6 ms·

How much startup stock options are worth

143 points by danshapiro 16y ago

TheIronYuppie 16y ago
Love the simple equation - really calls into clarity what is a very fuzzy subject.
stefanweitz 16y ago
When people ask me this, I always run away crying. Finally I can point them somewhere.
danshapiro 16y ago
I didn't want to clog the article with an explanation of each of the heuristics I provided, so here it is in the comments. #1 is pretty self-explanatory. #2 is the expected value, halved because an awesome startup with every chance of success still fails half the time. If you're swinging for the fences (shooting for IPO), you're way more likely to either fail or get so much preference ahead of the common that you never see anything. #3 is because everyone underestimates the amount they'll need to raise. #5 The huge penalty is for two reasons. One, because it's tremendously bad for the common. Two, because it often means something worse: the company's up against a wall, the CEO's a bad negotiator, everyone's expecting the common to be worthless so they have to make it up in preferences, etc. #6 Again, the direct impact isn't as bad as this makes it out to be, but a CEO who does a good job negotiating preferences is a leading indicator of other good things: s/he knows how to generate demand for the company, has leverage, knows how to squeeze every ounce out of a deal, etc. This is basically a proxy for if the CEO will do well during negotiations to sell the company. #7 A common-dominated board will tend towards common-friendly exits, and indicates a CEO who does well in negotiations. Again, this is all guesswork, particularly trying to figure out the all important "will the CEO do a good job selling the company" factor. But I think it's a decent swag.
abeppu 16y ago
Does anyone have any advice on how you're supposed to tactfully get all the info required to do this computation? During my recent job search, I received offers with options from companies who refused to tell me what the count of fully diluted shares was. No one was particularly comfortable answering questions about expected exit. When I tried to ask various questions to estimate some kind of ballpark value for the equity being offered, one company took this as a signal that I wasn't sufficiently enthusiastic about the offer or optimistic about their chances for success. They then started saying things like "We want to hire someone who's really excited to join our team..." Ultimately the I had to use the "assume the options are worthless" stance, but then, with cash compensation being the only consideration, I ended up accepting an offer with a significantly more mature company. How are you supposed to get this information while not giving the prospective employer the impression that you're either (a) too skeptical of the company's prospects or (b) too motivated by the money?
- mikebo 16y ago
  If they won't even tell you the # of fully diluted shares, I'd run away fast. Sounds like you made the right move.
  - tptacek 16y ago
    I might not run (this is unfortunately a common practice), but I would be explicit in negotiation that you value an options grant without that information at $0.00. You can say that politely, or even apologetically, but make it clear that you'd give some flexibility on salary or paid vacation days in exchange for more information (don't be specific about this though).
    - donaldc 16y ago
      make it clear that you'd give some flexibility on salary or paid vacation days in exchange for more information I disagree. You shouldn't trade anything for the information. A company should make the information available if they want the value of the options to be considered greater than $0. You are already considering trading some salary for the options, but the onus is on the offering company to make enough information available to convince you that the options are worth it.
      - tptacek 16y ago
        Your argument is principled but not very pragmatic. When a potential employer gives you anything they consider "significant" equity (ie, worth mentioning as a major part of your comp plan), they are implicitly discounting your salary to make up for it. If you accept their offer, you have given them salary flexibility without receiving consideration. In reality, information is very much something that negotiating parties exchange. But, I agree that you should reasonably expect enough information to value your equity if equity is a major part of your comp. All I'm really saying is, make it clear to your counterparty that the lack of information about your equity is raising your negotiating floor. Which, logically, it must. But I am also specifically not saying, "offer 5k off your salary in exchange for valuation information".
ax0n 16y ago
I generally assume they're worth exactly zero million dollars a piece, because that's what they're actually worth. A few places I've been have tried to pass off this whole "half your salary in stock options" rubbish while still giving me an acceptable wage in real money. This put a phantom value on stock options. At best, they're an exit bonus, which is an incentive to do your best to make your company thrive. It gives you a token that could be worth real money if everyone pulls together. Don't expect anything from stock options.
tptacek 16y ago
This is a fabulous article and I only want to add a tiny little bit of additional context: * Exits north of $100MM are rare, and a $400MM exit is rare indeed; virtually any such exit will be from a famous company. Valuations are at least somehow tethered to sales, and companies that justify mid- 9-figure exits can usually consider IPO... as an example of how rare that event is. * In most sectors of the industry there are rule-of-thumb valuations based on multiples on sales. An enterprise software company aiming for a $150MM acquisition is expecting 4-8x, and needs to be achieving 18MM (optimistically) to 40MM (conservatively) sales to do that. You can reconcile this estimate by asking for current sales, this year's "number" (in a well-run company, everyone knows the number), and then asking "what's going to happen to scale the number up". * Last time I had to think pragmatically about VC, a round that took participating preferred shares (in which the VC takes their money off the table, then takes their percentage off the table) was an indication of a weak round; if they're shooting for the moon, you're entitled to hold that against them. * Finally, remember that if you quit, the equation changes again. When you leave, you can execute your vested options, but that costs money. Perhaps nobody in the company is less protected than former employees: investors have contractual provisions to protect their money, and employees are given retention grants, but former employees can be written right out of the deal. I've seen it happen.
- Timothee 16y ago
  My very first job was at a startup and I was all excited to get stock options. Later, I heard from a colleague who had bought his options from a previous company which had been bought recently: he had a call with the CFO who had to explain that, no, there wasn't anything left for the options he had bought. So, the $5k or so he paid for it were worth nothing at all. That's when I learned to lean more towards the "options are worthless unless you're a very early employee in a high-potential startup". (when I think about this, it saddens me a bit how cynical my first jobs have made me)
  - tptacek 16y ago
    Having friends who had the same experience, that's been my attitude as well, but since I have a knack for sounding like I know exactly what I'm talking about even when I don't, let me candidly say that this attitude cost me a low but significant amount of money when my last employer got acquired. I didn't exercise my options. I don't regret it, because the money I'd've spent to exercise helped get me through year #1 at Matasano, but if it hadn't, I might be upset.
yoak 16y ago
I really appreciate this article. Unimaginably, most programmers I interview to this day in late 2010, react primarily to number of shares an offer includes option to buy. I've written offers with (made up numbers) option to purchase 10,000 shares at a strike price of $0.10 and had candidates, asking no questions, attempt to negotiate for 20,000 shares which is something that they'd be more comfortable with. In my admittedly limited experience, just realizing that there are a number of shares out there (fully diluted or not!) and that this grant translates to a percentage of the company and that the strike price implies a valuation is beyond a solid majority of people I've seen receive stock option grants. Articles like this one are certainly needed to improve education on these matters.
- kevinpet 16y ago
  I don't see what's so horrible about that. By the time you get to the offer, you have an idea of the current valuation of the company. The price * options = $1000 already tells you if the company can grow 25x, you'll make on the order of $25k. Or maybe you're just saying who the hell bothers to negotiate over $1000 over 4 years. I guess that's a valid point.
  - loewenskind 16y ago
    I think what he was saying is; they don't know what the options are worth. The strike is 10 cents. What if the shares are so diluted that a realistic exercise price will be 8 cents?
  - yoak 16y ago
    As the other commenter pointed out, that's not my point. If I issue a billion shares and offer you stock options at a $0.10 strike price you can't really expect the company to grow that 25x . It's an entirely different matter if there are 50,000 shares. You may be assuming that the strike price is fairly pegged at a real value of the company and thus you can make assumptions about real growth of the company in terms of multiple. Short of public markets, this is always a questionable assumption, but in the case of new startups it is almost completely arbitrary. When you start a new one, there is no reason to differentiate between choices in the number of shares varying by a factor of 10,000x or more, and strike prices are almost as flexible. Perhaps the best reason to pick any number is to pick a large one because of the (irrational) psychological impact that your large absolute number of shares will have in option grants. I suppose this emerges out of people's naive appreciation of public markets. Smaller companies often have stock prices in the teens. Mature, stable companies tend to hold prices closer to a hundred. Blockbusters like Google go to 400! Etc. These prices are managed with splits and have little to do with the return captured by owners of the stock, but people looking at it from the outside sometimes miss this. That's why I appreciated the article so much. It goes beyond these simple matters.
URSpider94 16y ago
What you REALLY want to know are things that you're not likely to find out in your offer: * How does your share allocation compare to your peers, superiors and subordinates? In other words, are you getting an equitable share in the company for your position? * What is the board's strategy for maintaining employee ownership in the face of dilution? Regardless of what you start with, it can be made irrelevant as the number of outstanding shares goes up in future financing rounds. It is natural to expect your ownership share to go down over time as the company grows, but additional share grants can mitigate that effect.
- tptacek 16y ago
  It is simply irrational to value an offer of employment relative to what existing employees received.
gamble 16y ago
Employees should consider their options to have an expected value of $0. (With a not insignificant variance...) There are so many ways things can fail to pan out or you can get screwed, and employees simply can't protect themselves in the way an investor or founder can. If significant participation in an exit is important to you, the only logical option is to be a founder yourself. Trying to get a payoff as an employee is little better than gambling. My rule of thumb is that if the options influence your behavior at all, you're over-valuing them.
jcdreads 16y ago
I'm at a startup (that I otherwise like) where the CEO refuses to disclose the total number of outstanding shares. You can bet that I compute the expectation value of my options to be exactly zero.
cageface 16y ago
In the first .com boom I worked for a company that had a 60 million funding round. By the time I left I decided not to bother exercising my options for pennies a share. The company never went public. None of the many people I knew working for startups at the time saw a dime of profit from their options either. The stock I got from the much larger, already public company I worked for next turned out to be worth a nice chunk of change though.
jaekwon 16y ago
This could be a course for high school students -- like a 1 semester AP course. Understanding stock to me is like a multidisciplinary life skill.
jlgosse 16y ago
The frustrating thing about this is that you rarely ever hear about early employees getting filthy rich, even in HUGE companies. This is why starting your own company and going for broke seems much more appealing, as having 10-20x what your first employees might have is really a game changer. Couple this with the fact that many first employees may end up doing much more work than the founders, and things can get really perplexing.
hanula 16y ago
Sometimes it's not worth to work for stock options. http://www.youtube.com/watch?v=hyM3HVdH1Kw http://www.youtube.com/watch?v=hyM3HVdH1Kw
tungwaiyip 16y ago
With all due respect on this formula, it is only one instance of many possibities. There are numerous assumption being made. The range of outcome can easily be 10x different (with the mode being 0 obviously). Could it gives a more reprentative picture if we can do a survey on successful exit? Something like glassdoor.com? Also i've heard really good story happened to the talents in talent acquisition situations. I wonder if the number can turn out better in those cases, especially for non-founder and non-exec.

143 points by danshapiro 16y ago

TheIronYuppie 16y ago

Love the simple equation - really calls into clarity what is a very fuzzy subject.

stefanweitz 16y ago

When people ask me this, I always run away crying. Finally I can point them somewhere.

danshapiro 16y ago

I didn't want to clog the article with an explanation of each of the heuristics I provided, so here it is in the comments. #1 is pretty self-explanatory. #2 is the expected value, halved because an awesome startup with every chance of success still fails half the time. If you're swinging for the fences (shooting for IPO), you're way more likely to either fail or get so much preference ahead of the common that you never see anything. #3 is because everyone underestimates the amount they'll need to raise. #5 The huge penalty is for two reasons. One, because it's tremendously bad for the common. Two, because it often means something worse: the company's up against a wall, the CEO's a bad negotiator, everyone's expecting the common to be worthless so they have to make it up in preferences, etc. #6 Again, the direct impact isn't as bad as this makes it out to be, but a CEO who does a good job negotiating preferences is a leading indicator of other good things: s/he knows how to generate demand for the company, has leverage, knows how to squeeze every ounce out of a deal, etc. This is basically a proxy for if the CEO will do well during negotiations to sell the company. #7 A common-dominated board will tend towards common-friendly exits, and indicates a CEO who does well in negotiations. Again, this is all guesswork, particularly trying to figure out the all important "will the CEO do a good job selling the company" factor. But I think it's a decent swag.

abeppu 16y ago

Does anyone have any advice on how you're supposed to tactfully get all the info required to do this computation? During my recent job search, I received offers with options from companies who refused to tell me what the count of fully diluted shares was. No one was particularly comfortable answering questions about expected exit. When I tried to ask various questions to estimate some kind of ballpark value for the equity being offered, one company took this as a signal that I wasn't sufficiently enthusiastic about the offer or optimistic about their chances for success. They then started saying things like "We want to hire someone who's really excited to join our team..." Ultimately the I had to use the "assume the options are worthless" stance, but then, with cash compensation being the only consideration, I ended up accepting an offer with a significantly more mature company. How are you supposed to get this information while not giving the prospective employer the impression that you're either (a) too skeptical of the company's prospects or (b) too motivated by the money?

mikebo 16y ago
If they won't even tell you the # of fully diluted shares, I'd run away fast. Sounds like you made the right move.
- tptacek 16y ago
  I might not run (this is unfortunately a common practice), but I would be explicit in negotiation that you value an options grant without that information at $0.00. You can say that politely, or even apologetically, but make it clear that you'd give some flexibility on salary or paid vacation days in exchange for more information (don't be specific about this though).
  - donaldc 16y ago
    make it clear that you'd give some flexibility on salary or paid vacation days in exchange for more information I disagree. You shouldn't trade anything for the information. A company should make the information available if they want the value of the options to be considered greater than $0. You are already considering trading some salary for the options, but the onus is on the offering company to make enough information available to convince you that the options are worth it.
    - tptacek 16y ago
      Your argument is principled but not very pragmatic. When a potential employer gives you anything they consider "significant" equity (ie, worth mentioning as a major part of your comp plan), they are implicitly discounting your salary to make up for it. If you accept their offer, you have given them salary flexibility without receiving consideration. In reality, information is very much something that negotiating parties exchange. But, I agree that you should reasonably expect enough information to value your equity if equity is a major part of your comp. All I'm really saying is, make it clear to your counterparty that the lack of information about your equity is raising your negotiating floor. Which, logically, it must. But I am also specifically not saying, "offer 5k off your salary in exchange for valuation information".

ax0n 16y ago

I generally assume they're worth exactly zero million dollars a piece, because that's what they're actually worth. A few places I've been have tried to pass off this whole "half your salary in stock options" rubbish while still giving me an acceptable wage in real money. This put a phantom value on stock options. At best, they're an exit bonus, which is an incentive to do your best to make your company thrive. It gives you a token that could be worth real money if everyone pulls together. Don't expect anything from stock options.

tptacek 16y ago

This is a fabulous article and I only want to add a tiny little bit of additional context: * Exits north of $100MM are rare, and a $400MM exit is rare indeed; virtually any such exit will be from a famous company. Valuations are at least somehow tethered to sales, and companies that justify mid- 9-figure exits can usually consider IPO... as an example of how rare that event is. * In most sectors of the industry there are rule-of-thumb valuations based on multiples on sales. An enterprise software company aiming for a $150MM acquisition is expecting 4-8x, and needs to be achieving 18MM (optimistically) to 40MM (conservatively) sales to do that. You can reconcile this estimate by asking for current sales, this year's "number" (in a well-run company, everyone knows the number), and then asking "what's going to happen to scale the number up". * Last time I had to think pragmatically about VC, a round that took participating preferred shares (in which the VC takes their money off the table, then takes their percentage off the table) was an indication of a weak round; if they're shooting for the moon, you're entitled to hold that against them. * Finally, remember that if you quit, the equation changes again. When you leave, you can execute your vested options, but that costs money. Perhaps nobody in the company is less protected than former employees: investors have contractual provisions to protect their money, and employees are given retention grants, but former employees can be written right out of the deal. I've seen it happen.

Timothee 16y ago
My very first job was at a startup and I was all excited to get stock options. Later, I heard from a colleague who had bought his options from a previous company which had been bought recently: he had a call with the CFO who had to explain that, no, there wasn't anything left for the options he had bought. So, the $5k or so he paid for it were worth nothing at all. That's when I learned to lean more towards the "options are worthless unless you're a very early employee in a high-potential startup". (when I think about this, it saddens me a bit how cynical my first jobs have made me)
- tptacek 16y ago
  Having friends who had the same experience, that's been my attitude as well, but since I have a knack for sounding like I know exactly what I'm talking about even when I don't, let me candidly say that this attitude cost me a low but significant amount of money when my last employer got acquired. I didn't exercise my options. I don't regret it, because the money I'd've spent to exercise helped get me through year #1 at Matasano, but if it hadn't, I might be upset.

yoak 16y ago

I really appreciate this article. Unimaginably, most programmers I interview to this day in late 2010, react primarily to number of shares an offer includes option to buy. I've written offers with (made up numbers) option to purchase 10,000 shares at a strike price of $0.10 and had candidates, asking no questions, attempt to negotiate for 20,000 shares which is something that they'd be more comfortable with. In my admittedly limited experience, just realizing that there are a number of shares out there (fully diluted or not!) and that this grant translates to a percentage of the company and that the strike price implies a valuation is beyond a solid majority of people I've seen receive stock option grants. Articles like this one are certainly needed to improve education on these matters.

kevinpet 16y ago
I don't see what's so horrible about that. By the time you get to the offer, you have an idea of the current valuation of the company. The price * options = $1000 already tells you if the company can grow 25x, you'll make on the order of $25k. Or maybe you're just saying who the hell bothers to negotiate over $1000 over 4 years. I guess that's a valid point.
- loewenskind 16y ago
  I think what he was saying is; they don't know what the options are worth. The strike is 10 cents. What if the shares are so diluted that a realistic exercise price will be 8 cents?
- yoak 16y ago
  As the other commenter pointed out, that's not my point. If I issue a billion shares and offer you stock options at a $0.10 strike price you can't really expect the company to grow that 25x . It's an entirely different matter if there are 50,000 shares. You may be assuming that the strike price is fairly pegged at a real value of the company and thus you can make assumptions about real growth of the company in terms of multiple. Short of public markets, this is always a questionable assumption, but in the case of new startups it is almost completely arbitrary. When you start a new one, there is no reason to differentiate between choices in the number of shares varying by a factor of 10,000x or more, and strike prices are almost as flexible. Perhaps the best reason to pick any number is to pick a large one because of the (irrational) psychological impact that your large absolute number of shares will have in option grants. I suppose this emerges out of people's naive appreciation of public markets. Smaller companies often have stock prices in the teens. Mature, stable companies tend to hold prices closer to a hundred. Blockbusters like Google go to 400! Etc. These prices are managed with splits and have little to do with the return captured by owners of the stock, but people looking at it from the outside sometimes miss this. That's why I appreciated the article so much. It goes beyond these simple matters.

URSpider94 16y ago

What you REALLY want to know are things that you're not likely to find out in your offer: * How does your share allocation compare to your peers, superiors and subordinates? In other words, are you getting an equitable share in the company for your position? * What is the board's strategy for maintaining employee ownership in the face of dilution? Regardless of what you start with, it can be made irrelevant as the number of outstanding shares goes up in future financing rounds. It is natural to expect your ownership share to go down over time as the company grows, but additional share grants can mitigate that effect.

tptacek 16y ago
It is simply irrational to value an offer of employment relative to what existing employees received.

gamble 16y ago

Employees should consider their options to have an expected value of $0. (With a not insignificant variance...) There are so many ways things can fail to pan out or you can get screwed, and employees simply can't protect themselves in the way an investor or founder can. If significant participation in an exit is important to you, the only logical option is to be a founder yourself. Trying to get a payoff as an employee is little better than gambling. My rule of thumb is that if the options influence your behavior at all, you're over-valuing them.

jcdreads 16y ago

I'm at a startup (that I otherwise like) where the CEO refuses to disclose the total number of outstanding shares. You can bet that I compute the expectation value of my options to be exactly zero.

cageface 16y ago

In the first .com boom I worked for a company that had a 60 million funding round. By the time I left I decided not to bother exercising my options for pennies a share. The company never went public. None of the many people I knew working for startups at the time saw a dime of profit from their options either. The stock I got from the much larger, already public company I worked for next turned out to be worth a nice chunk of change though.

jaekwon 16y ago

This could be a course for high school students -- like a 1 semester AP course. Understanding stock to me is like a multidisciplinary life skill.

jlgosse 16y ago

The frustrating thing about this is that you rarely ever hear about early employees getting filthy rich, even in HUGE companies. This is why starting your own company and going for broke seems much more appealing, as having 10-20x what your first employees might have is really a game changer. Couple this with the fact that many first employees may end up doing much more work than the founders, and things can get really perplexing.

hanula 16y ago

Sometimes it's not worth to work for stock options. http://www.youtube.com/watch?v=hyM3HVdH1Kw http://www.youtube.com/watch?v=hyM3HVdH1Kw

tungwaiyip 16y ago

With all due respect on this formula, it is only one instance of many possibities. There are numerous assumption being made. The range of outcome can easily be 10x different (with the mode being 0 obviously). Could it gives a more reprentative picture if we can do a survey on successful exit? Something like glassdoor.com? Also i've heard really good story happened to the talents in talent acquisition situations. I wonder if the number can turn out better in those cases, especially for non-founder and non-exec.