In my company, profit sharing is 1/3 employees, 1/3 owners, 1/3 goes directly back into the company for investment. However, sometimes the company needs money to repair some equipment or whatever, and that comes out of the revenue (before profits). So the business needs come first obviously, but when times are good the employees are treated very well. This works best in companies where the employees can have a direct affect on short-term profits.

Yes I agree with that. But profit sharing with employees is per se taken from revenue left over after operating costs and such, profits are what you distribute to share holders.

I agree with what you're saying, I'm mainly quibbling with the language of the structure of the proposed investment instrument. It would be very easy to do some Hollywood style accounting so that the business owner and employees all get a fraction of gross revenue after costs, but any investor would get zilch for all time.

I know little of accounting, but I know that much :-)

(This is of course orthogonal to the ethical / moral dimensions)

That's a good point, which I hadn't thought of.

That is actually quite a bad arrangement.

Unless the fixed return is something intolerable to the startup, such as 100% return, that would make a terrible investment. Even ignoring the go-big-or-go-home type of startup in SV, the vast majority of startups that seek to make profits from day one do not succeed - they'll fail and the investors lose the loan. The only situation in which this makes sense is for the loan to have a very very high return - usually a multiple (1x, 2x, etc), since investors will need that rare winner to subsidize the losers. This is how the entire VC industry in SV works, and it definitely still applies even if you want to make a profit-first company, it just applies to a sightly lesser degree (usually for VCs in SV, one company in their entire portfolio will need to deliver 50x+ return). This is also bad for the startup because now they have this loan that they have to pay back in X years that has a huge interest rate.

Essentially, this is bad for investors because investors get all the downside, but their return is quite capped.

Yes it's bad, but it's still less shitty than Hollywood accounting based revenue sharing. This is also not suitable for the vc round sized capital, but rather the micro seed /angel money as done by the YC heterlogue that Michael is suggesting.

Uh... the fact that this arrangement is less shitty than $OTHER_INDUSTRY really has no relevance to my point. Seed and angel economics mirror VC economics. This arrangement sucks for seed/angel investors as well.