How much startup stock options are worth
danshapiro.com
danshapiro.com
* Exits north of $100MM are rare, and a $400MM exit is rare indeed; virtually any such exit will be from a famous company. Valuations are at least somehow tethered to sales, and companies that justify mid- 9-figure exits can usually consider IPO... as an example of how rare that event is.
* In most sectors of the industry there are rule-of-thumb valuations based on multiples on sales. An enterprise software company aiming for a $150MM acquisition is expecting 4-8x, and needs to be achieving 18MM (optimistically) to 40MM (conservatively) sales to do that. You can reconcile this estimate by asking for current sales, this year's "number" (in a well-run company, everyone knows the number), and then asking "what's going to happen to scale the number up".
* Last time I had to think pragmatically about VC, a round that took participating preferred shares (in which the VC takes their money off the table, then takes their percentage off the table) was an indication of a weak round; if they're shooting for the moon, you're entitled to hold that against them.
* Finally, remember that if you quit, the equation changes again. When you leave, you can execute your vested options, but that costs money. Perhaps nobody in the company is less protected than former employees: investors have contractual provisions to protect their money, and employees are given retention grants, but former employees can be written right out of the deal. I've seen it happen.
That's when I learned to lean more towards the "options are worthless unless you're a very early employee in a high-potential startup".
(when I think about this, it saddens me a bit how cynical my first jobs have made me)
I don't regret it, because the money I'd've spent to exercise helped get me through year #1 at Matasano, but if it hadn't, I might be upset.
former employees can be written right out of the deal
Can you elaborate on this? How does this work? As a holder of a lot of common stock in an increasingly VC-dominated company, this is interesting to me - surely if I buy my shares, I have that proportion of the company with the same rights as any other common stock holder? What about a "normal" acquisition deal could change that?
You can bet that the founders and VC's (or other institutional investors) own a super-majority of the shares. Therefore, they can simply write the rules to give themselves whatever they want. For even more fun, sub-groups of VC's can team up to force out founders or other VC's.
One way this is typically done is to increase the share count by 10X, then sell these new shares for 10 cents on the dollar to a sub-group of new investors.
As an existing shareholder, you MAY have the right to buy into such a deal, but only if you are a "qualified investor", meaning that you have substantial liquid wealth. Otherwise, you'll be left sitting on the sidelines.
Even in a "normal" acquisition, the current shareholders will have to vote on the deal, so it's not uncommon for the large shareholders to cut lucrative side deals with the buyer that give them much more profit than the average shareholder.
http://www.sfgate.com/cgi-bin/article.cgi?f=/g/a/2010/08/06/...
The later investors just barely made their money back, so the employee options were (probably) worthless as well. Google issued new retention to make up for the fact that the employees got squashed, but not every acquirer is so generous.
My impression is that options agreements and grants that offer any real protection against being screwed once the company lacks any incentive to keep you happy are few and far between. If you don't _know_ you're protected from such things, you're undoubtedly not.
#1 is pretty self-explanatory.
#2 is the expected value, halved because an awesome startup with every chance of success still fails half the time. If you're swinging for the fences (shooting for IPO), you're way more likely to either fail or get so much preference ahead of the common that you never see anything.
#3 is because everyone underestimates the amount they'll need to raise.
#5 The huge penalty is for two reasons. One, because it's tremendously bad for the common. Two, because it often means something worse: the company's up against a wall, the CEO's a bad negotiator, everyone's expecting the common to be worthless so they have to make it up in preferences, etc.
#6 Again, the direct impact isn't as bad as this makes it out to be, but a CEO who does a good job negotiating preferences is a leading indicator of other good things: s/he knows how to generate demand for the company, has leverage, knows how to squeeze every ounce out of a deal, etc. This is basically a proxy for if the CEO will do well during negotiations to sell the company.
#7 A common-dominated board will tend towards common-friendly exits, and indicates a CEO who does well in negotiations. Again, this is all guesswork, particularly trying to figure out the all important "will the CEO do a good job selling the company" factor. But I think it's a decent swag.
During my recent job search, I received offers with options from companies who refused to tell me what the count of fully diluted shares was. No one was particularly comfortable answering questions about expected exit. When I tried to ask various questions to estimate some kind of ballpark value for the equity being offered, one company took this as a signal that I wasn't sufficiently enthusiastic about the offer or optimistic about their chances for success. They then started saying things like "We want to hire someone who's really excited to join our team..."
Ultimately the I had to use the "assume the options are worthless" stance, but then, with cash compensation being the only consideration, I ended up accepting an offer with a significantly more mature company.
How are you supposed to get this information while not giving the prospective employer the impression that you're either (a) too skeptical of the company's prospects or (b) too motivated by the money?
> No one was particularly comfortable answering questions about expected exit.
I also don't think asking founders about their expected exit $$$ is one of the figures you need.
What you need to know is:
1) How many options/shares they are offering you
2) How many outstanding unallocated shares
3) How many total shares in the company
4) Most recent valuation (from funding event, etc)
5) Strike price
These allow you to, among other things, work out the value of your shares today for 83(b) purposes which is important as you would need to paying the tax on that within 30 days of your grant if you want to go the long-term tax efficient route.
While we're on the subject of data startups are reluctant to give, I also need to know:
6) Amount raised to date
7) Runway (psychologically its better to ask for runway and calc burnrate yourself than ask it the other way around)
When I've been in this situation the tact I've used has been "Look, you're essentially asking me to invest in this company too because I'm taking an options/equity stake as part of my remuneration. I need to know the top line figures to make an accurate calculation of the total package
They might want to put you under and NDA to get the above, which is reasonable... just don't sign it unless you are making good progress with your interview
(I tend not to sign NDAs unless it's absolutely necessary and then only at last stage)
I've spent many hours with your team, and we've covered a ton of topics: the technology, the vision, the product, the market, and the opportunity. I'm completely sold on all these points. There's just one area we haven't covered, and that's the positioning and goals of the business itself. I'm in this for the long haul and I think of myself as an investor, so I have a bunch of detailed questions for you about the company's finances and plans. Of course, I realize it's very bad for all of us if this information goes out, so I understand if you need me to sign an (additional) nondisclosure agreement before we get in to it. But knowing this will help me understand where we've been and where we're going, as well as reinforcing my gut feel that what you're offering represents a meaningful stake in this business going forward.
Good luck. ;)
I disagree. You shouldn't trade anything for the information. A company should make the information available if they want the value of the options to be considered greater than $0. You are already considering trading some salary for the options, but the onus is on the offering company to make enough information available to convince you that the options are worth it.
When a potential employer gives you anything they consider "significant" equity (ie, worth mentioning as a major part of your comp plan), they are implicitly discounting your salary to make up for it. If you accept their offer, you have given them salary flexibility without receiving consideration.
In reality, information is very much something that negotiating parties exchange. But, I agree that you should reasonably expect enough information to value your equity if equity is a major part of your comp. All I'm really saying is, make it clear to your counterparty that the lack of information about your equity is raising your negotiating floor. Which, logically, it must.
But I am also specifically not saying, "offer 5k off your salary in exchange for valuation information".
- Which is the most likely exit?: 10 MM, 100MM, 1B, 10B?
- Which best approximates my ownership?: .0001%, .001%, .01%, .1%?
If you can get answers to these, it's probably enough of an anchor to make an assessment. There so much variance in the outcome that additional accuracy won't add very much to the analysis.
EDIT: I should rephrase the first question as:
Which of these is the lowest number that would be considered a good exit?
If asked this way, it should account for the liquidation prefs, since those are normally irrelevant during "good" exits. It should also account for some level of risk, since the lowest good exit may be significantly lower than the actual exit (i.e. 100M would be good, but 1B is possible).
Don't expect anything from stock options.
In my admittedly limited experience, just realizing that there are a number of shares out there (fully diluted or not!) and that this grant translates to a percentage of the company and that the strike price implies a valuation is beyond a solid majority of people I've seen receive stock option grants. Articles like this one are certainly needed to improve education on these matters.
Or maybe you're just saying who the hell bothers to negotiate over $1000 over 4 years. I guess that's a valid point.
You may be assuming that the strike price is fairly pegged at a real value of the company and thus you can make assumptions about real growth of the company in terms of multiple. Short of public markets, this is always a questionable assumption, but in the case of new startups it is almost completely arbitrary. When you start a new one, there is no reason to differentiate between choices in the number of shares varying by a factor of 10,000x or more, and strike prices are almost as flexible.
Perhaps the best reason to pick any number is to pick a large one because of the (irrational) psychological impact that your large absolute number of shares will have in option grants.
I suppose this emerges out of people's naive appreciation of public markets. Smaller companies often have stock prices in the teens. Mature, stable companies tend to hold prices closer to a hundred. Blockbusters like Google go to 400! Etc. These prices are managed with splits and have little to do with the return captured by owners of the stock, but people looking at it from the outside sometimes miss this. That's why I appreciated the article so much. It goes beyond these simple matters.
There are so many ways things can fail to pan out or you can get screwed, and employees simply can't protect themselves in the way an investor or founder can. If significant participation in an exit is important to you, the only logical option is to be a founder yourself. Trying to get a payoff as an employee is little better than gambling.
My rule of thumb is that if the options influence your behavior at all, you're over-valuing them.
The stock I got from the much larger, already public company I worked for next turned out to be worth a nice chunk of change though.
* How does your share allocation compare to your peers, superiors and subordinates? In other words, are you getting an equitable share in the company for your position?
* What is the board's strategy for maintaining employee ownership in the face of dilution? Regardless of what you start with, it can be made irrelevant as the number of outstanding shares goes up in future financing rounds. It is natural to expect your ownership share to go down over time as the company grows, but additional share grants can mitigate that effect.
Could it gives a more reprentative picture if we can do a survey on successful exit? Something like glassdoor.com?
Also i've heard really good story happened to the talents in talent acquisition situations. I wonder if the number can turn out better in those cases, especially for non-founder and non-exec.
This is why starting your own company and going for broke seems much more appealing, as having 10-20x what your first employees might have is really a game changer. Couple this with the fact that many first employees may end up doing much more work than the founders, and things can get really perplexing.