$2.5 billion, the price of Zenefits shenanigans

Den Howlett Profile picture for user gonzodaddy June 30, 2016
Summary:
Zenefits continues to clean house, offers a reset in valuation for the Series C investors that sees the valuation dropped by 55 percent.

Row of washing machines in laundromat © PiXXart Photography - Fotolia.com
In the latest twist to the Zenefits saga, CEO David Sachs announced that the Series C investors who collectively ponied up $500 million on a $4.5 billion valuation will see their shareholdings boosted from approximately 11% to 25%. This is not a down round but a resetting of the valuation.

The reason given is that at the time of the round, investors were not aware of the manner in which Zenefits, under the leadership of former CEO Parker Conrad,  was skirting regulation, nor the extent to which unlicensed brokers were conducting business on clients' behalf. The implication is, that once discovered, there was a knock on effect that pegged back the company's ability to grow revenue and/or hit profitability projections.

The deal comes with strings designed to put a block on potential investor suits. According to the company,  Fidelity, TPG, Andreessen Horowitz, and Insight Venture Partners have already agreed to the deal. The $10 million, Conrad took when he sold shares shortly after the Series C investment is excluded from the settlement deal.

Series A and B investors will see some tweaks to their holdings while non-executive employees will see a 25% boost to their holdings with a 12 month vesting period via RSUs rather than straight options. Zenefits also announced further organizational and compliance clean up.

This is the latest move in Sachs attempt to clean house at Zenefits and prepare it for reset as 'Z2.0.'

There's good logic behind this move. Zenefits has been badly tarnished by the shenanigans under Conrad's leadership and while the company has taken plenty of steps to course correct, including the implementation of a Salesforce based compliance system, the future must be considered uncertain. It is likely that investors put Sachs under considerable pressure to extract what amounts to a massive penalty for being misled about the company's prospects.

It is hard to imagine that those staff who remain after the voluntary and not so voluntary culls are overly happy. A 25% uplift in holdings sounds great in theory, but it hardly compares with how much investors are benefitting. Investors will no doubt argue that they are risking cold, hard cash. But those same investors know full well that Zenefits is one of many investments in which they're betting for a monster payout in the future.

I'd argue that employees are gambling with their careers because having Zenefits on your resumé is unlikely to be viewed terribly favorably at this time.

Zenefits now needs to complete the reset operation and get back to the business of providing a compelling SMB HR offering tied to its insurance business but more with a view to selling well beyond Silicon Valley. That will be challenging in itself. Can for instance, the company develop co-marketing and development alliances with the large online accounting vendors? That would be an obvious advantage although I can equally imagine those alternative vendors being more than a little careful. The old adage of lying down with dogs and getting up with fleas springs to mind.

TechCrunch has the memo that details the deal.

Image credit - © PiXXart Photography - Fotolia.com

Disclosure - Salesforce is a premier partner at time of writing.

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