Let's say you're granted about a year's salary in shares when you first join so you've vested $100K for a round number. When you leave that equity is worth $1 million. Now, you have to come to the table with the $100K to exercise and probably another $200K to pay the tax man. If the company goes belly up, you lose $100K outright and are stuck with a $200K tax credit that you get back in $3K per year deductions for the rest of your life.
Or, you could have exercised the shares as you vested and paid a bit less in tax with the lower 409A valuation..but you're still maybe looking at a $100K total tax bill.
Do you take the risk or not? Or do you end up locked in for a few more years of handcuffs while waiting it out?
It'd be really hard for me at least to walk away from this situation with nothing..so then I have to value the equity as something. And if I want to treat it as 0 it'd be really tempting to wait a few years and see..which again means the equity is worth something to me.
Please use correct terminology. You're given options to purchase shares, or you're given shares outright. The former is what most people are accustomed to: options to purchase shares at a discounted price. The latter, know as a "stock grant," does not require the employee to purchase the shares - they've been granted to the employee.
Both of these things tend to come with a vesting schedule: you don't get to buy all your discounted shares when you start working on day 1, nor are granted shares handed to you because you showed up on the first day.
"Granted a year's salary in shares" would mean there's nothing to buy because those shares are yours.
However, this means you take the tax hit when you receive RSUs, unlike options, where you're taxed when you exercise them. This can be good or bad, depending on the value of the shares, the vesting schedule, etc.
1. Tax treatment (A RSU counts as income when you receive it, an option counts as income when you exercise it and get stock. Remember, many people recommend early exercising options anyway for preferable tax treatment, though this can lead to taking a loss on taxes if the shares wind up worthless. If you are forced to exercise a large block of options when they are still illiquid, you will have a very large one time tax bill, which may be much harder to deal with than smaller ones each year)
2. Risk (For options, you have to dish out cash from your pocket to actually receive stock, which is more risky than if you don't. Until exercise, the two choices are similar)
In general, I would prefer options with a long exercise period, but I may prefer RSU to options with a short one...
Google, Facebook, Netflix etc. can do this easily since they can just sell the RSU shares on the public market. It's the illiquidity of the shares that makes this option costly for private companies.
The common practice of immediately selling whatever percent of shares is required to pay taxes on them is something that employees are choosing to do, supported by the trading firms that help implement vesting schedules and stock sales. Employees are allowed to keep all of their shares and pay tax on whatever next interval is required instead, if they wish. One can only follow this practice of selling shares immediately to cover tax if the company's shares are liquid, i.e., the company is a publicly-traded company with an IPO.
I suppose in theory one could receive stock in a private company, and sell shares on the secondary market to cover taxes, but with private companies you can't take it for granted that (i) you'll be allowed to do that at all, or that (ii) there will be a buyer for those shares at all, or at a price you're happy with. With a publicly traded company, it is taken for granted that there's always a buyer for the shares, and at a price that is commonly known and accepted.
You _may_ be able to perform an early exercise on ISOs and perform an 83(b) election at the same time. I've done that twice now .. the first time worked out very well. The second time I'd anticipate will work out quite well as well.
Be careful. If your total grant (not the amount your exercising, but the total amount that will vest over four years) is worth more than $100,000, the amount in excess of $100,000 will lose ISO treatment and be treated as NSOs. So if your grant is worth $500,000, and you early-exercise a single share, $400,000 will be automatically converted to NSOs.
This is an IRS rule, independent of your company's terms.
That said, they're not really worth anything to you until they're vested, of course.
Now the remaining 75% of those options might vest monthly over the next three years. "Vesting" does not impart value. It's not indication of whether you're going to make any money at all. Vesting is an instrument used to make sure you stay on with the company for an appropriate amount of time before you're allowed to own part of the company at that discounted rate.
Point: no, you cannot exercise options at grant time, you can only exercise once vested.
Treat is as a lottery ticket. A good friend joined a late startup company in 1999, and in 2000 he was worth 40 million, of which he managed to cash out 10 million before the stock crashed. But that was in the days of IPOs, now the investors prefer to keep the rise in equity to themselves. So you chances of winning the lottery are much less.
That is literally the structure of your comment. You said, don't do it, you mentioned your friend as for why not, and the punchline to his sad story is he only cashed out 25%, or $10 million, of what he thought he had.
By positioning this as your example of a loss, I don't think you could have made a stronger argument for doing it if you had tried. Anyone who has $10M is set for life and independently very wealthy: they're rich. They could fly every two weeks for thirty years, for example (780 trips) staying at a four star hotel every day of that entire time (100 euros * 365 * 30 years still gets to only $1M). I mention these because they're luxuries. He's loaded.
Hence the "it worked for him then, but probably wouldn't work for anyone else, now"
Instead of selling your shares right after the IPO, couldn't you trade options on those shares in a way that closely simulates selling the underlying equity, and stay within the agreement?
On the options - I'm honestly not sure. I don't think it's barred by contract (since that's about managing actually control and share movement), but I don't know what options trading looks like for newly-IPO'd stocks.
If you're 65, a good rate is 4%. This means that if you invest your $10 million in a diversified mix of stocks and bonds, and you withdraw 4% per year, then there's a very good chance that you won't run out of money before you die. See: Trinity Study 
If you're younger, you should probably use a more conservative rate of 3.5%. That's still an annual return of $350,000, for the rest of your life.
According to your rate of $110 USD per night, you only need to spend $40,000 per year to live in a four star hotel.
First class flights seem to cost around $3,000. You could fly twice a month for $72,000 per year.
Then you have $238,000 left over for food and entertainment. (And hopefully some charity.)
The issue is that in response to Enron's collapse, Congress implemented The Sarbanes-Oxley Act. This makes IPOing massively more expensive since you have to go through a bureaucratic nightmare first. One established, the costs of continuing may be controlled. But coming into compliance is a headache that people want to avoid.
Not sure high stress and wacky work environments are very productive outside of sales. I'll leave it at that.
You aren't risking hundreds of thousands of dollars, only maybe 10s of thousands.
Instead, I bought a fee thousand dollars worth of shares - only what I could afford. They IPOed at 10x, and I made a down payment on a house.
But that was a rare case: I had some extra savings, the company was clearly succeeding with clear intent to IPO. And even so, I had to wait four years for a payoff.
Now I work from home and I'm much happier.
An investment of mine that yielded 5X exit transaction ended up being 1.3X for those reasons, and I was lucky - if it closed a couple of months earlier, I would end up with 40% loss and a useless tax credit.
The US used to have a steady IPO market but that has dried up in recent years. I have read that 2017 might brighten things a bit, but we'll see.
The biggest problem is SOX: going from a private company to public (something I've done twice, now) is a pain, and can take a year to implement all the regulations (you may even need to change source code, and also commit processes). It's even worse on the accounting/business side. More importantly perhaps, it's expensive: you don't want to take your company public unless you can afford the hit to productivity and cash flow.
According to the WSJ, that's why there aren't more IPOs these days.
A security nightmare, but time and time again we've seen you don't need good security to make a lot of money.
Typically you are granted X number of options. You are never told what the outstanding # of shares are and typically the shares themselves are valued in pennies. The idea is you think to yourself "well, it's 10k shares worth about $5k at the current valuation, but if they IPO and it does what google does...I'll be a millionaire!" You never take in to account that the likelihood of you joining a unicorn like google is near 0% and not taking in to account the time frame of such an adventure, the opportunity cost, dilution and other tricks companies play on their employees before IPOs and acquisitions like reverse stock splits.
And the likelihood of a startup valuation increasing 10x in 4 years (typical vesting schedule) after dilution is extremely extremely unlikely to the point that it is time wasted even entertaining the outcome of such a scenario.
That's a false assumption. If they raised $1M seed at a $6M cap, that's 1.4-1.7%. I just pulled up AngelList and there are a number of seed companies offering that along with a decent salary. Taking the $6M to $60M is the risky piece and that's going to be hard, but opportunities to try are definitely available.
> You are never told what the outstanding # of shares are and typically the stock are valued in pennies.
If the CEO is unwilling to tell you when you ask, walk away.
You don't care about relative growth with options, just the difference between strike price and sell price. A '10x' growth of 0.01 to 0.10 only gains you 0.9 per option; a 2x growth of 5 to 10 gives you 5 per option.
Which is also why looking at your grant as '$100k worth' is silly. Look at how many units you have, and how the price might change, not what the strike price is right now.
I think what the OP was really trying to avoid was working for 1/2 market rate for years, and then ending up in your scenario.
But if something happens on your way from the bank to the stock sale, guess who still has to pay back all that money.
As in we got zero. Nothing. And this software is still in use in a major product.
So no, please don't trust options or exercised shares at any private company to be worth anything.
You want to get paid? Negotiate salary and laugh in their faces when they offer you options.
Cash is king. Realize you don't understand finance much less finance in an opaque, illiquid company.
Say it 3 times: "Cash. Is. King.".
Max out your 401K and negotiate a company 100% match if you can. Start a private investment account and a savings account and distribute to them every check. Keep doing this. Maximize all this before you become Johnny Wall St. with your illiquid stock options. They're as useful as a penny stock as not as liquid.
Buy some of them if things look bright but classify the investment as your "highly speculative" class of investments and thus ensure they are a small part of your portfolio.
You need to be pretty savvy to marshal the whole process and understand the contracts, though - it is not turnkey.
But, you're right, some start-ups are explicitly putting in an explicit "consent" clause into the ISO. Which I think is unfair, and kind of BS - certainly if such a clause were valid, that would drastically reduce the value of non-publicly-tradeable shares, and it would be nice if the IRS agreed =)
If you aren't at the company, it will be extremely ordinary for some funding event to dilute you to nothing. And you will have absolutely no say in the matter, because you're an outsider who, and this will be a direct quote, "isn't moving the company forward."
For most of us where startup equity comes with a real valuation of zero (i.e. anything but the Uber or AirBnBs of this world) - I think you're a lot better off ignoring it entirely.
> to walk away from this situation with nothing
This is where I think you are healthier having at least a market rate salary. Then you've not walked away with nothing - you've been a regular employee and happy with your lot and ready to move on.
$100k isn't much money. If you've taken stock in lieu of $15-$20k/yr salary, $100k is pretty easy to make up (especially considering that many bigger, established companies also pay bonuses and have a better structure for vacation and such).
>> anything but the Uber or AirBnBs of this world
Personally those are ones I'd be really, really scared of having stock in. They've boxed themselves into a corner: they have precisely one positive exit scenario: IPO. At their current valuations (2x and more of their competition), there's no reasonable path to acquisition. And if they continue to take investor money, those late investors are taking care to protect themselves (whether it's multipliers, last-in/first-out, etc). Employees are absolutely last in line to get the scraps unless things go crazy.
After IPO, there's the lockup period, during which there are earnings results (I believe 2?). If those don't go really well, a downturn in stock price can wipe out employee shares pretty quickly. If I'm an employee of either of those two companies, I'm a little nervous.
I'm not sure I follow. If I agree to be underpaid by $20k a year say then I'm not sure how I'd then on reduced salary save up $100k after tax and to the extent I wouldn't "miss it" in exercising the options. If a company is paying bonuses etc I'd rather get the market rate salary to begin with and ignore the stock. I may be heavily misunderstanding your first sentence though :)
The lockup period post IPO is an excellent point - and probably further fuels my cynicism around low percentage stock options as anything but a gamble.
The shares are worth at most 8k in salary, that is if they're somewhat liquid. (which they are definitely not for startup and far away IPO).
If you took a $20k drop in salary for that, you've been not only screwing yourself at this job but also for ALL your future jobs, because future companies will try to downplay you based on your current salary.
If they ask who made that restriction, link to this post.
The uncertainty around the current valuation (which everyone has due to the infrequency of material events), the uncertainty around the likelihood of a major liquidity event, its size, and its type make ISOs incredibly hard to accurately price. If anyone says they can do it accurately, they're lying.
The golden cuffs _will_ click if you stick around any time at all and have even slightly bad luck: Maybe you burn out before vesting, or the company blows an acquisition that would've fit your schedule and your payout/life goals.
Waiting around after you hear the click becomes a losing game. Find another one to play, it's a big world.
It comes down to a gamble. With your numbers, a big one.
But until that choice is forced on you, I say wait. There's no reason for an early exercise. Even with slight tax advantages I'd rather call that the cost of minimizing my risk.
But why shouldn't I just come to the table with $10k and taxes, exercise those shares, then use the profits to buy up the remaining shares?
1) 409A valuation price is already in the multiple dollar range.
a. Why : You can’t afford to exercise do to tax burden
2) No acceleration – e.g. in the event of sale or IPO your unvested shares DON’T fully vest.
a. Why: You should be rewarded for taking the risk position. Negotiate acceleration or what is known as ratcheting if you are a very early employee.
3) Stock buyback rights – The company has the right to buy back all your shares if you leave the company before a liquidity event
a. Why: This is a prison sentence and a total gamble as you really own nothing until an event.
4) The company is past its 3nd round of funding. In all but rare cases your percentage ownership will be so low at this point it is not worth it.
1) 409A valuation price is in cents and the stock option plan has an early exercise option.
a. Why: You can file an 83b election with the IRS and pre exercise all your stock for a few hundred dollars. Because the strike price is the same as the value you will owe 0 tax. In addition you start the clock on long term capital gains as soon as the stock does vest according to the vesting schedule. This is how all the big boys make their money. As they vest you actually own them and are free to leave the company at any time with what has vested.
2) Acceleration or ratcheting – In situations like the company gets bought, IPO or management wants you gone and you have unvested shares they must accelerate your vesting schedule. You own them and can go anywhere you want.
3) The company is in seed or series A and you own at least 0.5%+ of the company.
a. The company’s founders do not want to take series C unless they absolutely have to. Ask them!
In short, you will only be rewarded by taking the risk of wasting your TIME in an early stage that has potential with a good founding team. And never forget the freaking 83b election!
The value of one share isn't meaningful. You should calculate the exercise cost of the whole grant (based on the last 409A) to see whether early exercise + 83(b) would be a good option.
> 2) No acceleration – e.g. in the event of sale or IPO your unvested shares DON’T fully vest. a. Why: You should be rewarded for taking the risk position. Negotiate acceleration or what is known as ratcheting if you are a very early employee.
Acceleration is nice, but why would you insist on it? I'd happily trade it for (substantially) more options. If there's a liquidity event and your options have a substantially positive spread, that's already a positive outcome, so in the interest of minimizing risk, I'd rather improve the scenario where you want to leave before a liquidity event.
> 4) The company is past its 3nd round of funding. In all but rare cases your percentage ownership will be so low at this point it is not worth it.
You should simply calculate your percent ownership (while accounting for liquidation preferences), rather than using the number of funding rounds as a proxy.
4) True, this is just generic advice and usually by the 3rd round your % is going to be VERY low. But of course always consider actual % taking TSO into account.
Would've gotten it with zero tax, by 1 year there was a valuation event that made it non-zero.
So that's the question you have to think about: Is it really sane to think that, say, two million bucks of Palantir options are worth exactly as much as what you get by joining a tiny 10 person startup that a very uncertain future and a far lower ceiling? Would RSUs with a dual trigger also be worth zero?
If this is really the case, everyone joining one of those companies is certifiably insane, because life is not that different from a bigger tech company, the hiring bar is not any lower, and in a publicly traded tech company, stock compensation is often quite large and very real. If that's not the case, then we need to understand those options a lot better than we do in tiny companies, and understand what happens if our stay is just a few years, while the company will remain private for longer, precisely because we expect the company to IPO at some point, making the options be worth something.
Not in the reality, which they are likely smart enough to determine by reading their paperwork, and running the scenarios–even if they are treated properly, which seems increasingly rare...
...in the fantasy.
The fantasy is part of the sell. It is part of the glamor (sic) of being able to present yourself to others as _working in a startup in the Bay Area_.
IMO companies with integrity would _actively_ tell people up front what to expect (zero) and to explain why they offer equity anyway.
Were I interviewing, the company that led with that kind of honesty would stand out, regardless of its size or prospects.
(Note that Google RSUs, unlike Uber's, are convertible to cash immediately upon vesting.)
It's only true because the market allows them to do that. The reason those unicorns lowball on salary is because they can.
If workers keep saying "yes, I'll take tulips in lieu of salary," the market will adjust and pay lower salary.
If workers say "nope, it's a good market out there, I either want salary or very good protections against dilution," then they'll have to pay market wages.
To me, saying "always value the equity at zero" is exactly the same as that. Like, "always value the relationship at zero."
It's not sane advice in my personal experience, especially at the tiniest company sizes.
Think about it -- any engineer at these companies can easily leave... but imagine if half the engineers left. The company would go down in flames. People need to work together to have companies pass policies that allow them to have longer periods to exercise.
BTW anyone that understands corporate law needs to understand that the fact that you "must" exercise your options by exorbitant amounts is simply a (very dirty) retention tactic. The company can choose not to buy back your unexercised options at par-value for as long as it wants. The fact that it is "policy" to buy un-exercised options is complete bullshit.
That's usually not right for incentive options. Check your option agreement. Most will say that the stock option automatically expires or converts to a non-qualified option if not exercised within 90 days of termination without the company having to decide to do anything.
What you are describing is more commonly associated with restricted stock, where the employee "owns" the shares, subject to the company's right to buy them back at par in certain situations.
Lawyers have created all sorts of bullshit to protect the employer and that has become engrained as "best practice"
You're right that you are free to to negotiate a different exercise window prior to accepting your stock grant (and a lot of more progressive companies are offering this). You just can't, under current tax law, get the sometimes beneficial ISO treatment with a longer window.
There's a nice summary of the situation here: https://news.ycombinator.com/item?id=9254299
That being said -- It seems like with some "legal engineering" it can certainly be ameliorated (as was demonstrated by Pinterest). My main point is that if people push for their rights then it will incentivize companies to do the legal engineering that is necessary.
The model is simple and helps us compensate people for contributing to our products in a way that is consistent with our philosophy: People live lives. Companies build products. Platforms should be free for anyone to contribute.
The core ideas are that you partner per project and you compensate people for their actual effect on your bottom line. All the incentives seem to line up correctly and we use it with our own developers. It is also a good model for anyone just starting out with an idea.
You can find the details here:
Equity is a good bargain right before the next funding round — when cash balance is low and founders pay with shares.
In this case, the question is how much the stake is worth now. Ask founders the share price of the last funding round. That's the closest market valuation you can get.
Exit conditions (exercise window, sale restrictions) are a must-know, but secondary. An employee can borrow to exercise options and then sell the shares. His company would love to buy shares/options back because they'll have to consolidate equity upon IPO/sellout anyway.
In general, companies go through so much dilution and uncertainty that worthwhile equity stakes start at 5-10% for early-stage startups.
I don't think that's true in general. If it's right before the next funding round, that's when terms can change to wipe you out (whether it's a down round or multipliers). I guess on-paper it can look good ("oh the valuation just increased 5x overnight!"), but it can do some pretty nasty things to your options' "value".
After I left, 18 months later, the company sold and my options would have earned 10x the $34k of the strike price. I.e., I would have made $300k if I could see the future. I just find it painful that at that moment, all your time is effectively worthless, and only the $34k would have counted for anything, even though I gave far more than that in extra hours.
Needless to say, I am somewhat hesitant to put in too many extra hours anymore and almost never work weekends or holidays.
That's ~25K/year so if you would've worked a regular 40 hour week, 20 hours of contract work at anything more than $35/hour would have put you ahead. And you would've still had weekends, nights and vacation.
"Under capitalism, man exploits man. Under communism, it's just the opposite." which seems to be attributed (without any sources) to John Kenneth Galbraith:
I've also seen it as "Under capitalism, man exploits man - under communism it's the other way around." I always assumed it was a translated Russian proverb, along the lines of: "No truth in the news and no news in the truth" (Major Soviet papers were "Pravda" (the truth) and "Izvestia" (the news).
superqd mentioned he would have made $300K more (i.e. in addition to the fixed salary he was earning) if he had bought the options. I assume that after paying for taxes, he would have still made $200K. Since he worked for 8 years, this is indeed $25K of additional income for every year. If he worked for $35/hour for 40 hours/week for say 50 weeks in a year, his total income would have been 35 * 40 * 50 = 70K. How is this better than his original job which was probably paying him say $80K or greater than $80K as fixed salary every month? It sounds like it would have put him behind by at least $10K. What am I missing?
There are many good reasons to join a startup but if the financial motivation is the main one then it's probably not the best route.
(1)Other than a feeling that I'd joined the Witness Protection Program when I fled after an engineering walkout.
(2)Offset by literally years of damaged self-esteem. Pedigree is heavily overrated - with one exception, all the famous people were pretty awful.
Enjoy your personal time, leave at 6PM, turn off work email/slack/anything and do things that make you feel better as a person.
Sure there is always the possibility of landing work at a unicorn that is worth billions, but I think the problem is that many of us are too willing to give up parts of our lives in the hope of some very unlikely return. Either the industry needs to figure out how to value time as an asset in a meaningful way, or crazy startup-hours need to stop.
Yep, that's exactly what your management was counting on.
The only reasonable expectation should be 40 hours a week.
When I came back, they'd moved and I had the best cubicle reserved for my return. They missed me but only because I forced the issue.
No small thing on a place parent presumably spent a lot of time.
Don Knuth said something (about TeX): never spend more than 2 years of your life on something. I've broken that rule several times but I'd counsel following it on startups, especially someone else's startup.
I now also regained my stamina to work hard and long hours but I know where my red line lies and take it easy when necessary. I also make "enjoyable work" for myself and our employees a priority. Call it naive or stupid but life is too short to slave away without enjoying the day-to-day of it.
I have started to think about these points a lot.
Given I basically have a coworking workshop (it's a 3 friend little webdev company), there is a lot to consider.
Solving and handing over of my current obligations, dedicating to my shop, or starting a new one my way, or finding a new place to soak in more experience (I'm 32, but somehow my brain still works well enough to quickly absorb new stuff).
It got exponentially harder to get out of bed and get to work. I just had to quit because I couldn't show up. I didn't give anytime to interview or find an offer. I was also in a weird situation with regards to immigration. So it was reckless but goes to show how much I had to leave.
>How did you approach your recovery?
Joined a big company, got myself on a path to be comfortable financially, took every weekend off. Picked up hobbies, coded for fun. Worked out, visited doctors, changed my eating habits -- got healthy.
>How much time and effort did you put into getting your business off the ground?
Part of 2015 and 2016 I started working and growing on an old side project of mine until got to a point where I knew I could raise money for. I quit in April 2016 and worked like crazy for a month to raise enough money to hire a couple of engineers, get to feature complete, and start selling (which is what we're still working on now). I wrote about it here: https://amasad.me/2016
>How do you manage to combine enjoyable work with delivery (nowadays it is the mantra - everything has to at least help provide value for customer)?
If you're building a startup it's one of the hardest thing you'll ever do so in my opinion you need to align the mission, the product, and the market you're going after with what you care about. Whether that social good, tech, or business. Given that, it's builtin the company that you should enjoy what you're doing. Then hire people that enjoy that too and it all (seems) to fall into place naturally. To sum up, you're in a position to design your ideal work environment -- do it! (You may fail, but that's better than being stuck with something you don't care about).
>How do you handle employee's failures and your own?
I'd be lying if I said I don't push myself and others around me to be the best they can be. You just need to give feedback regularly so that there are never no big surprises (this is something that you can learn by being at one of the good big companies) and always be kind.
Good luck with your workshop.
Assuming they're willing to do the deal, if your alternative is letting the options expire worthless, it seems like a no-brainer to take a loan with no recourse unless there's a liquidity event. You wouldn't have made the full $300k, but at least a solid portion of it.
Because you may also have lots of shares in companies in an aggregate fund (e.g. in a a pension) but you aren't working for free for those companies.
However people do get caught up in the emotional 'but I own a bit of it', and I think companies exploit this.
One person can make a difference in the value of a 20-person company, and if that person has a 1% stake in the company it can be rational to work longer hours to make that happen.
On the other hand, there is very little that a shareholder of a public company can do to materially affect the bottom line of that company. And as the owner of perhaps .000001% of that company, that person would see very little financial benefit from such effots.
A 1% option seems more like the poker game ante, but you need to keep putting more in (time, effort or even cold hard cash) to stay in the game :-)
However, and I don't know how to put this more kindly, but I can't help but wonder if you understood how options work while employed at the company?
A simple technique to avoid having to quickly come up with a lump sum is to set aside enough money to excercise your options as you accumulate them.
In this case putting aside $4,250/year earmarked for exercising your stock options would have allowed you to save the $34k required.
In the end though it might be wise to hedge a bit and at least buy some of your options as you go if you believe the company is worth something eventually.
I was stunned by just how many of the long-time employees had no understanding of stock options. One was actually flabbergasted to learn that each funding round was creating new shares and diluting the value of existing ones; he thought the founders were selling their own shares to raise the money!
The ignorance was due in part to the company being in a region where startups and stock options are not common. Another big factor was willful deception by the founders, who had been promising to start the IPO process for three years, and frequently estimated that their IPO valuation would be equivalent to Facebook's.
Options are underwater if the strike price is less than the current market price; shares in private companies might not have an actual market price but you can estimate them. Underwater options still have >0 value since there's a non-zero chance the stock price will decrease before the expiration date -- of course, if the expiration date is close by and the strike price is much higher than the current price, the option value might be very close to 0. Still, you practically never exercise underwater options (there are some rare exceptions not very relevant here).
In grandparent's case, the issue is not underwater options; they are about to exercise the options and get stock.
At the time they left the company, the stock price was presumably way above the ~$1 strike price. They could have bought (say) $60k worth of stock for only $30k, making a profit on paper. The problem is, as the article says, you have to pay taxes on capital gains AND that stock is illiquid (you can't easily sell it if at all).
And yet, we still get posts like this one, and comments like yours, that make it seem like somehow the employees are the ones who are getting shafted.
Could equity deals be a little more clear and fair? Sure, absolutely. Maybe make the window for options something more like 6-12 months. It's entirely subjective. But when the "make or break" lifecycle of a startup is 5 years, waiting 6 months to make a critical hire because you have options tied up in people who don't even contribute to the organization anymore is detrimental AND unfair to the current employees.
It shouldn't make you sad that you couldn't exercise your shares. It should make you sad that you didn't work more effectively the capitalize on your options sooner.
Of course, nobody gives employees options on preferred shares.
It seems like you're whining about something that you had complete control over, and chose not to exercise.
1/3% (and that's generous) of a potentially $1B dollar company might seem like a lot, but after 10 years of dilution how much will you really have left? If your options dilute by 1/4 (also generous), you've made about an extra $80k a year, and that's not even with taxes subtracted. And don't forget the likely higher salary, raises, bonuses, stock grants, and medical care you get at a big 4 company.
It's possible that you can be be assured to make no extra money working for a startup, even with all the extra risk, depending on how those factors play out.
What stops founders from offering a company wide "vested Share vs. Cash" with an equal cap for everyone on each new round ?
For e.g founders planning to sell 10% of their own share while raising round in the so called "Take money off table", all employees get the 'right' to exercise the same option, hence instead of dilution to the new value its straight selling the value they created ? what are the arguments against this ? For the investors its the same, and if the cap of how much of the vested % you get to sell is kept realistically low it should not risk decreasing the value of the private stock.
while i agree with Jaymzcampbell as an employee you're better off with dropping the "hope" the paper value of what you own means anything, however its contradicting to the popular piece of employee incentive tool that is quite essential in acquiring& keeping good talent.
Post founding, there's this time period where the early employees are expected to work pretty much like founders (long hours, wildly high expectations), but with a greatly reduced salary and the promise of large option grants.
This unfortunately places the employee in a really bad negotiating position with respect to salary increases, etc. as their starting point was so bad. I've been in this spot and a couple years on had to _fight_ just to get a market rate.
1 - Hat tip: Gail Goodman and the long slow SAAS ramp of death - http://businessofsoftware.org/2013/02/gail-goodman-constant-...
In the end they ran out of money and all the employees got laid off, getting nothing.
Here I am though, working for another startup. This one actually makes money, though.
One of the founders reached out to me a few years later, asking me to join his new startup as employee #2. I said "yes", but only if I made 10% of what he made. The answer was "No". OK... maybe 1% of what he makes? "No".
Thanks, but no thanks. If you admit that you're not going to share the benefits, I have no reason to get involved.
I think this is far more common than you'd think. Take YC for example. I'd be really curious to compare SamA's outcome vs. employee #5's outcome (for example). Even when companies "fail", founders do just fine for themselves via acquihire, and it's generally not tied to their stock (acquirer values stock at $0, pays off investors, employees get retention bonuses of ~$50-100k over 4 years, founders get quite a bit more than that).
The systems are always going to be biased to the people who have the most money. You may realize you're getting a terrible deal, and their deal is much better. That's not an accident, and asking them to fix it is just going to cause suspicion and anger, especially if you blow past their facially spurious justifications for this ("I'm taking a lot of risk here!!!"). The real answer is "I have more money than you, so I can set the terms to favor myself".
I'm not necessarily saying there's anything wrong with that per se. Consider the flip side. You've promised an employee that he will make 10% of what you make that year, even if it means you're tithing that to him directly. You make $10M. Your employee makes $1M. Is your employee going to stay employed, or is he going to leave immediately and use that $1M to start something that will make him $10M next year, or even just to buy a fancy house on the beach and invest from home without having to pull a 9-5 every day? Making your employees too prosperous can really hurt your company, because everyone will quit when there is no longer a financial imperative to work together.
One of the main problems with the current startup culture is that everything is overly commoditized. For something to be considered a unicorn it has to fit a model, have a certain amount of growth, a certain amount of revenue, a certain number of employees. This hurts a lot of companies's success because it forces them to adhere to a model that's designed around a totally different organization, ironically the same thing that created "Startup Culture" in the first place.
I would and have much preferred working at companies where I liked my coworkers managers and reports rather than ones where I was simply paid more.
This is not a problem for law firms, medical practices, consultancies, investment firms, or management in any public company. Your argument is just that employees who are in shitty, exploitative jobs will take the money and run, so try to exploit them harder by paying them less. Are you really "not necessarily saying there's anything wrong with that per se"?
We're talking about getting paid something on the scale of millions of dollars here. I don't know about you, but most people I've met wouldn't keep working if they came into that kind of money, at least not the way that a regular worker works. They'd update to mimic the work-styles of the elite.
There's a reason that law firms, medical practices, hedge funds, etc. tend to be small. Each professional is essentially a free agent, hopping aboard on someone else's infrastructure for a limited time and more-or-less free to call their own shots, including going to another practice or starting their own if they're unhappy. There's a lot of lenience in scheduling, work hours, etc., and it's a very ad-hoc thing, because everyone knows that it's a free association based on goodwill and not based on mandate.
These high-level professionals decide to leave the office at 2pm, take every Thursday off for golf, and go on long vacations regularly. They just tell the people who are waiting on them that their needs are going to have to come later. They will also take long, self-financed sabbaticals.
Just think about the types of companies you listed and ask yourself if things would work out if every company afforded such luxuries to all of their workers. Normal people don't, and indeed can't, have access to those luxuries or nothing would work anymore (at least not until we get more stuff automated).
It's hard enough to get normal workers to collaborate when their paycheck depends on it. Take away that incentive, and suddenly everything looks like open-source; without the financial incentive and the threat of lost stability if a product has poor reception, people do the fun stuff, and leave the hard stuff for someone else to worry about somewhere down the road.
Like law firms and medical practices, teams of developers break apart and most projects can't sustain more than 3-5 like-minded major contributors (because there's little incentive to keep people around and get them to deal with necessary compromise; if people don't like what's happening, they just leave).
Also like law firms and medical practices, it suddenly becomes very difficult to get the help you need in either a cost or time efficient way.
The 9-5 is a different lifestyle. And we need people who work 9-5 more than we need people who close their practice down to go out to Tahoe for 1.5 weeks every time there's a bank holiday.
I'm saying there's not necessarily anything wrong with people who have more money being able to set the rules of the transactions they're involved in, necessarily. I do think they sometimes set rules that are bad, but my point was that the fact that such a group exists is not bad in and of itself.
Removing the general need to trade labor for financial stability is a disaster at a massive scale, and on many different layers. There is a path out of wage slavery, and anyone is free to choose that path and attempt to earn their way out. But a lot more people are content with the work-a-day grind than one might think (not content enough to do it willingly, but not discontent enough to put in the work necessary to escalate outside of it).
In a utopia, everyone would help everyone out and contribute their skills, knowledge, and resources free of charge, just because they saw a need for them. If literally everyone agreed to do this literally all of the time, we'd be in fine shape. But we don't live in such a place, so the need for financially-motivated human labor will continue to exist until we can teach robots how to replace 100% of it.
The context is early-stage startup employees, not white-collar accountants and blue-collar janitors who you are presumably outsourcing to other companies because they perform functions that are not essential to your business. The profits shared by people working for these outsourcing firms are not great because the profits of these outsourcing firms are not great. Your argument is that the profits shared by early-stage startup employees should not be great even when the profits of the firm they were instrumental in building turn out great. How is that fair and why should anyone agree to work with you on those terms?
> These high-level professionals decide to leave the office at 2pm, take every Thursday off for golf, and go on long vacations regularly. They just tell the people who are waiting on them that their needs are going to have to come later. They will also take long, self-financed sabbaticals.
You should really make friends with people who are lawyers, doctors, and in finance. I have friends in all these fields and your idea of these peoples' working hours is a deluded fantasy. They usually work around 50-60 hours a week and rarely take vacations.
I don't want to address the rest of your rant except to say that you should think about why you go so far out of your way to rationalize what to most people is obviously unfair behavior.
Firms that resell blue-collar labor are often very profitable. I'm not sure why you think they're not.
>How is that fair and why should anyone agree to work with you on those terms?
It's a marketplace, supply and demand is going to dictate these types of arrangements. There are many more adequate employees who want to work at an early-stage startup than there are early-stage startups hiring employees.
I'm not saying anyone should agree to work under these conditions, but as long as they do, others have to remain competitive.
I don't personally think it's fair. I think early-stage employees should get a much larger slice of the pie than they typically do. But I'm also not going to indulge the fantasy that being a non-founder and/or non-investor can lead to riches; it may have happened once or twice, but it's very unlikely to happen to you. In almost all successful startups, already an infinitesimally small quantity, the founders and investors get the proceeds from the exit and the employees are lucky to see a bonus check for $5k.
>You should really make friends with people who are lawyers, doctors, and in finance. I have friends in all these fields and your idea of these peoples' working hours is a deluded fantasy. They usually work around 50-60 hours a week and rarely take vacations.
They certainly want you to think that's the case. I'm not going to say that everyone in these professions works a certain way or another, but there are many who have a lax working schedule (admittedly, I don't know any who close their practice for 1.5 wks every time there's a bank holiday, that's called "hyperbole"). I know this because I have friends who are doctors, lawyers, and in finance.
>I don't want to address the rest of your [essay] except to say that you should think about why you go so far out of your way to rationalize what to most people is obviously unfair behavior.
I went out of my way to discuss because you seemed like you wanted to do that. This is a discussion forum, after all.
If you want the large exit, you're either a founder or an investor. It's been that way for as long as I can remember.
But if we're talking about "Well you make market rate if you value your options like XYZ..." then yeah, that's BS.
But when people take equity instead of compensation at BigCo, they are quite literally risking money + time.
It's not just the time, but the experience and skill of one person can be immensely more valuable than someone else's experience and skill.
i.e. "completely ignored".
When I joined a startup I was promised that more options would be issued and we wouldn't get diluted from future rounds, but that never happened. As employee #22 I received options that equaled 0.05% of outstanding shares, and by 2 years later, I was down to 0.015%.
I understand you're only relating your previous misunderstanding but to others reading this, they need to realize that it's unrealistic for employees not to be diluted.
The founders' ownership will get diluted. The investors also get diluted. Therefore, employees are not special in this regard. Getting diluted is supposed to be a Wonderful Event because it means the smaller ownership percentage is worth more.
E.g. Larry Page's ownership of Google Inc got diluted from 50% in 1998 down to 16% in 2004. That smaller 16% was worth ~$3 billion around the time of the IPO. If Larry insisted on "no dilution", no VC would invest money to help the search engine grow and therefore, he would own 50% of a worthless company.
In other words, you can't look at dilution in isolation; it has be combined with the (hopefully increasing) value of the shares.
1. Company needs to raise money
2. Company issues new shares
3. Board realizes "oh shit, this is a lot of dilution"
4. Board decides "okay, who is important enough to keep around" and issues stock grants to those special people to undo their dilution.
Founders and VCs have seats at the board table, and so are always important enough to get grants. Employees do not, especially after exit.
So the two choices left are
a) employees have no protection against dilution, therefore no protection, therefore shares are worth zero, or
b) employees are given protection against dilution.
You can say "b" is never going to happen. That's okay. It means that "a" and it's obvious conclusion happen.
I guess I don't understand what motivated you to ask about dilution and then believing a promise of no dilution since you're supposed to get diluted over time as the startup reaches maturity. Everybody is supposed to get diluted.
If a founder promised me "no dilution", I'd have to conclude either...
1) he doesn't understand the mathematics of selling equity (e.g. to maintain your 0.05% ownership, it has to come from someone else's shares since ownership % comes from a finite pie)
2) he does understand math, but he's a dishonest crook and therefore will tell you anything
3) he's mentally ill
4) he's absurdly generous of which I'd ask the same question 5 different ways to double check the more likely possibilities #1 through #3 again.
If you were to have some kind of special 'non dilution' clause in your equity position (which by the way, no founder would reasonably agree to), then you should have it in writing.
But it's moot. One or both of you was obviously struggling with how all of that worked, because giving employees anti-ratcheting clauses is not something that should really be done. In fact, it should be avoided if at all possible even with investors.
He expected to get diluted. But he was also expected to be able to offset that dilution by being issued new options. Which would be a perfectly sensible thing for the company to do for a valued employee.
The typical mathematical mechanism that offsets dilution is the increasing price of the shares.
E.g. 16%(diluted) of $20 billion equals $3.2 billion whereas 50%(undiluted) of $0 equals $0. (I assume Larry Page loves the power of dilution.)
Basically, you own less percentage of a more valuable company.
>Which would be a perfectly sensible thing for the company to do for a valued employee.
But it would be nonsensical if the employee's diluted ownership is worth more. They are supposed to be worth more after a dilution because that means another new investor valued the company at a higher amount and bought a piece of the company. That piece of equity to sell comes out of the founders' share, the investors' share, and employees' share. It comes from everybody's share. Don't get mislead by dilution -- it's the total value of shares that matters.
Protecting an employee's fixed ownership percentage might come into play if there was a down round where the company was valued less than the previous round. The founder might then do something extraordinary such as dip into some of his own shares and give them to a valued employee to make up for the loss on share price. That would be an unusual remedy that's done on an adhoc basis. It's not something that's typically spelled out during hiring negotiations so I wouldn't think that scenario would have been the context of OP's question.
Many people incorrectly think of "dilution" as a synonym for "bad". If you work from that flawed premise, you end up asking financially naive questions and become susceptible to unrealistic answers from crooked/incompetent founders. In the spirit of the thread's title, learn to understand that dilution is normal and a good thing.
It's only unrealistic because of greed. There's absolutely no valid reason this has to happen.
You just have to hope for the best and if it doesn't work out you get lectured by some smartasses that it's your own fault.
Like the other lies the moneyed interests tell, the belief that it takes a fresh young generation to build good products and that's why the oldest guy in a random SV startup is 26 is pure propaganda that they're hoping you won't see through. People take this bait and go out and work for a free room in an apartment shared by 6 other "founders" and a laughably small basic living stipend that doesn't even equate to minimum wage.
Maybe a few hundred of these people have actually ended up getting rich? And they're "founders". How many early startup employees are doing well right now anyway? How much have Dropbox's first 50 gotten, for example, and how does that contract with dhouston's take-home? The early employee race is really baseless.
It's a fool's game, and people realize that after a couple of years, and then go work at a real company, where they can at least collect a market salary and where prudence and experience aren't plainly mocked and discarded [because these attributes threaten the people at the top].
You flatly cannot build a company without capital.
On the other hand, you might be able to build a company by treating good employees badly, because the employees are either a little naive or they really do value working at your cool startup over money.
You might also be able to simply build a reasonably successful company with not very good employees (in fact this is most companies)
I personally believe that in a fair world, the people actually producing the value would be allowed to collect most of it, and the people who grease the wheels would collect an appropriate gratuity. However, I acknowledge that we instead live in a world where the people with cash set the rules, and their interest is in preserving and growing their power (which means keeping themselves much richer than everyone else).
Many successful companies are bootstrapped.
I'm bootstrapping now and I'd generally agree with the statement you quoted.
It's expensive and near impossible to find cofounders/enough-"bootstrapped"-help to make building a tech company from scratch feasible, never mind go to open market and get enough customers for the business to be worth running. A "small" 250k check would solve almost all of my issues right now.