An Engineer’s Guide to Stock Options (2013)
blog.alexmaccaw.com
blog.alexmaccaw.com
In this case despite the fact that I sold the shares on the same day for less than the 409(a) valuation, that valuation is still used to determine taxes owed for exercising. And that spread is taxed as income, whereas the subsequent "loss" on the sale (since the cost basis for the stock was then the 409(a) valuation and I sold lower than that) is a capital loss, and so they do not cancel each other out. Luckily in my case my sale price was just a little below the 409(a) valuation so I didn't get hit too hard but still, it felt absurd.
"Startup Stock Options – Why A Good Deal Has Gone Bad"
https://steveblank.com/2019/04/10/startup-stock-options-why-...
Whenever an article like this is posted HN seems to immediately raise this issue about how startup equity is just a lottery ticket when the probability of it paying off is clearly so much higher especially at a time when so many startups this year and next are going public at $10B plus valuations.
If there was a time to have options at a growing, revenue generating startup it’s today.
My friends who spent 6 years at a startup just found out his equity is literally worth pennies on the dollar. It will be a write off at best.
2020 as well. This mentality of looking at successful exits is the same now as it was a decade ago or more.
Yes, there are always people winning the startup lottery. That has never changed and nobody has ever claimed winning at it is impossible. No, there are not many of them and now is no better a time than any other.
The lottery is the lottery. World keeps spinning.
The point is the term “lottery” is like a 1 in a million chance or more. Startup options are not a 1 in a million random scratch off ticket. You make an informed decision about a company when you decide to join just like a VC would. It isn’t like you’re picking a company to work for at random.
I am glad you are excited about working at startups. There are a lot of people on here with a LOT of working experience who have seen this game play out over and over and are not dazzled by a handful of giants making it out anymore.
Yes, it’s probably better odds than the literal lottery. That does not say a lot. Anyhow, I’m happy you’re excited and am not going to convince you - clearly. Enjoy your weekend dude.
If you got in before anyone heard of the company it could be a true lottery ticket.
What companies do you know that have been around for 10 years that someone should join today to get the next lottery ticket?
Do you know how much more information a VC gets before it closes a deal vs yet another employee? Do you get to see their books before you get hired? likely no. Likely not even once you are an employee. This is kept very far away from you.
The actually promising startups don't have problems finding people. From what I've heard, it used to be way harder to get into Google in the early days compared to now. So most people only have a choice among a bunch of non-promising startups.
Firstly, almost no startup I've seen lets me look at the cap table or board minutes, much less finances. So you get a very limited view as an employee or potential employee.
Secondly, even suppose you had the same knowledge as a VC -- the VC is making a portfolio bet that 1 of their 20 companies will hit it big. You get one lottery ticket, not a portfolio, so the risk/reward is totally different.
You might not get rich, but there are plenty of folks out there who have made a few hundred thousand in a small company IPO, or an extra $50k for 6 months of work, or whatever.
Uh no, it isn't. You are literally better off throwing some money from your salary every week into lotto calls for options in real companies.
Most are simply made whole after years of being underpaid.
Looking at successful exits (the ones you hear about) as your indicator of the market state is lopsided and inaccurate. I have one friend who did well in an exit. I have countless other friends who have been in and out of startups that either fail, get rolled into another company with little/no cash landing in their pockets, or get acquired for a pittance.
You are looking at the Michael Jordans and Kobe Bryants and deciding that everyone can win big in basketball.
Again there’s always winners and losers. I didn’t say everyone is a winner. But the odds are no where near “random lottery odds” especially if you aren’t just randomly picking a company to work for and have a clue why the company could be successful.
Maybe some are better at leading startups to success as soft. eng. and not so much as VCs.
Snap, AirBnB, Stripe, FB, Tesla (though TSLA is kind of a weird exception in lots of ways) - it isn't that hard to see which companies are rocket ships in early growth. If you can get a seat on one even as employee 500 you'll probably do pretty well.
Yes there's risk, but the odds aren't lottery odds and it does a disservice to inexperienced people that don't understand what's true to pretend this is the case.
You also get to make this bet a few times if you're good at interviewing and willing to jump around every four years or so to a new place (something I haven't done, but I've seen people do).
Why do you think naive employees can pick winners? Clearly the vast majority don't or can't...
The only difference is that an employee might get in on a hot deal where many investors are chasing one great looking deal and most investors will miss out.
The good ones (of which there are few) have hands on experience as founders or a deep understanding of the industry and personal technical experience. Employees don't have to be naive, they're on the ground with an understanding of the technology and are likely to see first hand what works and what doesn't.
Obviously not everyone will succeed, but there's no reason employees can't do a better job than investors (and many do).
Gladly. I hope they form a single file line.
You could work for Facebook, but think Apple is a better bet and sell your equity every month to buy apple shares. Most startup employees overvalue their equity and accept lower total compensation compared to their public company counterparts and receive illiquid or potentially even negative value financial instruments in return.
If I take knowledge of 2020, go back in time, and take a job, it seems like a great deal. If I'm back in 2010 or 2011, and take only knowledge of the world at that time, would I have chosen AirBNB? I'm not sure.
Even if I did, what are the odds I could/would stick around long enough to make it to the IPO -- or was willing to exercise illiquid stock at departure with years to go before the stock can be sold?
To make it fair, one should of course also consider companies which did not IPO but had good acquisitions. I'm not sure what that number is, 300? 3000? Still, across a field of 20,000 or more startups it is unclear how I'd get to this smaller set.
I think there are def things that can increase the odds, but I dont think it is fair to look backwards using 2020 knowledge.
If your strike price is $1/share, you have 100,000 shares, and the last funding round closed at $20/share, you have to pay $100,000 to exercise and pay taxes on $2,000,000 that you’re still highly likely to never actually have the opportunity to turn into real dollars through a stock sale.
The longer you stick around, the more you’re incentivized to stay waiting around for a liquidity event at a job you’ve outgrown and potentially hate at this point. While the company itself has incentives to delay IPO as long as possible, knowing full well that they’ll lose a sizable amount of their burnt-out senior talent within months of going public.
https://blocksandfiles.com/2020/10/12/actifio-reverse-stock-...
“People keep saying that lotteries are ‘a tax on people who can’t do math’, but if you pay attention there are lottery winners every day. There’s no better time to play the lottery!”
Look at venture capital, since they’re the ones that invest in every one of these VC-backed funds. Most funds don’t make money and of those that do, exceedingly few beat the S&P 500.
The examples you’re giving are a tiny sliver of startups and at this point are not startups.
From Steve Blank's article:
> Startup employees calculated that a) their hard work could change the odds [of their options being valuable] and b) someday the stock options they were vesting might make them into millionaires.
So while from an odds perspective, today's ISOs are still (perhaps) better investments than state-run lottery tickets, from an employer/employee perspective the alignment of interests is no longer there. And (as you've noted down-thread) this is resulting in employees asking for much higher salaries that essentially match what they're being offered by already public companies. In addition, employees may be more focused on the success of their careers and less on the success of their employer.
Firstly, you have no idea what the cap table looks like as an employee, so it isnt clear whether you alignment is equivalent to a grain of salt or a car or a private island. And if it werent a grain of salt, the company would be eager to tell you.
Next, founders often get partial cashouts, so their goals are different from yours. They already got their nice house in palo alto, their nice car, and a kids's college fund. Now they are swinging bats for a grand slam. You are the ball they are hitting -- most likely they strike out. You lose, they still win, just not as big.
Next, VC-installed management, friends of the board, and other insiders are already cashing out while you "wait for the big IPO." The insiders are getting nice cash bonuses. They are on incentive plans where they get $1/2 Million or more for hitting targets. Or they are 20somethings who are mysteriously senior directors or VPs earning cushy 400k salaries. You arent.
Instead, you are taking your "startup salary", a big discount over big company stock. You're working just as hard. Each year you give up big perks and big pay at big companies you could be working at. If you cant take it anymore, you lose, because you have to exercise illiquid stock and pay tax with real money. If you get bullied or have been sexually harrassed and are desperate to find another job, you still lose -- , because you have to exercise illiquid stock and pay tax with real money.
Except there are a line of suckers, often out of college, willing to take this bet. So the music plays on.
1. Be a VC if you can
2. If you cant, be a founder OR work at a FAANG
3. If you are risk loving, work at a late stage startup with some semi-liquid private market for stock
4. If you are looking for punishment, roll the dice with an early stage startup OR play the lottery
The ONLY real scenario where early stage startups make sense is if they give you a great role you cannot get at a big company, something with lots of learning or growth. That is actually a great opportunity.
https://www.nbcnews.com/better/money/these-states-offer-best...
It is not obvious that stock options in startups are worth that much on average for each dollar you forfeit to get stocks.
AirBnB, DoorDash, etc. have been giving RSU's, not options, for years. RSU's are still worthless without an exit, but stock options have the major problem that you can wind up with negative value, or even extremely negative value. RSU's at least have a floor of zero.
1. You cant afford to be on a "startup salary" anymore
2. Any number of reasons
3. You are being bullied
4. You are being sexually harrassed
Regardless why, if you leave, you are forced to exercise in 3mo. Then, if you take the deal, you usually end up with negative value.
I’d love to know whether this is a common story or a rare one, but I doubt that data exists publicly.
Nowadays there are non-recourse loans available on the market for that (covering both exercise costs and taxes). Not for all startups though and mostly late stage ones.
Basically if you're in college and reading this on HN don't listen to HN comments that discount equity or value it at zero.
Know that it's hard to value, but that isn't the same as zero. It could be worth millions, it could be worth nothing, it could be worth somewhere in between.
There are lots of angel investors in the bay area because of exits that netted them 2-5M or higher ($10-20M) as regular employees. This feedback loop is part of the reason the bay area generates so many companies.
It's a bet like anything else, try and judge what kind of people the founders are and how solid the business is. Learn about ISOs and what questions to ask/how the basics work (things like the linked article here). It's an investment - owning equity in a good company is the quickest way to get real wealth if you don't already have a lot of money.
Ignore a lot of the people that make over-confident statements about it being worthless, consider the risk, value the company and founders, decide for yourself.
---
Today Stripe seems like a good choice to get a good equity return as an employee on IPO, Roblox and Robinhood are others. It's not obvious how things will turn out, but it's not impossible to make a good guess.
But that happened back in the day when an early employee got a good cut of the stock. VCs have been perfecting their process, especially since the early 2010s. The contracts are different now -- the founders and the VCs get pretty much all the equity now.
Look at even the biggest IPOs this year. Look at how much equity was in the employee stock pools. Not nearly as much as it used to be.
> Today Stripe seems like a good choice to get a good equity return as an employee on IPO
That's highly unlikely. The company is doing well, but a new employee will get a tiny fraction of the equity.
Hindsight is 20/20, it's easy to pick the success stories after the fact. Can you pick the 3 companies most likely to IPO in ~2030, and would you stake money on that?
> It's a bet like anything else, try and judge what kind of people the founders are and how solid the business is. Learn about ISOs and what questions to ask/how the basics work (things like the linked article here). It's an investment - owning equity in a good company is the quickest way to get real wealth if you don't already have a lot of money.
Sure, it's the quickest way to get real wealth if you get very lucky. For most people it's a losing proposition.
Companies are taking longer to IPO, that doesn’t make them a bad bet but the time horizon is longer because of all the private money available (in part from people making money via equity).
FB started in 2003 and went public in 2012. You could have joined in 2010 and your equity today would be in the seven figures.
I’d bet on stripe being similar (though I don’t know the specifics of their offer letters). I think Robinhood is a good bet too. For a smaller, less known company - I’d pick cloud kitchens.
> “ Sure, it's the quickest way to get real wealth if you get very lucky. For most people it's a losing proposition.”
People on HN can keep repeating this to feel better about themselves, but those that ignore it are the ones that’ll make seven figure (or higher) returns.
Edit: SpaceX (Starlink) are other bets I’d be happy to make.
> FB started in 2003 and went public in 2012. You could have joined in 2010 and your equity today would be in the seven figures.
Feel free to prove me wrong, but I have my doubts that you would receive anywhere near enough stock as a regular employee that late in the day to make it worth millions of dollars after IPO. Same with Stripe. (Note that appreciation in the value of Facebook stock between 2012 and 2020 doesn't matter at all. Anyone could have bought Facebook stock in 2012 and seen those gains).
> "Note that appreciation in the value of Facebook stock between 2012 and 2020 doesn't matter at all. Anyone could have bought Facebook stock in 2012 and seen those gains"
This isn't really true - FB is kind of an exception since it went down after IPO, but in the general case regular investors don't usually have the ability to get in at the initial price. Also later in a company's life employees are more likely to be granted RSUs instead of options. Holding RSUs is different than dumping in money on IPO day as an outsider (even exercising options gives you some buffer that makes it lower risk).
I don't know what FB's 409a was in 2010, but I've had friends at FB, Snap, AirBnB, Slack, Palantir, Tesla all do extremely well from their pre-IPO equity and none (except for Snap) were super early employees.
Yes there's risk in exercising options, you can mitigate that by choosing well. It's worth taking it seriously when evaluating comp.
I'd also argue the opportunity cost/downside risk here is not so bad either. Salaries at modern VC startups are pretty good anyway. You can make the bet and just work at your preferred megacorp if it doesn't work out.
Also - I appreciate the back and forth, the reason I push a little on this issue on HN is because I think it misleads new grads who read these comments into thinking they shouldn't value equity, I think the answer is more nuanced.
> Well if there is a spread then you have some other options (second market, third party exercise) and you already have some return. If it's valued at significantly greater than when you joined you're in a decent position.
IME this is true at more established private companies but not at most startups. I don't think it would be that easy at Stripe in 2012 or 2013, for instance.
> Yes there's risk in exercising options, you can mitigate that by choosing well. It's worth taking it seriously when evaluating comp.
With all due respect, I think that you may be letting hindsight get in the way of how difficult it is to pick which companies are going to be successful in 8-12 years' time. I certainly couldn't pick the Stripe, Slack or Palantir of 2030. But if you can, you are much more insightful than I am - although I think that my (limited) level of discernment may be more representative of the average person making these decisions.
> I'd also argue the opportunity cost/downside risk here is not so bad either. Salaries at modern VC startups are pretty good anyway. You can make the bet and just work at your preferred megacorp if it doesn't work out.
They're not bad, but you can easily pocket an additional $100k+/yr working at a big company, that money adds up when you invest it, and that money is guaranteed. (There are plenty of non-financial reasons to work at the startup, though, obviously.)
*Doesn't apply to companies with 10-year exercise windows or other good tricks.
> Companies will shovel money to their lawyers to set up an ownership structure that benefits the investors and founders
This isn’t entirely true. When a new startup goes to a law firm to set this up, even top tier law firms will provide a structure based on prewritten templates that the firm uses will (nearly) all their clients.
This means that setting up a company is actually relatively cheap if you use pre-written templates from your law firm. As soon as you make any special requests, it means those templates can no longer be re-used and that’s when the startup needs to shovel money having lawyers rewrite the templates to accommodate special requests / clauses.
The blame for this is always put on founders, which isn’t uncalled for. But for real industry wide change to happen, it’s the law firms that need to make it easier for their clients to offer employee-friendly structures so that founders don’t need to pay a premium for employee-friendly structures.
Also important is that the entire structure is typically set up very early in the company’s history (usually before the company has any or minimal funding). It’s difficult to justify spending $20,000 to set up a non-standard equity structure vs. $2,000 for the standard docs when the startup may only have just $100k in the bank.
Industry change won’t happen without law firms offering cost efficient ways for companies to set up employee friendly structures.
The situation is very unfortunate and unfortunately difficult to fix.
The party that can make industry-wide changes are the VC firms.
At the moment they feel entirely valueless.
- having ISOs is bad, you don't get any of the tax advantages that Americans get and it means that they expire 90 days after you leave the company if you don't exercise them
- having NSOs that expire after 10 years is good, they can still be risky to exercise (same as with ISOs), but that's not too bad because you can delay exercising for 10 years after you get them, and hopefully they'll become liquid (or worthless) before then
- it's possible for a company to switch employees' options from ISOs to NSOs (for example Pinterest did this https://fortune.com/2015/03/23/pinterest-employee-taxes/), so it might be worth putting pressure on your employer to offer that change if you're in the bad (ISO) situation
And in the absence of the NSO option, my current thought on the matter is that they hold no value unless there's an exit while I'm working there, and I'll want to get an accountant who knows how to exercise it all properly.
These are "realized" gains to the IRS, but unrealizable to the employee because there's no way to sell the shares. That leads to large tax bills only payable in cash, which you can't get by selling the shares.
There are solutions to provide this liquidity in the works: https://www.google.com/amp/s/amp.ft.com/content/d52b0487-b13...
As soon as these are real, most issues with stock option compensation go away.
There's also the lockup period after an IPO during which a stock can be very liquid but employees are prohibited from selling.
This looks like the same type of Gold Rush that happened 20 years ago in the dot.com boom/bust. Same advice I learned the hard way applies today as I wish I'd learned it then - "when there's a gold rush, go sell shovels." Or in this case, as a technologist, sell topographical survey info you've collected, gold panning tutorials, fully outfitted claim excursions (you get the idea) - ANY knowledge you have about HOW to do what people THINK they need to do to find gold. Don't take equity, take cash today. It doesn't matter if they get rich or not, YOU make sure you get paid FIRST and be clear that if they don't want to pay for your services, their competitors certainly will.
To continue to abuse the analogy, to the business person we technologists are now and have always been "resources" to be used as a means to an end. You think they want to give their "pack mules and shovels" a cut of the gold? Unless you have some business domain knowledge, you'll never get an equal seat at the table. 9 times out of 10, if you DO have some business knowledge, you can probably make more money by going off to become a direct competitor. Or, better yet, gain some knowledge of the field and work with a competitor who has a better vision.
I've been inside 4 start-ups in various stages, and one post-IPO company that included stock options over the past 20 years. Only the dot.com era company ever amounted to anything, and that was dumb luck WRT having an IPO when people would force money on you for doing eAnything(TM).
I follow one primary rule when taking a job: you're either there to earn, or you're there to learn. It you're humble enough and not an idiot, you realize that there's a number of things to "learn" at any point in your career between different industries, different career paths, and different levels of position. If you think you're "too good" to do some job, you may be right but you may also just be an asshole.
At least that way, folks who believe the stock will be liquid within 5 years, but don’t want to wait can exercise, defer taxes, change jobs and see how it goes. As the article says though:
> And, as in any option exercise, paying the exercise price itself is an investment risk and having a tax-deferred exercise does not make the exercise risk-free.
[1] http://stockoptioncounsel.com/blog/tax-deferred-option-exerc...
It would be fantastic if YCombinator could run the numbers: I suspect the median payout would be very low!
Early stage startups are often a crap shoot financially as others have pointed out, and contracts are structured so that unless you're a founding member, even a successful exit (after 10 years avg) probably won't net you FAANG money.
You will however probably have greater job satisfaction having more ownership over the product and will gain a much greater breadth of experience, which are the main reasons people leave FAANGs for startups (yes that is quite common).
Late stage startups (companies that are still primarily VC backed) but have a high likelihood of a successful exit have a financial risk-reward that is much closer to FAANG. The upside is that they are not so massive that your job will mean more than just ladder climbing and working on menial projects that have zero business impact.
You may find pre-ipo companies (Robinhood, Instacart, Coursera) hit that sweet spot of comp and job satisfaction.
Also if SPACs continue to get more popular, there's another option for the mid-stage startups.
Are there tax strategies to consider? Selling / holding strategies? Should one consult a tax advisor for a few sessions to learn about any specific issues to take into account in holding, selling, planning, and taxes?
Thanks!
That being said, if their value is over $1MM, a lot of financial advisors will gladly review your stock agreements and give you a free consultation. They do this because they hope you will sign up for their services after you become rich.
Can the option part of ISO be written in such a way that you can decline the option if it is financially disadvantageous to exercise it? Is it enough for the company to grant a long exercise window, say five years along with a decline option?
However, I completely agree with your sentiment that knowingly granting vanilla ISOs to early employees which require any double digit percentage of salary to exercise as they vest is quite cruel, especially those that do not understand the dynamics of the "AMT trap".