The point is to share success and incentivize for success. Secondly, public companies can give compensation packages with high base salary and equity grants. These packages for engineers could be in the range $200k-500k and the equity piece is pretty much liquid. Startups cannot pay $500k but they can pay reasonable salary (50-90th percentile of the market) and equity options with a huge upside multiplier.
Startups are a venture. Join them if you want to join a venture. Don't join a startup for if you want stability or predictable outcomes.
In the past 12 months, there has been probably 20 tech ipos or more. These IPOs have been in the range of $5B to $100B. Each of these outcomes might net early and late employees anything from few hundreds of thousands to several millions or tens of millions.
The very first employees (first 1-5 employees) might get ~1-2% of the company for their 4 year vesting. That diluted over multiple rounds over the years might still mean the ownership is at least 0.1-0.2% or more. Company hitting $100B market cap after listing means the employee’s position is now worth $100-200M. That’s amount of money you can never earn with salaries. You can only earn it by starting a company or joining a startup early on with a good equity package. Both cases it's rare to achieve that but it does happen. Probably each IPO you see has a few of those.
The reality is that VC funded businesses need to be massively successful with maybe 10-1000x the returns to be considered a success and return something to the employees.
It’s called an option, so it’s an option for employees to buy the shares with ~1/5 of the preferred share price where it was when you joined the company. Investors pay higher price for the preferred shares and one of the things they get is the liquidation preference, so they get their money back first. Good rounds and VCs do 1x liquidation preference. Bad rounds or bad VCs companies might force company to n-x liquidation preference. As a founder, you don't lose with the liquidation preferences like everyone else, so it's not in your or in the company interest to do them.
This is also where the valuation comes in. A hot startup might raise a lot of money and have a high valuation early on but won’t be able to execute and scale to the level to meet the expected valuation. Now everything below and level of that valuation is considered a failure. Then if the company cannot keep executing, raise more money or just generally lose steam, they might have to sell the company to get something. Honorable founders and management would try to help to employees to keep their jobs or even see if there is way to give any of the proceeds.
Exercising options is always risky since the startup outcomes are risky. You shouldn’t exercise with money can't afford to lose.
Savy companies and savy employees join companies with extended exercises where employees can keep their options up to 10 years without exercising. This avoids the downside risk for employee but unfortunately doesn’t help with taxes. Exercising early can start the clock for long term capital gains and some cases QSBS (tax free treatment up to $10M).
Summary: options are definitely worth it if you join the right company. When considering joining the company, think how an investor would. Would you believe in team and business and invest? Check their investors, are they reputable? Join companies with extended exercise windows, exercise early if you have the means and belief the company will succeed.