The Game with Alex Hormozi - I always give away equity in my companies this is why | Ep 316

Episode Date: July 15, 2021

Everyone gets the share of the pie! Today, Alex (@AlexHormozi) talks about how he is able to give away equity in his companies through a basic framework, and how he lives through one of his rules in life regarding making money for not just himself, but for everyone involved.Welcome to The Game w/Alex Hormozi, hosted by entrepreneur, founder, investor, author, public speaker, and content creator Alex Hormozi. On this podcast you’ll hear how to get more customers, make more profit per customer, how to keep them longer, and the many failures and lessons Alex has learned on his path from $100M to $1B in net worth.Timestamps:(1:33) - Vehicle for incentivizing employees, called Phantom Equity(3:32) - Purpose: employees participate and build wealth with owner(5:45) - Downsides: What if employee leaves?(6:57) - Purpose: Incentivize people to stay and grow businessFollow Alex Hormozi’s Socials:LinkedIn | Instagram | Facebook | YouTube | Twitter | Acquisition

What I want to introduce to you is just one of the many vehicles that exist to incentivize employees. And it's called Phantom Equity. Welcome to the game where we talk about how to get more customers, how to make more per customer, and how to keep them longer, and the many failures and lessons we have learned along the way. I hope you enjoy and subscribe. So I was having a conversation with a newer business owner, and he was talking about how he had this person who was good at marketing and he wanted to give them a percentage of his business, but not the whole business in order to do his marketing. And after talking about it a little bit more, it became clear that it really really,

should just have a performance relationship and not give up equity. But one of the key things is that there are positions that are more difficult to measure within a business that it does make sense over time to give some sort of equity to an employee. Because I have realized over time is that in order to grow my slice of the pie, it's better to get a bigger pie and have more people get wealthy. And so having other people use my business as a vehicle for their wealth has ultimately allowed me to gain leverage on how I can increase my own wealth. And one of my rules of life is the more money I make other people, the more money I make. And that is not just limited to your customers. It's also applies to your employees. And that's been something that it

took me much longer than I expected, much longer than I had hoped to learn. So hopefully I can transfer that lesson to you faster. Sam Walton even talked about this in his book, Made in America, how he said one of the biggest things that influence Walmart's growth is when they created their employee stock option program. And by doing that, he said there was such a tremendous amount of buy-in that the company just continued to roar and grow. And he said he wished he had done it sooner. And so taking the advice from that man and somebody who's made much less money than Sam Walton, myself, what I want to introduce to you is just one of the many vehicles that exist to incentivize employees. And it's called Phantom Equity. This is something that I have

used in every company that I own, believe it or not, I've used Phantom Equity to incentivize high-level employees in just about every company. And it happened because I actually had someone use it with me as an affiliate. So I was an affiliate of a big software company, and the CEO flew out and was like, hey, how can I make this really worth it for you to like, push this and I was like listen man like I I enjoy the you know affiliate commissions but for me to really make this like a focus I would need some sort of equity on the upside he said well what if I instead of giving you equity I can give you phantom equity and I was like what's that and so he explained it and I want to explain you

know to the extent that I understand it as an entrepreneur explaining to you is we've used it so I'm gonna break this down to the employee and the owner all right now in this case the example I just said I wasn't an employee but I I still have treatment I'll use the employee is the example here. All right. So there's a couple different variables that you can think through about Phantom Equity.

So Phantom Equity is simply put equity that is not vested but has events that can trigger its vesting. Vesting means whether it's happened or not. Like does that equity exist? Is it yours or not?

Has it vested? All right? So the first thing is a family equity is typically triggered upon a sale or a change in liquidity. Now there's variables. All of this stuff is negotiable.

All of these things have variables. So I could say, for example the phantom equity vests or you are able to participate in a transaction of the company if ownership changes if majority ownership changes so that would be a clause that I could say if I sell a majority of the company then you can liquidate your shells along with me now the reason that you might not include something like that is because a buyer might not want the key employees to leave with the liquidation event so that's something that

would protect the owner now if you wanted to say hey I want to do it so that you guys can participate then you could also put like you can sell up to this amount or you can sell proportional amounts. So there's lots of different caveats here. But big picture, most people have the phantom equity so that if there's a transaction of some sort, the employees can also participate in it and build their own wealth alongside.

The objective of phantom equities to get owner-like thinking and owner-like engagement, owner-like behavior among people who are not majority owners of the business. And a lot of times this makes a ton of sense. Like, I used to be so stingy with equity early on. Well, in the very beginning,

I was really, really loose with equity. And then I kind of like swung back to the other direction and didn't want to give anyone equity. And I feel like now, kind of fallen in the middle path of I don't need to give huge chunks away to people I need to find people who are key key players and give them phantom equity that is proportional to the effort and the contribution that they have right I used to give away disproportionate chunks and I ended up paying for it and then later

I ended up trying to find ways to incentivize hot incentivize and attract high-level employees and the best people want a stake because winners win and they want they they know they're going to win so they want to have be able to participate in the upside so number one that is where sale is triggered the second is that it's beneficial from a wealth standpoint because the employee can increase the value of their wealth, their stake, their phantom equity by increasing the value of the business, right? And the beauty of that is that it's entirely tax rate. Now, the owner and employer completely aligned on this one together. Now, from a tax standpoint, the reason you

do phantom equity instead of normal equity is that if you give normal equity, the employee also gets the downside of equity. All right? So this is good for the employee, right? It's good because the employee doesn't have to buy the equity, because normally if you actually have an equity transfer, a true transfer, then what happens, they actually have to pay tax on it because they're getting something, right? I can't just, Zuckerberg can't just give, you know, all of his shares to Facebook to somebody. They have to pay taxes on it, right? And so you can't, that is a taxable event when you transfer equity. So you make it phantom equity because it doesn't technically invest unless a trigger occurs. And so what that

does is it means that they don't have to get taxed on it, right, which is beneficial, you know, for the employee. Hey guys, real quick, if you're new to the podcast, I have a book on Amazon. It's called $100 million offers at over $8,000 five-star reviews and it has almost a perfect sport. You can get it for 99 cents on Kindle. The reason I bring it up is that I put over a thousand hours into writing that book and it's my biggest gift to our community so it's my very shameless way of trying to get you to like me more and ultimately make more dollars so that later on in your business career I can potentially partner with you so that's my give go check it out amazon and back to the show right now the downside of this though is that typically it will get

triggered as regular income um during the sale now there's ways of writing this I'm not going to get into the complexities around this but this is kind of around the vesting schedule which is when are they going to get this? So, for example, you could say, I want to give you 5% of this company, and I want to give it to you over five years, which means you get 1% a year for the next five years. And you could say, hey, I want to create a cliff, which means that after the first year, the entire first percent vest, and then after that every quarter, another 0.25% vests after that. So it means that at, you know, month 9, they're still zero vesting. And then at month, you know, 13, they'll have 1% that will have vested in its entirety. And then after

that, it's piecemeal, right? What happens if the employee leaves? Now, one of the best benefits to this and this protects the owner is what if you say you know someone comes in they're a hot shot they're you know smooth talking and they're like yeah man I want a fan of equity whatever and they're like sure I'm gonna give you 5% over the next five years right and let's say they they leave within you know X period of time now a upon the termination of the employee you can have them not get those and you can also write that into the original agreement which means that if you leave you lose your phantom equity right which also gets people to

stick with it over the longer term which is why companies employ the structure it's to incentivize people to stay and continue to grow the business right this protects the owner the tax thing it protects the employee the other piece that protects the employees that with phantom equity they're not liable right so if something happens to the business the employees and personally liable which is why this is a nice attractive thing for many people now this one is is something that's interesting i want to talk about which is profit right because a lot of times people conflate equity with profit you can be an equity owner and not participate in profit distributions. You can also participate in profit distributions and not be an equity owner.

So these things are not connected. Oftentimes we think of them together because we as owners have both, but it doesn't mean that our employees need that necessarily. And I'm not saying you shouldn't do that. I'm just saying it is yet another variable that is considered in the negotiation. And so when I'm thinking through phantom equity, most times it's going to depend on the value of the business, but what I learned from the, you know, the mentors that I have spoken with, typically when you're having a leadership type position who's a senior leadership so somebody who's like on the executive track they might get between half a percent to two percent depending again on the value of the business their seniority their experience etc and if you have a true executive that's a

huge value ad that is leading you know almost half the company etc then that is where you know sometimes three percent four percent five percent can can come into play and so this is phantom equity there are lots of different types of you know you can do bonus programs you can do ESOP, which is destroy employee stock ownership programs. There's lots of different things you can do in a business. But this is one that I have used and has been very, very helpful for me. I've had people leave who had equity and we've been able to be on good terms and everything's been fine.

They were protected from a tax standpoint. I tend to keep profit sharing, not to say that it's bad or a good thing. It's just my preference. I love the fact that my employees can grow their wealth alongside me because they hear the same videos that you guys watch. And then finally, it's nice because they think in terms of a sale so they're thinking in terms of enterprise value so the more aligned I can make my team and their life outcomes with my personal life outcomes then the moral

line will be and ultimately the faster will move in that direction because we're not you know pushing focus and effort in opposite directions we're all 100% aligned and so phantom equity is one of the best vehicles for that hope you found value in this video you can click subscribe and if you're thinking about doing something like this I'd recommend it I think that it's better to increase the size of the pie give a handful of out to people who've helped you long the way. And I think that for me, as I've shifted, I really just want everyone to be wealthy.

Heck, there's a lot of people who are broke, and the reason I made this channel is so that you're not one of them. One of the best things that I can think of is helping the people who've helped me build this. And so building my employee's wealth is something that is my, is something top of mind for me and trying to find new ways and creative ways

to build wealth about necessarily sacrificing, you know, we've built and risk to get here. So hope you found that valuable, click subscribe, and I'll see you guys next video. Bye.