It’s time to rethink startup equity
gigaom.com
gigaom.com
The assumption here seems to be that the primary value of an employee is their future effort, not their past. While there are certainly problems with poor employees leaving with some options vested, I fail to see this as an endemic issue where tons of bad employees are leaving companies one day after the initial vesting cliff (which should only result in the first tranche of options, not their full amount). If you have a big problem with this - I'd say the problem is not the vesting of stock options, but your failure to accurately create the right ISO plan and the failure to accurately identify which employees are likely to leave before you've attained the value you need from them.
Your concerns make sense, but can't you mitigate this with larger or better equity grants to those employees? Valuing their past effort is easily achieved with bonuses (I realize this requires the company to actually do it, but the concept works).
In a perfect world, yes, however, most companies are reticent to offer additional equity to existing employees. Not that it doesn't happen, but it usually requires the employee to ask for it.
One of the big issues, which I presume they expect this plan to help resolve, is how do you pre-judge a prospective employee's value? The employee wants a maximal initial grant, and the employer typically wants a minimal grant. The more they favor the grant desire of the employee, the longer the vesting period becomes - such that the employer is able to cut their losses if the employee doesn't pan out.
Simply knowing that if you leave, some other guy that comes after you is going to get your 1% entices you to stay around long after your usefulness has ended. Either way, the company is already out of their 1%, but now they have an additional payroll drag. Much better to accept the 1% if you're going to give it, and be done with it.
I'm also unaware of what the sourcing is by the article's author, wherein lies this huge problem that non-employees hold a bunch of stock in a company is making it difficult for companies to grow into their full potential. To be fair, if a company takes outside investment, it typically gives more stock to non-employees than employees, additionally giving them preferred upside and rights the employees as common stock option holders do not have. Again, if they feel the outside investors have much better aligned interests with the company than the current employees, they have a different problem than option grants.
The fact that the author considers 1% of a startup's illiquid equity pre-dilution to be a "rich incentive" highlights just how much rethinking is required.
For argument's sake, lets assume an early-stage startup has no future dilution and five of the first 15 employees leave before a liquidity event. In 2012, over half of startups exits were $50 million or less. With a $50 million exit, the 10 early employees would each receive $750,000 pre-tax from the DSP pool. Even with a $100 million exit, each employee's DSP pool share is not likely to net $1 million after taxes.
Of course, at a typical venture-backed startup, dilution is likely to be meaningful, liquidity preferences can prevent employees from receiving anything at all and the odds are against a $50 to $100 million exit ever occurring. Experienced and/or savvy employees know this, and they can do basic math. So it shouldn't come as a surprise that early-stage startup equity is generally a poor retention tool. It's like using a screwdriver with a nail instead of a hammer.
Retention requires a sustained effort to keep employees happy on a daily basis. This is usually best accomplished with financial tools that provide for near-term, recurring rewards such as bonus and profit sharing packages, as well as non-financial tools (pre-tax benefits, flexible schedules, etc.).
Is there a recommended forum, website, subreddit, whatever, that discusses issues revolving around startup equity?
I'm new to the Bay Area, and working at my first funded startup. There are a lot of, for lack of a better word, things that strike me as strange about our current equity situation... and I'd like to know where I can discuss things like what is fair and equitable, and how worried I should be that certain fancy titles are being handed out like candy to non-developers.
I do, by the way, like the ideas suggested in the post - but I wonder about the company that achieves moderate success, but never achieves a clear-cut liquidity event. Instead it continues on for years, perhaps a decade, who knows, without being sold or IPOing. It would put an initial employee in an awkward position; they'd leave most of their equity on the table if they left, giving them no value for many years of contributions.
When an acquisition is in the air the by far most profitable move would be to start bullying others out. If the finances aren't transparent to at least those 15, I'd expect false rumors about the company's profitability going around to make other people quit.
I would not work for this company.
For other companies that are interested in playing the long game, I think it makes more sense to explore alternative compensation structures like profit sharing, etc.
As an employee looking to work with the typical exit-seeking startup, I would probably not be interested in the deal.
IMO, for non-growth oriented companies, I believe this is the best way to align employee and company interests. I can imagine that there are more effective means of doing so, but I can't imagine what they would look like. The devil's in the details, of course, but a properly-implemented profit-sharing plan seems to be well-received by the employees whom I've witnessed partake.
This is additional to a standard stock option grant. Though I'm not sure what is meant by "traditional" here I assume there is some other amount of options with a standard cliff.
Many startups will pay salaries that match (or almost-match) those of larger companies, but the work at a startup is likely to be much more interesting - you'll usually move faster and learn more than at a larger organisation.
Is this really true? I've heard of larger companies justifying lower salaries through the value of stability.
Startups generally try to match salaries now, however, that is not enough considering the 1 year lifespan of most startups today, they need to raise in 1 year after the last round. The risk is the economic cycle where we seem to be near the top.
With startups I can actually negotiate and get results. With big companies every major hike in the offer needs to go through a long approval chain. In a few instances I've been off the market by the time they came back to me.
I've also had less jerking around with the aforementioned bonus structures from startups. With big companies I've consistently gotten "$Y base plus up to $Z discretionary", where Y + Z adds up to my asking. I've taken one such offer before and gotten completely shafted (i.e., highly positive performance review, bonus nowhere to be found). Startups are much, much more willing to simply pay my asking salary as base.
My impression with big companies is that their recruiters are their greatest liability. I've had recruiters ask for my salary be lowered because they're paying for my move. No thanks, I know exactly how much a move costs and it's nowhere near the (permanent! not one time!) reduction in salary. Things like that make a negotiation go south quickly. When it comes to smaller companies I've never been treated by HR/recruitment like I was born yesterday, whereas that experience is the norm with big companies.
I heard of 200/300k for iOS devs though, so keep looking :)
I also have no complaints about my pay ;) But my experiences with big companies have left with me little desire to talk to them. It's always been a frustrating experience full of low-ball offers and treating me like an idiot.
Every time I've dealt with big-company salary negotiations it's felt like buying a used car. "Oh, we absolutely cannot go higher than that ceiling" "Welp, sorry then" "No wait, we talked to our VP..." - startups (or really, just smaller companies) have always been much more transparent and much more direct in their dealings.
https://devauc-static.s3.amazonaws.com/blog/2013/10/Late-Sta...
Never underestimate the power of underpaying but deeply investing personally in your employees at a startup. Many people will produce better work at 70-80k with serious facetime with the CEO and complete control over product or business strategies. People appreciate agency over their work a lot more than many assume.
Things I like
- Aligns employee incentives strongly with founders/investors in terms of seeking an exit. Some people now just jump from company to company collecting equity.
- When a company can expect an employee to be around for awhile and vice-versa, both invest more in each other.
Some questions and concerns
- Not all companies are going to reach a liquidity event and thus it may disadvantage employees if they feel more locked in to staying onboard in a situation with limited upside.
- This may prompt more job candidates to only join companies which are sure-bets, and hurt companies with that crazy idea.
- Such a deal would probably even out with current offers of equity because time is equal to money, but the increased amount of equity will be used as leverage to reduce salary.
- Acquiring companies are going to hate this with a passion as they rely on there being some vesting time left in order to keep acquired employees.
- Although perverse, the dynamic pool aspect might make the first 15 employees try to get the others to leave since the upside of doing so is high. Likewise, if the pool is a certain size, there might be some resentment if the company hires more people and reduces equity for everybody else.
- What is preventing the company from simply adding more people to this coveted pool once one leaves, reducing the advantages the first few had?
It also would encourage the company to reduce financial transparency if things weren't going well
It removes a lot of tax brain damage and risk for the employee when they are dealing with non-liquid company stock that they can't sell to anybody. Companies don't like it, since it doesn't let them take back a lot of stock left on the floor by many leaving employees, but so be it, they already have vested by one year at that point.
Founders and investors are in a position of power, which means there is an easier solution to the quoted problem: create more shares (dilute) when necessary. In the mean time, just give out more stock.
They could have the options vest linearly (maybe with a gap at the start). That way no day is better than any other for quitting to cash out
Hey guys, we are on Hacker News, we're supposed to be entrepreneur-minded.
Thus for would be entrepreneurs, this structure would be a pretty big negative.