest on the amount of debt owed (which interest may also be converted into shares on the occurrence of a specied date or time), or, payment of this interest owed may be postponed until the maturity date of the note. Typically, interest rates on a convertible note are higher, but this interest is usually added to the debt owing and converted into shares so it does not need to be paid directly.

source: https://www.lexology.com/library/detail.aspx?g=0305649c-7b09-4921-9b2c-6248cea38333

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    That looks like exactly what I'm looking for, thank you very much! It looks like they also have common features like 'maturity dates' etc, that I'm looking for. It also means that it's possible to create a situation where if the company doesn't know the set date that the returns will come, it can continue to accrue interest (or not potentially, if they set it to). – Nate Diamond Sep 4 '18 at 22:26

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