Ask HN: High cost to exercise startup options – what happens if they go to zero?

[equity-question]

I received an offer for a senior role at a US startup. A key part of the compensation is a very large stock option package.

The problem is that exercising all these options will cost me hundreds of thousands of dollars.

That seems like a big, scary gamble. Effectively, I'll be investing six figures in a pre-IPO startup. I am not the type of wealthy individual who can afford to make this sort of investment. The road to liquidity is long and treacherous. What if all these shares, which I bought for a substantial chunk of my net worth, go to zero in the long period of uncertainty between exercise and liquidity?

Are startups aware they are putting potential employees in this dilemma? Are there any protections available to me as an individual who is not wealthy, would not normally take risk with such a large amount, and is just trying to get fair compensation for their work to offset the cash or highly liquid RSUs that more mature companies offer?

[chrdlu]

This is the main dilemma for startup employees across the board! The ideal situation is not leaving the company until after an IPO or M&A after which your options/shares will be liquid. The purpose of the options is to keep you at the company by locking you into "golden handcuffs" and raises the cost of changing companies.

If the company is successful, the money you will make can be life changing. If the company fails, then you lose most if not all of your investment.

However, in the last few years, many solutions have appeared to address this binary situation. I work at the ESO Fund and we try to provide a middle ground. We provide money to exercise and any potential taxes in exchange for a piece of the upside and we do this on a completely non-recourse basis (meaning you don't have to pay us back if the company fails). Our deals are structured to give you the majority of the upside without having to invest your own personal money!

Feel free to reach out if you have any more questions!

[mtmail]

Excersising stock options is usually two transactions in one: you buy the stock, then a second later sell. The company will do this for you. And usually they will also keep income tax and do the proper filing. Since startups stock has no public market the buyer is also the company. If the options price is higher than when you received the options you have profit. It is a gamble but you don't have to bring in any of your own money.

> What if all these shares, which I bought for a substantial chunk of my net worth, go to zero in the long period of uncertainty between exercise and liquidity?

If you own shares, then you have a big loss. If you own (or are entitled to) stock options, then you have no gain or loss, you simply don't exercise them.

[equity-question → mtmail]

So let's say 100 of my options just vested. That means that I can choose to buy these options at any point in the future, and normally the company will buy them back from me immediately.

If I choose to do so, then I will have no risk of a loss, because like you said, if the option is underwater, then I will simply not exercise.

The only reason I may end up having to take risk is due to limits on exercise windows. For example, I have to exercise any vested option within 6 months of leaving the company. In that case, I may want to buy the stock, and hold onto it if I expect it to appreciate. Then I will be taking risk, effectively like buying any other stock that may depreciate.

[m463]

Are you considering exercising pre-ipo options that are unvested, to hold? If so, file an 83b otherwise you could be destroyed by taxes on unrealized income.

Normally though, people hold their stock options and sell them when they are with something. People are granted stock options say 100 shares at $20, they wait until they vest and are worth something like $60 and do a "same day sale". In this case they would be lent $20 per share, sell them, pay back the $20 netting $40 per share.

[equity-question → m463]

The problem is that I may have to buy and hold. For example, if I leave the company, I have to buy the options within 6 months or else they expire.

Otherwise, of course, waiting until the options are profitable is the best move and is risk-free.