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>> So what is your equity really worth?... >> ... >> The difference between the most recent FMV (409A) valuation and your exercise >> price. ... >> The differen

>> So what is your equity really worth?... >> ... >> The difference between the most recent FMV (409A) valuation and your exercise >> price. ... >> The difference between the Preferred Price and your exercise price.... The real answer is that it is probably not worth anything unless they have stock liquidity events that only a handful of large startups have (e.g. Stripe.) If you dont have that, the price is purely theoretical. Further, if you cannot see the cap table and the preference overhang -- and most startups wont let you see it -- then you have no idea what the real price is regardeless of a theoretical 409A value. Even if you can see the cap table, spending today-dollars and exercising options for the right to sell stock 5 or 10yrs into the future almost never works out -- the cone of uncertainty across 5 or 10yrs is far too great. The better move would probably to be to use that money to purchase long-dated LEAP call options on the Nasdaq Composite

SkyPuncher 1y ago
Correct, the 409a is only going to show you the maximum possible value. Realistically, investors get their money back first, so 50% (picking an arbiter number) of that valuation value won’t ever been seen by employees. Then it gets even worse with multipliers and preferences.
- FreakLegion 1y ago
  It's the preference and its multiplier that gives investors their money back first. These aren't different things, they're one thing, and generally only matter if the company exits for less than the valuation the investors invested at. The exception to this is if any investors have a liquidation preference > 1x (you should avoid companies where this is the case). Preferences also don't stack with the rest of a liquidity event. E.g. say an investor puts in $100m at a post-money of $1b with a 1x liquidation preference. If the shares go for $900m, the investor gets back their $100m, and that's all. They don't lose money, but they don't make money either. If the shares go at a $1.1b valuation, the investor converts their preferred shares to common shares like everyone else has. The investor doesn't get their money back first and sell more shares on top of that. It's either/or.
  - deleted 1y ago
    [deleted]
  - t0mas88 1y ago
    Whether it's and vs either/or is the difference between a liquidation preference or a participating liquidation preference. And indeed the more than 1x cases are also problematic for common stock holders. But I do assume the 409A for the fair marker value of the common stock takes these into account? Not a US tax expert :-)
    - FreakLegion 1y ago
      You can construct any arbitrary deal terms you like, of course, but in the Silicon Valley ecosystem nobody you'd want to raise money from does this. Deal terms are broadly standardized and the desirable investors only do clean term sheets. Quoting myself from another thread a couple years ago: VCs make their money from outlier companies, so the competent ones don't optimize for worst-case outcomes. You'll never see a dirty term sheet (e.g. liquidation preference > 1x) from Sequoia, for example, because they don't return 8x on a fund by squeezing pennies out of failed startups. To answer your question, yes, doling out company value to different share classes is part of the 409A calculation. I've used Carta and Pulley for this, but it looks like neither has their docs posted publicly. Here's Pulley's overview page from our last 409A, though: Valuation Analysis To determine the fair market value of the Subject Interest in our analysis, the following steps were taken: Step 1 - Determine the value of the Company using an appropriate methodology(ies) Step 2 - Allocate the value of the Company to the various share classes taking into account share classes economic rights and preferences Step 3 - Apply a discount for lack of marketability (“DLOM”) to the resulting per share value of common Step 4 - Analyze any secondary transactions that have incurred in the past and determine to what extent they should be considered relevant in determining the value of the Subject Interest in the analysis The system is built to handle non-standard liquidation preferences, but anything more esoteric (e.g. your participating preferred shares) probably needs a bespoke valuation. You won't see this stuff from successful VCs, though. It would be a bit like investing in SpaceX, but having one of the terms be an increase in Earth's gravity.
- CPLX 1y ago
  > the 409a is only going to show you the maximum possible value While the points about uncertainty of options are quite accurate, this detail isn’t really true. For the most part a 409a is the lowest reasonable valuation the company could talk the auditors into accepting. The lower it is the less tax paid and everyone knows that.
  - bcyn 1y ago
    You're correct about valuation, but the parent post was meant to address "how much liquid dollars should you expect to receive vs. 409a." You are likely to receive less in most cases (read: unless there are wildly successful public liquidity events) due to liquidation preferences.
    - x0xrx 1y ago
      Plenty of (non-VC backed) startups raise some money and then sell privately; it’s often the case that preference does not cause the common stock value to drop below the most recent 409a in these cases. (In my experience, the 409a is on the order of 20% of the most recent raise, and preference is not more than 50%, in my area. And obviously you hope to sell for more than the last raise!).
    - CPLX 1y ago
      Any reasonable 409a will be fully aware of those preference terms and will have factored them in.
- TuringNYC 1y ago
  >> Then it gets even worse with multipliers and preferences. Yeah, and most companies wont share the cap table with you, so you do not know the multipliers and preferences. Its like you get $(409a/X) in value, but you dont know what X is and they wont tell you -- but you still have to buy in or lose everything (you typically have to exercise all options upon departure, or lose it!) Then, once you exercise, you wait for 5yrs to 10yrs for a liquidity event, if the company even survives that long. My annual discount rate would be like 10% or higher.
fragmede 1y ago
> spending today-dollars and exercising options for the right to sell stock 5 or 10yrs into the future almost never works out There are places that will, no recourse, loan you the money to exercise and pay the tax, in exchange for some percentage of the profit, provided it's for a company they like. Meaning, they lend you the money, but if there's no IPO/liquidity event, you don't owe them any money. 70% (say) of a big number may not be as big as 100% of a big number, but 100% of zero is $0. Which isn't financial advice, just a bit of math.
- TuringNYC 1y ago
  >> There are places that will, no recourse, loan you the money to exercise and pay the tax, in exchange for some percentage of the profit, provided it's for a company they like. Yes they do this, but only for select companies. They wont touch most startup equity.
- ipaddr 1y ago
  If you find a company they accept you should keep your shares if possible. Most companies will not be accepted for good reason.
Eridrus 1y ago
I think the main takeaway from any startup stock advice is what this article starts with: you need to pick a good startup. The details all matter, but they all matter far less than that fact. People shouldn't lump all startups together and should have a long think about whether they actually believe in the startup they're joining.
- jiveturkey 1y ago
  Not sure if you mean that seriously, or with tongue in cheek. It takes a very healthy dose of luck and market timing to be successful. Even the VCs, the experts, don't know how to pick winners. They expect a 90% failure rate, and this is among the ones they picked! As an employee you don't have the same profit structure in play -- you can only work at one startup at a time. You cannot spread your bets around and let that one winner make the math work. You have to be 10x better at selecting a startup than the experts, probably 100x better if you expect to beat a big tech salary.
  - usrnm 1y ago
    That all is correct and leads to a very simple conclusion: working for a startup has a very low probability of making you rich. Doesn't mean that people shouldn't do it, but it's better to have healthy expectations.
    - mlinhares 1y ago
      I still think its good for college grads, gives you a lot of leeway and space to play around with many different hats and find one that fits you better. Incredibly lousy way to make money though, odds you will hit jackpot are none unless you're one of the founders and even then odds are still small.
      - bradlys 1y ago
        If a college grad is choosing between faang and no-name startup, their career will likely go over much better than no-name startup. Having the big name on your resume does wonders. Even for experienced candidates, keep taking the big name. The market rewards it. (Including startups - compensation packages for people with faang resumes usually are better)
CGMthrowaway 1y ago
> The real answer is that it is probably not worth anything unless they have stock liquidity events that only a handful of large startups have (e.g. Stripe.) If you dont have that, the price is purely theoretical. This is not true in Australia, where they are proposing a new 15% tax on gains attributed to the portion of an individual's retirement account larger than $3 million, including unrealized gains. That means people must put a dollar value on each asset at the end of each income year, including startup shares or venture fund interests.

SkyPuncher 1y ago

Correct, the 409a is only going to show you the maximum possible value. Realistically, investors get their money back first, so 50% (picking an arbiter number) of that valuation value won’t ever been seen by employees. Then it gets even worse with multipliers and preferences.

FreakLegion 1y ago
It's the preference and its multiplier that gives investors their money back first. These aren't different things, they're one thing, and generally only matter if the company exits for less than the valuation the investors invested at. The exception to this is if any investors have a liquidation preference > 1x (you should avoid companies where this is the case). Preferences also don't stack with the rest of a liquidity event. E.g. say an investor puts in $100m at a post-money of $1b with a 1x liquidation preference. If the shares go for $900m, the investor gets back their $100m, and that's all. They don't lose money, but they don't make money either. If the shares go at a $1.1b valuation, the investor converts their preferred shares to common shares like everyone else has. The investor doesn't get their money back first and sell more shares on top of that. It's either/or.
- deleted 1y ago
  [deleted]
- t0mas88 1y ago
  Whether it's and vs either/or is the difference between a liquidation preference or a participating liquidation preference. And indeed the more than 1x cases are also problematic for common stock holders. But I do assume the 409A for the fair marker value of the common stock takes these into account? Not a US tax expert :-)
  - FreakLegion 1y ago
    You can construct any arbitrary deal terms you like, of course, but in the Silicon Valley ecosystem nobody you'd want to raise money from does this. Deal terms are broadly standardized and the desirable investors only do clean term sheets. Quoting myself from another thread a couple years ago: VCs make their money from outlier companies, so the competent ones don't optimize for worst-case outcomes. You'll never see a dirty term sheet (e.g. liquidation preference > 1x) from Sequoia, for example, because they don't return 8x on a fund by squeezing pennies out of failed startups. To answer your question, yes, doling out company value to different share classes is part of the 409A calculation. I've used Carta and Pulley for this, but it looks like neither has their docs posted publicly. Here's Pulley's overview page from our last 409A, though: Valuation Analysis To determine the fair market value of the Subject Interest in our analysis, the following steps were taken: Step 1 - Determine the value of the Company using an appropriate methodology(ies) Step 2 - Allocate the value of the Company to the various share classes taking into account share classes economic rights and preferences Step 3 - Apply a discount for lack of marketability (“DLOM”) to the resulting per share value of common Step 4 - Analyze any secondary transactions that have incurred in the past and determine to what extent they should be considered relevant in determining the value of the Subject Interest in the analysis The system is built to handle non-standard liquidation preferences, but anything more esoteric (e.g. your participating preferred shares) probably needs a bespoke valuation. You won't see this stuff from successful VCs, though. It would be a bit like investing in SpaceX, but having one of the terms be an increase in Earth's gravity.
CPLX 1y ago
> the 409a is only going to show you the maximum possible value While the points about uncertainty of options are quite accurate, this detail isn’t really true. For the most part a 409a is the lowest reasonable valuation the company could talk the auditors into accepting. The lower it is the less tax paid and everyone knows that.
- bcyn 1y ago
  You're correct about valuation, but the parent post was meant to address "how much liquid dollars should you expect to receive vs. 409a." You are likely to receive less in most cases (read: unless there are wildly successful public liquidity events) due to liquidation preferences.
  - x0xrx 1y ago
    Plenty of (non-VC backed) startups raise some money and then sell privately; it’s often the case that preference does not cause the common stock value to drop below the most recent 409a in these cases. (In my experience, the 409a is on the order of 20% of the most recent raise, and preference is not more than 50%, in my area. And obviously you hope to sell for more than the last raise!).
  - CPLX 1y ago
    Any reasonable 409a will be fully aware of those preference terms and will have factored them in.
TuringNYC 1y ago
>> Then it gets even worse with multipliers and preferences. Yeah, and most companies wont share the cap table with you, so you do not know the multipliers and preferences. Its like you get $(409a/X) in value, but you dont know what X is and they wont tell you -- but you still have to buy in or lose everything (you typically have to exercise all options upon departure, or lose it!) Then, once you exercise, you wait for 5yrs to 10yrs for a liquidity event, if the company even survives that long. My annual discount rate would be like 10% or higher.

fragmede 1y ago

> spending today-dollars and exercising options for the right to sell stock 5 or 10yrs into the future almost never works out There are places that will, no recourse, loan you the money to exercise and pay the tax, in exchange for some percentage of the profit, provided it's for a company they like. Meaning, they lend you the money, but if there's no IPO/liquidity event, you don't owe them any money. 70% (say) of a big number may not be as big as 100% of a big number, but 100% of zero is $0. Which isn't financial advice, just a bit of math.

TuringNYC 1y ago
>> There are places that will, no recourse, loan you the money to exercise and pay the tax, in exchange for some percentage of the profit, provided it's for a company they like. Yes they do this, but only for select companies. They wont touch most startup equity.
ipaddr 1y ago
If you find a company they accept you should keep your shares if possible. Most companies will not be accepted for good reason.

Eridrus 1y ago

I think the main takeaway from any startup stock advice is what this article starts with: you need to pick a good startup. The details all matter, but they all matter far less than that fact. People shouldn't lump all startups together and should have a long think about whether they actually believe in the startup they're joining.

jiveturkey 1y ago
Not sure if you mean that seriously, or with tongue in cheek. It takes a very healthy dose of luck and market timing to be successful. Even the VCs, the experts, don't know how to pick winners. They expect a 90% failure rate, and this is among the ones they picked! As an employee you don't have the same profit structure in play -- you can only work at one startup at a time. You cannot spread your bets around and let that one winner make the math work. You have to be 10x better at selecting a startup than the experts, probably 100x better if you expect to beat a big tech salary.
- usrnm 1y ago
  That all is correct and leads to a very simple conclusion: working for a startup has a very low probability of making you rich. Doesn't mean that people shouldn't do it, but it's better to have healthy expectations.
  - mlinhares 1y ago
    I still think its good for college grads, gives you a lot of leeway and space to play around with many different hats and find one that fits you better. Incredibly lousy way to make money though, odds you will hit jackpot are none unless you're one of the founders and even then odds are still small.
    - bradlys 1y ago
      If a college grad is choosing between faang and no-name startup, their career will likely go over much better than no-name startup. Having the big name on your resume does wonders. Even for experienced candidates, keep taking the big name. The market rewards it. (Including startups - compensation packages for people with faang resumes usually are better)

CGMthrowaway 1y ago

> The real answer is that it is probably not worth anything unless they have stock liquidity events that only a handful of large startups have (e.g. Stripe.) If you dont have that, the price is purely theoretical. This is not true in Australia, where they are proposing a new 15% tax on gains attributed to the portion of an individual's retirement account larger than $3 million, including unrealized gains. That means people must put a dollar value on each asset at the end of each income year, including startup shares or venture fund interests.