
It’s time to rethink startup equity - gphil
http://gigaom.com/2013/11/13/its-time-to-rethink-startup-equity/
======
drone
The problem with this model is that the company at liquidity event often
rarely resembles the company during the early phases. As such, the employees
which benefit the company the most during the early phases, and whose skills
are most aligned to those phases will not be fairly rewarded if they make the
(IMO, correct) decision to leave the company to make room for the right people
at those later stages.

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.

~~~
the_watcher
>> The problem with this model is that the company at liquidity event often
rarely resembles the company during the early phases. As such, the employees
which benefit the company the most during the early phases, and whose skills
are most aligned to those phases will not be fairly rewarded if they make the
(IMO, correct) decision to leave the company to make room for the right people
at those later stages.

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).

~~~
drone
> but can't you mitigate this with larger or better equity grants to those
> employees

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.

------
7Figures2Commas
> The DSP pool is egalitarian, shared equally amongst the first fifteen
> employees we hire. So it’s a rich incentive at 1 percent of the company
> (before any future dilution).

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.).

------
zck
It's also an incentive for the company to fire all of those 15 employees.

~~~
danielrhodes
There could easily be a trigger for this where if the company cancels their
end of the at-will agreement, the equity is deemed to vest at a certain rate.

~~~
johnrob
That just turns it into what we were getting away from: vested option grants.

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JimboOmega
Reading this lead me to a tangentially related question:

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.

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peterjancelis
Wouldn't this lead to ever increasing office politics among the first 15
hires?

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.

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bcbrown
You can't give 15 people 15% each, that comes out to 225% of the equity. Or is
he saying that the 15 people will split the 15%? Because 1% that doesn't vest
until a liquidity event isn't that special, it seems to me.

I would not work for this company.

~~~
oijaf888
You wouldn't work for a company that gives you an extra 1% of equity on top of
your normal grant? Why not?

~~~
21echoes
there's no indication that your normal grant would not be made in light of the
additional 1% grant on the table if you stay thru IPO. The article even says
that "the majority of Opsmatic’s employee stock — 15 percent of the company —
is allocated to the DSP" so there's not particularly much employee stock
outside of the DSP available for your "normal grant"

------
yesimahuman
This really only makes sense for companies that are looking to exit or IPO,
though stock options for any other kind of company aren't that compelling.

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.

~~~
drone
> 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.

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.

~~~
yesimahuman
Growth and long term vision or lack of interest in an exit are not mutually
exclusive. At any rate, I'd be curious to hear how companies like Mailchimp
are doing these types of compensation.

~~~
drone
By "growth-oriented," I'm referring to those companies who eschew any profit
in deference to further growth (even if they could show reasonable profit at a
slighter lower rate of growth). For these companies, they lack the immediate
value to works of a profit-sharing plan, which, IMO, is one of the most
valuable aspects of it.

~~~
yesimahuman
Sure, good point. I'd rather not be on a profit sharing plan in one of those
companies :)

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damoncali
This devalues that grant considerably by making the vesting cliff equal to the
date of the liquidity event. I would not take this deal as an employee. I want
less cliff, not more.

~~~
lucisferre
> in addition to a traditional stock option grant, we’re offering our first
> fifteen employees, or however fewer it takes to get to the next financing,
> an equal share of 15 percent of the company

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.

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brosco45
Joining startups right now is generally a very bad idea unless you join as
founder or director level +

~~~
simonw
That's only true if you are doing it purely for the equity (which is a
terribly idea).

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.

~~~
rhizome
_Many startups will pay salaries that match (or almost-match) those of larger
companies_

Is this really true? I've heard of larger companies justifying lower salaries
through the value of stability.

~~~
potatolicious
This is anecdotal - but the salaries quoted to me by big companies ("AAA",
well-known companies even) have always been lower than what startups have
offered. I've always perceived this as an extra upside for the risk of being
on the sidewalk in a year's time.

~~~
brosco45
You are doing something wrong, make sure to anchor a high salary early on.

~~~
potatolicious
I have. The problem has always been the onerous approval chain in big
companies, or crappy recruiters who fill the offer with discretionary bonuses
that _add up_ to my asking price.

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.

~~~
brosco45
Ah, ios/mobile. That is the one place where the big companies are underpaying
because most of them don't need mobile apps.

I heard of 200/300k for iOS devs though, so keep looking :)

~~~
potatolicious
At the time I was still working in backend.

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.

------
danielrhodes
I generally like the sound of this, although really what it amounts to is a
single trigger on a liquidity event. The dynamic pool part is the interesting
bit.

 _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?

~~~
mason55
_> it may disadvantage employees if they feel more locked in to staying
onboard in a situation with limited upside._

It also would encourage the company to reduce financial transparency if things
weren't going well

------
mahyarm
I just want vested stock options to not expire soon after leaving the company,
with no company call options on said stock. Those simple properties alone
would help a lot.

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.

------
johnrob
_On the other side of the equation, founders and investors are increasingly
tight-fisted with company ownership, allocating smaller stock pools to
employees_

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.

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shawabawa3
If they want to get rid of the cliff...why not get rid of the cliff?

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

~~~
tptacek
The cliff is a failsafe against granting any equity to employees that should
not have been hired at all. It is employee unfriendly in the sense that it is
a concession employees make to the firm, but it's a "market" concession; it's
part of the deal at most startups.

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pstuart
What about option grants at public companies? It seems like a way for top-
level executives to loot the company while the rank and file get enough kicked
down to them keep them quiet.

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ar7hur
I'm surprised that most of the comments here ("I want less cliff, not more"...
"why don't we just get rid of the cliff"...) are really employee-centric --
and not the kind of employee I want to hire as a founder/CEO.

Hey guys, we are on Hacker News, we're supposed to be entrepreneur-minded.

~~~
avalaunch
Most entrepreneurs start as employees somewhere and they don't want to feel
locked in to staying for who knows how many more years than they would have
otherwise, waiting (hoping) for a liquidity event so they can realize their
equity and finally start their own company.

Thus for would be entrepreneurs, this structure would be a pretty big
negative.

