Do the math on your stock options
jvns.ca
jvns.ca
It seems really easy to misunderstand something serious, even if you know quite a lot about equity.
I decided to value the options at $0, and instead think of them like a non-monetary perk: "free lotto ticket Wednesday". I ended up turning down the offer.
Was that experience normal? Did I have a right to know the shares outstanding?
Your BATNA is to walk away from a deal where the counterparty refuses to give you the information needed to make a rational decision.
At least they should be able to tell you the common strike price and ideally the fair market value of preferred shares. This would let you benchmark things fairly well.
What does late stage mean? How many employees? How much funding raised?
I like the experience of working here, but now I totally realize I have lost a significant amount just by not negotiating anything.
2. Would've asked for a better base salary citing all the "ifs" stock options carried with them.
Also at this point in time there is so much shady stuff going on with options that you should always always value options at zero. Frankly if all you are offering is your labor in return for options you don't have the pull to get a particularly good deal. (Example: Friend worked three years at a startup. Friend is smart. Friend got ~$50,000... whoop dee doo dah day)
Only other advice I have is, if you are considering exercising any stock options you need to talk with a tax accountant before you pull the trigger. No exceptions.
Never attribute to malice that which is adequately explained by stupidity.
Getting a seed round doesn't magically confer the founders/C*Os with an comprehensive understanding of how company equity works. Or common sense.
"A witty saying proves nothing." - Voltaire
I mean, imagine if someone followed the same practice for the salary part of compensation: "We will pay you money!" "Eh... how much?" "Some. The actual number is privileged and confidential."
So what is the lesson here? I hear this saying over and over, always with the implication of "Give them a pass". Who cares if they are being crooked, or are too dumb to do division. Either way, the employee loses.
Given my experience of advising early stage startup founders on equity investment, dilution, cap tables, etc., I believe that ignorance is at least as likely as malice in situations where they seem unwilling to disclose all the information the potential employee needs to fully evaluate the potential value of any equity options being offered.
I would never join a startup where the founder wasn't razor sharp and forthcoming on all these details.
This can be seen in recruiting stagee as well, it is usually presented as the take home question. Give them a take home interview problem that takes two days to solve. Those that go for it, will be dedicated and desperate enough to be good workers.
I honestly strongly dislike this quote, because at the end of they day just about every malicious activity could be wrongly attributed to stupidity.
Does that really change anything, if your C-suite is too stupid to understand how companies work?
You can never get this information even as an employee. You ask directly, and nothing. They don't want to give it to you.
Your company could be sold for 100's of millions, paying off the investors at 2x investment, and the common stock holders get nothing.
So yes, options are somewhat of a lottery ticket with ever changing odds. If the company does extraordinarily well, you will do well also. If you truly believe the company has a very good chance at financial success, you should stay irrespective of the number of options. If you are making a significant contribution to that success, a rational company will want to reward you and incent you to stay with more options. If both those things are not true, it is best to seek your fortune elsewhere.
Yes, but the directors of the company are obligated to act in the best interest of shareholders, so hopefully they would do that iff it increases the value of existing shares. (OK, there are many things wrong with this, including the fact that option holders are not shareholders.)
"If the company does extraordinarily well, you will do well also."
Yes, but if the company does very (but not extraordinarily) well, you might end up with nothing.
"If you are making a significant contribution to that success, a rational company will want to reward you and incent you to stay with more options."
But your contribution may not be constant. An early engineer who took a risk (low salary, high chance of being laid off) and built the prototype may not fit in when the company grows, so there may be little rational incentive to treat her fairly.
Also, all shareholders, or the majority?
This is where the GGGP (davidwihl) is both right and wrong—knowledge of the cap table at signing won't guarantee anything, but that combined with a good judgement of character is the best you can do. In the end you can get screwed either way, but if there is any caginess up front then run don't walk away.
Can you give me examples of people in jail for this 'crime'? At worst people saw social network, and it seemed a ok.
My understanding is that options for common shares, such as terms at YC, have not even anti dilution protection. So the # you have is a snap shot, and nothing to do what that % would be when you fully vest.
In many cases, it's because they don't want non-executive employees to be able to know certain financial details, including the valuation of the company. I wish this wasn't the case, but the reasons for it seem logical and in fact fair - it's just that many people assume this is a lot when it probably isn't.
The downside is many people are apt to accept, thinking 10,000 in options is a "lot", and I've made that mistake in the past. In an A round startup, this number could easily be in the several millions of shares outstanding, and likely is. If it's gone through several funding rounds, it's likely even less. 10,000 in a C round is significantly less if they have divided the stock by 10x or more in the previous rounds.
Executives could be pulling in whole percentages of the company, or multiples thereof, and one of the first few members of technical staff could basically be looking at a year's salary or less in payout if the company would sell in 5-8 years.
The percentage of the companys that make it is also a factor. While the article focused on needing to stay at a company, it's fair to consider that the great majority of startups are going to fail or be very small acquisitions (asset deals, acqui-hiring, etc). In these positions, the VCs will get paid first, and there may not be much if anything left.
Another possibility is the company is sold for small prices but the CEO could secure a very very nice deal to join the new company (plus bonuses), which has happened on more than one occasion.
A VC only needs a small fraction of his portfolio to do big exits, so they make lots of bets.
Stock is a huge gamble. I don't recommend "no stock, just cash", but don't ever let someone underpay you on hopes the stock event will happen.
Stock is being used as a retention tool, and that's the design of it, unfortunately.
I'd be much more in favor of equitable profit sharing as a retention tool - suppose a company decides to give away X% of it's profits back to employees forever, and this is done in a way where it isn't the CEO/leaders making all the money. Instead say in a 50 person company, 10% of the profits always go back to the people, and each person gets 1/50th.
This also eliminates sales commission on large deals and makes everyone part of the deal (the whole company) profits - also no quarterly targets, personal bonus tiers, executive bonuses, or anything like that. As the company becomes more efficient, those numbers go up, and it keeps things simple.
Do you know of good examples of this working? I'm interested in how it might work with a typical startup.
I think you would want to calculate a % early in the year, and then award that percentage at the end of the year.
If you wanted to taper that somewhat by employee reviews I guess you could, but it shouldn't be on quota - and ideally you'd just not continue to employ those people you didn't want to be there.
Yes, everybody would lose out if there were no profits. And a lot of startups aren't profitable. But (IMHO) I think that's also where SV investment gets it wrong -- they value growth above profitability sometimes, and this desire for rapid scaling makes or breaks companies, when in the end, I think a greater percentage could be BOTH happy and moderately successful at the same time, rather trying to bust themselves and "go big or go home".
This model is probably a LOT easier to adopt in a bootstrapped company, where there's less likely a board to say no to it -- and yeah, if you're not profitable, you wouldn't do it... and you also would be unlikely to have stock anyway.
This is probably something which should be fixed by regulation.
When the time came to raise our second round, I got intrested in how it would affect my shares and sat down to understand this whole shares thing. And to my dismay it turns out I have to pay for my compensation! I was pretty disappointed, even felt a little bit of resentment that no one took the time to explain things to me. But the reality is that your employer is not obliged to explain how your compensation works -- after all it's all in the contract (except it's written in awful legalese).
2 years later when I quit my job I was broke and barely had enough money to get by until my next paying job. Anyways I hustled to borrow money and exercise my options, all the while I still haven't understood the tax implications (I still don't!). My CPA told me that I can delay paying taxes on this until a liquidation event, and my coworkers who quit at the same time got similar advice. Now and after talking to others who exercised their options, that advice seems out of place and flat out wrong. I'm now trying to figure out what to do next, most likely getting a new CPA or a tax attorney. The whole thing is really stressful and I feel like startups can do better by their employees. At the very least substantially extending the exercise time and making it a standard in SV.
I also made the mistake of not working through the implications until a year or so in. Luckily, I joined early enough that my strike price (and valuation) was still low enough that I could exercise pretty easily.
Disclosure: It appears that my former employer has filed their S-1 in the last couple weeks.
As to stock options they are best treated as lotto tickets. Unless you think the company is very likely to get sold or go public at a high valuation you’re generally better off ignoring them.
PS: https://www.irs.gov/taxtopics/tc427.html
Statutory Stock Options If your employer grants you a statutory stock option, you generally do not include any amount in your gross income when you receive or exercise the option. However, you may be subject to alternative minimum tax in the year you exercise an ISO. For more information, refer to the Form 6251 Instructions (PDF). You have taxable income or deductible loss when you sell the stock you bought by exercising the option. You generally treat this amount as a capital gain or loss. However, if you do not meet special holding period requirements, you will have to treat income from the sale as ordinary income. Add these amounts, which are treated as wages, to the basis of the stock in determining the gain or loss on the stock's disposition. Refer to Publication 525 for specific details on the type of stock option, as well as rules for when income is reported and how income is reported for income tax purposes.
...
Not Readily Determined Fair Market Value - Most nonstatutory options do not have a readily determinable fair market value. For nonstatutory options without a readily determinable fair market value, there is no taxable event when the option is granted but you must include in income the fair market value of the stock received on exercise, less the amount paid, when you exercise the option. You have taxable income or deductible loss when you sell the stock you received by exercising the option. You generally treat this amount as a capital gain or loss. For specific information and reporting requirements, refer to Publication 525.
The only book I've read on stock options is _Consider Your Options_ by Kaye Thomas, which I thought was good. I do my own taxes, and there was enough detail in that book to let me figure out the tax implications of my options. (Including AMT the one time I had to pay it.)
The actual mechanics when you already have options are straightforward. You either exercise speculatively (pay real cash to turn options into shares, then hold the shares), or exercise risklessly (pay cash to turn options into shares which you sell immediately for more cash than it cost to exercise). Exercising speculatively has risks -- you pay real money for shares that then go down in value, possibly to less than the strike price, possibly leaving you with a tax bill even though you made a loss. Exercising risklessly is safe.
I don't like to speculate with meaningful amounts of money. If in doubt, sell the stock and diversify. Think of the worst case (the company crashes and you lose both your job and the value you thought the stock had). Better to not have all your eggs in one basket and sleep well. I suspect this is not a popular sentiment there, though.
The real question with options is when you're considering multiple job offers. Company A offers $100k and 3000 options. Company B offers $110k and 5000 options. How do you value the options? For a startup, the usual answer is that you can't, because there's no anti-dilution protection. If the founders want to hose you, they can hose you, by diluting your shares or by firing you right before a vesting date. So I value them at zero and take the job I like better, or the job that pays more actual cash.
(RSUs in a healthy public company are a bit different, since they have an actual immediate cash value. I value them at 75% of the current value of the stock. The 25% discount is because of vesting periods.)
They do fun things like giving you a loan with the options as a collateral. You would then default on the loan at the point of IPO.
So theoretically you don't sell them anything.
- $110k + 5k options, with 5M shares outstanding, at a strike price of $1 / share.
- $100k + 3k options, with 1M shares outstanding, at a strike price of $0.01 / share
Both are realistic scenarios for an early-stage startup. The 3k options in the second deal are worth much more than the 5k options in the first deal, on paper. (This is without even brining in valuation in question.)
A call option on a share of Google with a strike price of $50 is worth a heck of a lot more than a call option on "name any startup" with a strike price of a tenth of a penny.
There are, naturally, cash flow implications to this.
As an employee, you just don't know. So value them at zero. Or, if you want to be fancy, epsilon. And take the cash.
It may be safe, but it isn't free. As with most other things, you pay a risk premium -- in this case, in the form of failure to qualify for capital gains tax treatment on the resulting gain, because you didn't exercise in time to hold the underlying stock for more than one year. Depending on the amount, this difference can be quite significant.
You do your own taxes so probably know all this already, but here's a simple example[1] anyway. Let's say you "risklessly" exercise options with a strike price of 100 and a FMV (tax-lawyer speak for fair market value) of 1000. You have immediate gain of 900 -- and because you didn't hold the shares for >1 year, all 900 is Ordinary Income, generally taxed at higher rates than capital gains. (Top federal OI rate is something like 39% last time I checked vs something like 17% for cap gains.) Assuming the OI rate is 39% and the CG rate is 17%, you pay tax of .39 * 900 = 351, for total post-tax cash of 900 - 351 = 549.
What if, instead, you had exercised speculatively, more than 1 year prior? You'd still have taxable gain on 900, but because you'd have held the stock for more than one year (and met some other qualifying factors I won't bother explaining here), your tax bill would be 17% -- meaning that you'd pay .17 * 900 = 153 in taxes, and keep cash of 900-153 = 847.
Not a huge difference when we're talking about gain in the hundreds, but adds up quickly if you're in line for tens or hundreds of thousands or more.
It's really just a question of how you evaluate different kinds of risks, and what you want to pay to hedge them. If you want to balance your tax bite against the risk that your company goes under or otherwise fails to deliver, you may still want to exercise early, but only partially.
[1] I'm eliding a few things and making some assumptions. Not legal advice, talk to a real tax attorney before making decisions, etc.
For you example, say I exercise my option to by 1 at strike price of $100 in 2015. I hold on to it and sell it in 2017 for the FMV of $1000. Do you only pay the capital gains tax of the $900 gain?
Ignore state rules, just at the fed.
However, AMT(alternative minimum tax) doesnt recognize ISO. So in 2015, you have to calculate AMT, which $400 counts towards. This is basically a no-deduction(except a high standard deduction) flat tax, you potentially owe 26-35% on that 400. Even though you didnt sell anything - this is where people get screwed.
So lets say you paid $100 in AMT. In 2017, you still owe capital gains tax on the whole $900, but you calculate AMT and claim the difference, up to $100, as a credit - the difference should be >100. You can actually claim this credit every year until previously paid AMT runs out, but most likely the difference wont be sizable enough until you sell.
Not a tax pro; this is not tax advice; yada yada.
Thanks for responding folks.
You can make ISOs be treated approximately as NQSOs, but otherwise, you're generally getting from an established program and within a company, you don't have to be prepped to negotiate one type vs the other. Over time, the company will no longer be able to issue ISOs and may implement other programs, but they will tend to be "one type fits all" in general.
Do you want to be an investor? No? then why would you pay for stock out of your own money?
At our startup everyone gets the same stock, not options, through our Equity Incentive Plan. Here's how it works.
1. We lend new employees the amount of money it would take to buy common stock on a non-recourse promissory note the collateral in this case is the stock itself.
2. The employee then buys the shares from the company with the loan.
3. The employee then files an 83b election so that when it comes time to cash out, they only pay taxes at the strike price of when the shares were bought.
4. At a liquidity event, the promissory note goes away and they own the shares outright
5. They only pay taxes when they sell their shares not when they buy them
Now there are other provisions like if they want to sell prior to a liquidity event, we get rights to buy them back first if we choose to - in which case we just write off whatever the unvested portion from the note and take those shares back.
In the end it gives the employee actual rights to the same class of stock as the founders, so we can't fudge our employees out of stock benefits without hurting our own shares. This also prevents them for having to lay out any money until there is an actual no kidding liquidity event, so they take no risk of paying taxes on something which might be worthless. Even then they will only ever have to pay taxes on the shares, the promissory note goes away, so in effect looks like a equity grant at the time of sale.
Has this approach held up in court or survived an audit? Do you actually transfer the money to the employee's account? How do how do you prevent them from having a program to immediately wire the money to Zurich and run off, given that you have a non-recourse note for the stock that never got purchased?
[edit] I say small business because we do not yet have the 10-15% weekly growth required to be called a startup. Until you are expanding like a airbag, you are just fooling yourself that you matter by calling your company a startup.
Yes, it's actually a very old way to do things that fell out of favor in the 80s in favor of options. This way of doing it is more complex and more risk for the employer, so it makes no sense to do it over options if your goal is to just give tokens to employees.
>Do you actually transfer the money to the employee's account?
No, it's all papered
It used to be standard practice until a bunch of executives used it in the 80s to cheat the system.
I should note that this plan cannot apply to executives, for that reason.
Also, before a 409a valuation wouldn't you just be better off granting the shares outright and having employees write a check for $20 or whatever?
Yes that's definitely easier, but if you have had a round of financing even before filing a 409a the "valuation" can be determined as far as the IRS in concerned.
When the liquidity event happens, the tax from a forgiven loan is very miniscule compared the standard situation.
Thanks for sharing this. Thinking on how to do equity compensation right when you have no real profit to share was one of the barriers for me starting a startup.
There's no doubt that you've created a generous plan for your team. The description of your plan was certainly helpful and illuminating. But this thread seems like an odd place for a recruiting ad.
I'm curious what advantages options give employees over a system like ours. I don't see any, and the whole point of our structure was to give employees lower risk and more comfort that they actually owned equity, not a promise of it.
If a the time of a liquidity event the stock is worth less than an employee's strike price, they'll still be underwater. They'll either owe the loan back (the difference between the strike price and exit valuation) or the loan is forgiven and they owe income taxes on the forgiven debt. So there's still risk of owing tax on equity worth less than the current valuation at the time of their offer, right?
So there's still risk of owing tax on equity worth less than the current valuation at the time of their offer, right?
Nope. Because of the 83b election, they pay no tax as the shares vest and pay no tax until they sell their shares.
Stock is so much better for employees on almost every possible dimension and it's a real shame that more companies don't give it out, even when it's quite possible to do so (ex. early stage companies who have only raised convertible notes).
1. TRANSFERABILITY. If you are given options to buy privately-held common stock in lieu of compensation, you must demand transferability. Rights of first refusal (ROFRs) are fine. "Board approval" is not. "Board approval" means "you may not sell your shares until we go public, except to us, if and when we feel like it, and at a price we get to unilaterally decide".
2. CASHLESS EXERCISABILITY. Always ask for cashless exercisability. In the public market, if you ask your broker to "cashlessly exercise" in-the-money options, here is what happens. First, your broker lends you the money to exercise the options. Then, the broker sells some of the resulting stock. Finally, the broker pays herself back, plus a pre-disclosed fee, and returns the rest to you.
This also works with private stock. (Unless you forgot Rule No. 1; if your shares aren't transferable you've already been screwed.) But you may not require a broker. Some companies allow for direct cashless exercise. Suppose you hold options for 100 shares struck at $100 per share. You need $10,000 to exercise. The company figures its stock's "fair market value" is $110. You check with outside sources, e.g. a private-stock broker, and conclude this is not much less than what you could sell your stock for in the market. Your stock is worth $11,000 to the company; it is $1,000 in the money. After cashlessly exercising with the company you would get $1,000 of stock, i.e. 9 shares. (Fractions of shares are usually lopped off in these calculations.)
Plus: you got shares without putting up capital. Minus: you lost the upside (and downside) on ninety-one shares. That said, 9 shares is better than 0 because you had no capital to exercise upon termination.
If the company hadn't done this before, they'd need to think through the implications for their processes, and probably get a legal stamp of approval. They might not be willing to do this, and instead pass on even a potentially great employee.
I wouldn't encourage anyone to turn down an offer for its lack of cashless exercisability. The lack thereof, however, causes pain. That should be compensated for. On transferability, I would mark down non-transferable stock to zero in any salary-or-equity trade-off calculation.
A right of first refusal (ROFR) is a reasonable transfer restriction. So is a lock-up period, e.g. you may not sell these shares within N years of getting them. Bans, on the other hand, are not. For a common stockholder, requiring board approval is a cutesy way of saying "ban".
Employees usually get restricted stock until there is a liquidity event.
ROFRs are the only restriction I've seen widely enough to merit calling "standard". Everything else exists in different forms in different companies, all the way up to being wholly non-existent for some combination of employees, executives and institutional shareholders.
My work involves helping private companies raise capital and investors (mostly institutions) sell privately-held positions.
Your experience is working with investors. Your advice makes more sense from that point of view. Employees are rarely (read Never) afforded the same privileges as the investors.
No need for us to boot-lick and perpetuate a minor injustice against employees and labor here...especially one that is causing long-term harm to the ecosystem.
The approach you imply is the approach I've taken. Work with founders that I trust, verify the details of the deal to the best of my ability and assume that good people do the right thing for other good people.
Basically a casual ask for "can you share how many options are outstanding?" is about as good as you are going to get. Totally good. Non-stand demands? Not so good.
If the VC has preferential shares (they do) just realize that's ok - and probably fair. Don't join the company if you don't think it can exit above it's funding amounts if you are in for the stock - but hopefully you're in it because you really will love the position and the stock is just a bonus if it makes it.
That's the most important thing :) You don't want to be in a job you don't like just because it's profitable IMHO.
It's tricky to share that with employees and not have it get out.
That being said, if it were all public, I think that would be fine, I'm not sure what results that would cause if every company did that, and it might be cool if every company were required to by law (hint, hint, congress!).
And absolutely none of them are valid. If you're going to have this person work on the core of your company, there is absolutely no reason to not be up front with them.
I do however strongly believe in tempering expectations, it's wrong to try to retain people by thinking they have more than they do.
It will influence your relationship, positively.
Executives and managers always pay attention to these details and negotiate them when joining a company. The fact that you're paying attention signals that you actually understand what's going on and demands respect.
Some companies will refuse to give you this info and resent you for asking, but you should automatically reject such offers.
If a "rank and file" developer goes back and forth grilling them over offer terms, and is exceptionally picky above his peer group, this DOES make it back upstream in negative ways.
Some companies will not give you this as a matter of policy - , if you are ok with the salary, you could still enjoy working there - and may also make a great deal of money (or you might not).
Then don't work for those companies.
Ones goal in life should not be to get exploited at shitty startups as a "rank and file" developer (aka chump).
All being said, if at that stage of a job offer, you don't want to be looking like the most important thing to you are your options. If you get a decent salary and like the work, you are not being exploited.
You could also get early exercise. That, personally, is what matters the most to me in a company with common valuation <$100mm. I have very very little interest in holding options; shares (either directly via grant, or via early exercise), or RSUs (which are even flimsier than options, but at least come in public companies.)
Generally, you'll want to hold your options until the company is public or acquired, so you wouldn't need to worry about this.
If you are receiving NSOs, it is best to be at a company where they expire 7 years after leaving.
Even if you cashlessly exercise, you are still going to have a tax-bill problem, which can be a huge problem if current FMV is far higher than strike.
The company went public, and the following year there were a couple events -- a nice earnings beat, some positive news, etc -- that pushed the stock up. Around that time I hit my 1 year cliff so I had 25% of my grant vested. I sold every vested share and used that as a down payment on a house in the bay area. I had a very large tax bill the following year that I paid by selling a bit more equity. But, I have a house that has appreciated since I purchased it, not to mention a nice place to live.
In year 2 I started receiving add'l RSU grants, and I usually sell them as they vest. Here's the test: If they gave you a cash bonus would you BUY stock? If not, sell it.
In the end, my initial option grant will end up worth $300-400k, adding almost an entire extra salary to our household income.
We've been fortunate, have given back a lot to charity and especially to family. Oh, and I've truly enjoyed working there.
What I've learned is that there is a probability curve. I chose an offer that had a high liklihood of buying me a down payment on a house but zero chance of buying me a whole house. In the end, this is a pattern I would repeat and I think if you can do go work for Uber, Pinterest, Airbnb, etc, where an IPO is very likely, go do it.
* You don't know what the preferences of future rounds will be. Your founders may say that they will never go above 1x or whatever, but the company may enter difficult waters and be forced to accept less beneficial terms.
* If you hold common shares in the presence of preferred shares with a liquidation preference, the payout function at acquisition/IPO will depend non-linearly on the selling price. There are steps and there will be a price below you will be 100% wiped out. So the incentives are not aligned. Preferred normally has all the voting rights, and for them 5% more or less on the acquisition price might not be a deal breaker. For for the common, 5% may be the difference between a nice down payment on a home or a 100% wipe out.
Based on this I would always negotiate a market rate salary at a startup company and value the options at $0, with 4 exceptions:
* You're offered to be a co-founder or one of the very first employee (< 3), with significant (~5%) equity. This is a risk that I personally might take.
* You're joining a late stage company and based on your industry knowledge you expect the company will do a successful IPO within 12 months. In essence you become a late stage investor in this scenario and your investment is your time.
* You're not in it for the money but instead want to change the world (and you don't mind someone else will make money based on your work if successful). For me personally a company like SpaceX could be in this category.
* You "trust" the founders to have your back and make sure your efforts will be rewarded whatever happens. This is a thin justification, but I could imagine doing it if you have been in business with the same team of founders for multiple times already.
1. How many shares of the same class are in circulation
2. What is the price per share at current company valuation
3. How many shares of other classes are in circulation and whether these come with liquidation preferences
4. If you will be required to exercise your options in the event of leaving the company and, if yes, how long you have to do it
5. If you have the right to transfer your options (and later shares) to a third party. Unusual to have this right (unless you're transferring to immediate family) but good to know if you do have it.
6. Ask to see a copy of the company's articles and/or shareholder agreement (to check how voting rights work, tag along & drag along rights, entitlement to quarterly management accounts, right to first refusal, what power the board has on deciding sales/transfers etc.)
That's in addition to being very clear on what the vesting terms are (assuming you are not being given all your options in one go).
I recently left a company and explored executing my options via a vehicle called ESO Fund (www.esofund.com). In the end I did not use them for different reasons, but their offer was reasonable.
Two general comments on stock options: - Remember that bad things happen in companies in raising money. Your company could raise another round after you've executed your shares, and in addition to the dilution, you could also have an onerous term in that round - like a 2 or 3x liquidation preference - that will mean you are very, very unlikely to see any money.
- Remember that companies don't have to have a liquidation event. I executed shares in a company I worked for in 2006. That tied up money in the company - and then nothing happened with the company for the last 9 years until this year I got a buy out offer on my shares at about 50% higher than I paid. Sounds great, except if you consider time. 50% return over a period of 9 years is certainly not a fail, but it also isn't a big win over putting that money into the general stock market.
This problem was described well here:
http://blog.samaltman.com/employee-equity
and there are some interesting solutions. I wonder if any companies have taken this advice in the 20 months since it was given.
If it was me, I would start at 5-6% and negotiate from there.
Assuming that this opportunity could turn into something huge, I highly recommend taking some negotiating training, if you have the time. Back when I was an executive, I was given a week-long negotiating training session. It was seriously the best, most useful training that I'd ever had in my career.
The books are probably useful (there are a ton of them), but the live sessions are likely much more effective because you get to practice the techniques, see the subtleties, and experience the results directly. For me, seeing the results really helped train my brain.
Honestly, I went into the training dragging my feet and expecting the worst, but it's given me a huge edge. The results have been amazing - especially when negotiating with unskilled negotiators. I've gone into negotiations expecting X and consistently getting 2X, sometimes even 10X.
In my opinion a 40% pay cut and being one of the first 5 engineers warrants co-founder status.
It is rude to lie to people about the value of their options to hire them. ("Your options are 0.866% of the company"). But to try to defend that practice in public is just hilarious.
Heh, at least now we know what it does take to be a cofounder :)
> It is rude to lie to people about the value of their options to hire them. ("Your options are 0.866% of the company"). But to try to defend that practice in public is just hilarious.
I never once stated that one should lie to employees about the value of their options. Those conversations are always highly specific to the situation, the negotiated contract with the person, and how fluid the actual current "valuation" is. It's very difficult to pin-point a true value for a set of options in a private company - sometimes you can come close, particularly once major funding events and milestones have been hit, but it is still difficult. I usually do my best to have a candid conversation with prospectives or currents about that value. A lot of founders do.
If all you care about is the financial upside in joining a startup, then I will always say that you should not join one. The risk is very high and it takes an enormous amount of cooperative collaboration from numerous people that are willing to be "in it together" - it also takes many years before you have something valuable enough to make those early options worth it. If you get in before the Series A and you really give it your all and it's a good product that people want and you're surrounded by peers who are the top of their game and you've got excellent leadership: Hang on because it will be a rocket ride. If not, then it might not be worth it.
The other reasons to join a small startup are numerous. In the early stages it's mostly intangible and the later stages are usually very tangible. The "option" for a financial upside is there and should factor into how much risk you're taking as an early employee, but unless that is all you care about then it should not be the only factor in your censure of an organization.
Figure out what's important to you and act accordingly.
> Heh, at least now we know what it does take to be a cofounder :)
Become one. You'll find out. I've been unable to accurately convey it to people it seems; most think it's glamorous. It is not. Most think they're entitled to it. They most likely are not. Most think founders have the upper-hand. Very few ever do (hint: the board and the investors control the strings more than most think).
Upper hand, n: having better knowledge, information, or otherwise situation than the rest. Compared to the employees founders most definitely do. Eg: how many startups will give you the answers to the listed questions easily? Founders have them.
I am not saying founders are above all, but they definitely have the upper hand when compared to those pesky employees who want to know the value of monopoly money they are claimed to be paid with.
It's also on you to be clear about what you want and to vet orgs and people. If an org will not share sensitive information with you in order to make a sound decision, then I certainly would not join it. If the leadership won't go to bat for their own people or honor their word, I will not work for them.
It is. If i wanted to change the world, I'd join the red cross. Attempting to make someone feel bad for only caring about pay, as a way to get them to work for worthless options only works on some people. :)
If you wish to be a co-founder, you typically have to be willing to take more than 40% pay cut for much longer. You must be willing to defer your paycheck so that your other employees (who are usually on a paycut too) can get paid if funds get tight - this is even expected of most CO employees in the company but the first ones to go are always the founder's. You are usually involved in most fundraising activity in addition to your other duties, whatever they may be* and customer support early on.
The list is quite long, I was once a highly entitled "engineer" until I built a few of my own companies. The dynamics are so much more complicated and tailored to each individual situation that it's disingenuous to lay out blanket statements the way most people in these comment threads have been doing.
Being a founder is brutal.
I'm not saying key engineers aren't entitled to good or fair treatment or that it is impossible to become a co-founder if you're #3 or #4 or #5, but I do not believe you're entitled to founder status just because you're an early hire. Sometimes it can happen that way if you choose to take on those responsibilities and risk and negotiate that dynamic with the other founders - setting up achievement milestones and what-not.
Similarly: Just because you're a founder doesn't mean you're actually entitled to the role of C*O (though you may hold that position early on as it needs to be "filled" it can quickly out-grow you). Some can become those roles and some simply aren't capable of scaling with the needs of the company.
just wow
...
Also, what risk? There has never in history of history been easier access to money than now, and never better terms. Hell, tell a stranger in palo alto you're an MIT dropout, and have a Stanford dropout friend, and they will practically write you a blank check.
Many roles in the company are invaluable. Not just the engineer.
It sounds like you've had a bad experience and I'm sorry if you have, but not all companies are "pointy haired bosses that take advantage of the underlings".
> Also, what risk?
You clearly have no idea.
> There has never in history of history been easier access to money than now, and never better terms.
You still have no idea. I'm not even going to try.
> Hell, tell a stranger in palo alto you're an MIT dropout, and have a Stanford dropout friend, and they will practically write you a blank check.
This is a pretty offensive statement and you've lost me entirely, your perspective is so far detached from reality that it makes a lot of sense why you're so upset, sarcastic, and frustrated. Instead of a self-righteous attitude, go build your own startup if it really is that easy and low risk.
If you have built your own startup and received a blank check and performed the feat [of building a startup] with no risk to yourself or your peers then I call bullshit or you're just internet trolling.
That's not what I said at all.
Early employees that are paid a fair market salary are absolutely not entitled to founder status, and in some cases not even substantial equity.
But a 40% pay cut is within the the norms for that sort of transition. It can be a good move for some people.
As someone who has been the first employee at two different startups, it doesn't warrant co-founder status.
Yes, it's going to be a lot of work. But you never go without salary and never have the same stress level or expectations as founders. At the end of the day, you're still an employee—a key one, who should be compensated with single digit equity, but an employee nonetheless.
For me - I would cofound for 40% less pay(and say get 10-30% of the company), but not be engineer #1 for <5%. At the end of the day, a job is a job, why work for less than you are worth?
1) Are any of the three co-founders engineers? Or are you expected to run engineering?
2) How senior are you? Will you be expected to take on a leadership role or, after they hire a couple more folks, will you just be one of the team?
3) What is the fundraising situation for the company?
4) Has the company released a product to the market? If so, how much traction is there?
The first two questions go towards answering how important you might be to the organization. Obviously more important -> more equity. The last two questions go towards evaluating how much success has been achieved already. More success -> less equity. Though less isn't necessarily a bad thing here as you'll be joining a company with a greater chance of success.
I've been in that role for two different companies.
First of all, you should never accept a ~40% under market pay cut (at least if your "market" is mid-to-senior developer). A 10% cut is reasonable, but you should absolutely never accept less than ex. $130k in SF.
In terms of the equity grant, you can find some average here: https://angel.co/salaries
It should absolutely be at least 1%, but the specific percentage is going to vary a lot based on your perception of the company's value. Put yourself in the shoes of an angel investor and try to imagine what valuation you would invest at. This can include factors like (a) what did other investors invest at, (b) founder history/background, (c) market potential/size. Then take whatever annual salary you're giving up, multiply by 8, and ask for that percentage.
Also, if a private company grants you options and never gives you any options for liquidity (like buying the stock back when taking new investment etc) you should be really careful about overvaluing the options. Clearly the company wants to chain you down, not reward you.
In that case, immediately discounting the value of my options by a quarter is reasonable since those kinds of terms being used for clawbacks is getting more common.
I.e. $1,500 bonus per $MM in revenue, each year
Not so long ago, companies used to IPO way earlier... Microsoft, Apple, Amazon...
This is a good read too
http://thomasgr.tumblr.com/post/135710601255/the-pre-ipo-dip...
Your salary is what you live on. Everything else is a bonus. As a salaried engineer I have received basically every 'extra' there is. Cash bonus. Equity bonus. Options. Restricted Stock Units. Overtime pay by the hour (seriously!)
In all cases I do not plan to get that money. I don't use it to pay rent or a mortgage. I don't use it to buy clothes or food. You might argue that is a luxury, but honestly if you can't afford your lifestyle without the bonus, then what happens when there are bad times and you don't get the bonus?
I set this up so explicitly that I have a separate bank account for that money and when a bonus comes in it gets transferred away from the day to day account. This years vacation is paid for with last years bonus.
There are so many things that can effect the outcome of an employee with options (subsequent funding rounds, liquidation preference, if and how the exit happens) that it often boils down to whether or not you believe you will be treated fairly.
One company, Atlassian, did raise one round solely to allow employees to vest their shares but I am not sure how common this is in Silicon Valley's Tech Culture.
In the end though the amount that I can buy is so low that even if they are worth 10x what I'm paying for them it is not worth the paperwork and trouble.
The same is true at time of negotiation. You don't really need to know how many shares are outstanding if you have the strike price and an estimate for the company's growth. That is, you're investing $X dollars and expect it to raise by a multiple of Y.
I'm not sure what cost of living in Montreal is, but I'd be surprised that jvns is making less than 100k in SF. If Stripe were smart they'd increase her salary stat. Just based on her excellent blog posts and her insatiable curiosity, this is not an employee you want to lose.
This obviously depends on the strike price on joining the company and how much money employee is okay to lose in case company goes bust. If not all, some ISOs can be early exercised.
In my case, I early exercised around 25% of ISOs soon after joining. In hind-sight I should have early exercised more as the company did go IPO around 2 years after I started...
well, this is assuming your company's value hasn't increased since then. But I do agree it's usually an interesting move if you believe in the company since you'll pay taxes earlier.
My father once got stock options from Nortel Networks right before the dot-com bubble bust (sometime between 2000 and 2002). He exercised them, sold some to buy a car, but held onto the rest, had to pay a hefty tax bill, and then when the price nose-dived, they were worth less than what it had cost him in taxes.
1. Do the founders have a history of successful exits? 2. If so, did all employees with stock get paid?
If either is no, you should consider options/stock worth $0
I've sold shares same day in an unlisted company, and then a few weeks later called the broker to sell more and ended up taking several months to find a buyer, but on my end it wasn't "hard" - it was just a matter of waiting it out.
This fact isn't true "by definition". It's true "by arithmetic". We say a fact is true "by definition" if it isn't true for any other reason. [1]
I won't advertise their name, but they seem legit and know several people that took them up on their offer.
Truth is companies give options to low level employees because it's cheaper than paying cash. Most employees don't do their homework to realize that in the vast majority of cases they'd probably be better off demanding cash.
Why would anyone take options if they could get RSUs?
Why do you need to pay taxes when exercising the options? At that point one did not made any profit and in fact you made an investment (you spent money and there's still high chance you might lose to that investment).
It would make much sense to be taxed when you sell the stock (and use the original option price you paid for the shares).
I do agree that there is some degree of ridiculosity and there should probably be some tax reform here, but that is the reasoning behind the current rules.
You have offered me X ordinary shares which is y % of total outstanding.
I want a contract that guarantees me the same % of this class of shares, and the same % of any other more privileged class of shares, and I am given an opportunity to participate in every liquidation event pre public offering
Seems to cover many of the horrors people have hit?
Many of these "horrors" are a reality of the angels and VCs protections that enable and are essential to the company financing. IOW, attempting to tunnel under those protections for employee benefit runs counter to the investor interests, sometimes to a degree that it would preclude investments entirely.
Even the liquidity provision is problematic. Suppose investor A wants to sell their stake to investor N in a private negotiated deal. Maybe fund A is collapsing. Are they obligated to tell you the terms of their negotiations? Obligated to also purchase some of your shares at your sole discretion? How would they even know that you have such a provision?
If that dilution protection is some other form than stated, well I need to read up on it.
But my general approach is that just because you are an employee not a capital investor does not mean you should just take whatever shit is doled out. Especially not these days.
That whole thread is about finding better terms and protection to take options on.
"They won't let you" is close to "shut up and take it". (Not the same but a bit too close for my ckmfort
The most common form of dilution protection is the right to invest more cash in future rounds pro-rata. (So you can pay to stop being diluted.) That you might be able to get if you hold shares, but you're going to need to pay cash at each round to avoid dilution. You won't realistically be able to get it as an option holder in the employee option pool, and as a non-accredited person (by the meaning of CFR Title 17.II§230.501), I'm not sure of the legality of investing cash to protect existing holdings from dilution. (I'm not saying it's not legal; I'm just not sure as I meet at least one of those tests.)
As both an employee of startups (in the past) and an angel investor (dabbler/dilettante), I can see both sides, but when I contemplate writing a check to "2 founders, an idea, and a powerpoint deck", you can imagine that many provisions of convertible/venture debt exist to make that make a tiny bit more sense and provide some limited downside protection for the "indefinitely horizontal" company trajectory.
Once I invest, I have very limited input into how the CEO runs the company, but I'd advise a CEO to pass on a mid or late stage employee who is too much of a troublemaker about their options terms. Realistically, the company should not be negotiating and drafting custom options terms per employee and an employee who demands such is probably a better fit for someplace else. Quite literally, the terms of the company option plan are (often) set and modifying them is nowhere near the same as giving a signing bonus, flexible hours, a few extra vacation days, work from home on Wednesdays, or a different salary/bonus amount.
Interesting. The right to invest as dilution protection I had not remembered (Is it stripe that surprised everyone by giving investors right to invest at the previous round prices?)
I suppose that what I am trying to protect against is to not see dilution occur worse than that of founders. But then if you don't trust the founders that much at the outset, don't join.
So, perhaps better advice is take the money not the options, and if you want a lottery ticket, start your own company.
I think I will give up and form a co-operative.
Very incredible companies will raise at better terms and valuations and dilute more. This is very rare.
This can be the same with "fund raising". Just because the company has diluted itself and now has a few million in the bank... it still has to spend that money wisely and correctly in order to realise a genuine "the pie is now bigger than before" that the shareholders were expecting.
In practice, nothing really prevents it completely. However, the founders will generally be getting diluted the same amount as you so their interests are somewhat aligned with yours to negotiate a reasonable dilution amount. If they make some deal in which other shareholders get diluted much worse than themselves, it's often strong grounds for a legal suit.
How Mark Zuckerberg Booted His Co-Founder Out Of The Company http://www.businessinsider.com/how-mark-zuckerberg-booted-hi...
http://gawker.com/5643915/mark-zuckerberg-describes-the-dirt...
The thing that is missing from all of these articles is, unfortunately, a tool to actually do these calculations. I am building such a tool. Happy to share (privately!) an early version. If you're interested, email is in my profile.
But I guess what you're given pretty much assume a long position.
The little I know of options (and how no human can never ever guess the strike price!).
I'm very curious.
The way these options are structured plus US tax law basically means a lose - lose scenario for the employee.
If your company is growing every year, and the stock is liquid, Options are great. I know a fortune 1000 company that used to give people a bunch of options at bonus time, people loved it - bought houses, etc. Then the stock turned sideways, so they switched to 50% options, 50% shares (with the actual share count being option count / 4, to approximately take into account that shares are worth a lot more than options). The next year they flipped to 100% shares. No one would get mega rich with a small pile of shares, but everyone would have some money in the bank...
At any rate, the younger and riskier a company is, the lower the 409A usually is, and the more legal wiggle room they have to keep it low so common stock option grants are worth more later on.
For public companies it's whatever the stock price is on the date the option grant is made. If it goes up, the options are worth money. In general, for public companies options are vastly more easy to understand and actually cash out.
- What is the price per share at current valuation?
I don't think it's has to be that complicated...
Except if that company raised $100M to get that valuation, the preferred shares will certainly have at least a 1x preference. If they are fully-participating, the new math world make the shares worth ($300-$100) / 150M or $1.33/share.
In round numbers, I worked for a similar company but they had to take a terrible down round post-GFC with 3x participating preferred. In that case the common options would literally be worth $0.
Our company is a wholly-owned subsidiary of a private holding company and does not offer equity ownership. As an alternative to equity options, we have bonus plans based on performance, both annual as well as long-term. We make estimations about overall company performance on a few metrics in order to provide what amounts to a range of values for how those plans apply to a specific candidate's role with us.
But I get a lot of questions about how to compare an offer from us to an offer from a startup that includes equity options as part of compensation. It's simple to compare salary, benefits, etc. But invariably, we get into conversations where candidates ask me how to value equity options they've received from another company.
First, I'm totally upfront about the fact that I'm: 1) not an expert, and 2) biased. But I am always honest with a candidate, and do everything I can to put myself in the shoes of an advisor.
Without looking at any offer details they have, I point them to the equation inputs: # of outstanding shares, preferred percentages, any liquidation preferences in play (need the multiple too), and the valuation. I'm sure there are other data points that could apply, but this information seems like table stakes. Nonetheless, if they have this information, they could at least gauge the value of their own equity options with exit scenarios at different levels.
But converting those scenarios to present-day value? This is the part where I always check myself, but I express that those equity options are almost certainly zero value. The outcome of a significant positive exit is always an outlier on the distribution curve, so appropriate discounting applies. That's the math part, which is as good as your assumptions and estimates allow.
The hardest part of those conversations is understanding how to justify assumptions in those calculations, such as how high profile a startup may be (and how that affects those assumptions.) I've been around long enough to have friends who were employees with numbers less than 30 at some very high-profile startups who had significant public exits, yet those employees made little to nothing. And to say nothing of those companies that simply didn't make it.
As creatives, our natural instincts drive us to believe we can create the value necessary for us to derive positive outcomes and ultimately benefit in these situations. The historical numbers simply don't represent that fact, and indeed show that outcome to be a rare occurrence. Good on you if that happens, but the odds are simply not in your favor.
As I conclude with most candidates, I tell them their mileage may vary and that they should absolutely seek the advice of someone entirely independent. Maybe as luck would have it, we have had a few candidates join us that were strongly leaning to accepting their startup offer. Several told me their reasoning -- they trusted my honesty with them. Who knows, maybe that's the real value in equity options. :-)