Remember the scene in The Social Network when Facebook Co-founder and CFO Eduardo Saverin (played by Andrew Garfield) has his shares diluted by Mark Zuckerberg and Sean Parker and comes storming into Facebook headquarters demanding to know why it was done...
Even though the real Mark Zuckerberg has said the story portrayed in that movie is not how it really happened, many of the business related facts are true. Who knows if Saverin really confronted Zuckerberg and Parker in that way, what we do know is Saverin shares were diluted and Severn did successfully sue Facebook for 4-5% of the company. Those shares are now worth around $5 billion.
Zuckerberg's intention at the time was to limit Saverin's say in how Faebook was funded. He did this by creating a new company that acquired the old company and gave equal shares in the new one to everybody but Saverin.
Business Insider has uncovered the the Email correspondence between a then 20-year-old Zuckerberg and his lawyer, discussing how to ease Saverin out of the company:
This email should probably be attorney-client privileged, not quite how to do that though.
Anyhow, Sean and I have agreed that a price of one-half cent per share is the way to go for now. We think we can maybe almost justify and if not, we'll just deal with it later.
We also agreed that if the company bonusing us the amount we need for the shares, plus tax, is a good solution to the problem of us all being completely broke.
As far as Eduardo goes, I think it's safe to ask for his permission to make grants. Especially if we do it in conjunction with raising money. It's probably even OK to say how many shares we're adding to the pool. It's probably less OK to tell him who's getting the shares, just because he might have adverse reaction initially. But I think we may even be able to make him understand that.
Is there a way to do this without making it painfully apparent to him that he's being diluted to 10%?
OK, that's all for now. I'll send you the list of grants I need made in another email in a second. Sean can send you grants for his people when he stops coughing up his lungs.
Hope you guys both feel better,
Here is the lawyers response:
…I spent some time discussing the risks associated with making these grants and picking the per share price of common stock. Mark, you and I should discuss these at length to insure that you understand them. I've outlined them below for your easy reference.
The broad categories of legal risk are a) fiduciary duty. As Eduardo is the only shareholder being diluted by the grants issuances there is substantial risk that he may claim the issuances, especially the ones to Dustin and Mark, but also to Sean, are a breach of fiduciary duty later on if not now. I believe that you previously disclosed these future dilutative issuances to Eduardo before the LLC merger. This is what I recommended at the time. Nevertheless, it would be great if there is some way you could obtain a shareholder consent from Eduardo approving these new issuances. It isn't *required* but it would be very advantageous and would go a very long way towards preventing any future claims he might have for breach of fiduciary duty. I mentioned this to Sean and he was going to give it some thought.
In reality, Zuckerberg's intention was to dilute Saverin's share to 10% without him noticing. He did notice, and the rest is history. As it turns out, Zuckerberg is doing okay without Saverin's input, anyway, raising $15 billion for his soon to be made public company. His stake in the $100 billion company is also considerably more.