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What are Share Options Worth?
jon_eaves submitted a thought provoking question on the worth of stock options. One only has to look at the recent IPOs of Red Hat [?] and VA Linux [?] to see why this might be desirable to someone in the market. Jon is looking for some discussion on the advantages, restrictions and risks involved in such dealings. Anyone out there with some good information or first hand experience into the things you need to watch for? Click below for the full submission.
"Hi all,
I'm in the process of looking for further employment, and one of the companies that I've been talking to is a start-up, and they have raised the option of taking shares instead of salary (or at least a portion of it).
I'm not super $$$$ focussed (or I'd be in SAP rather than Java), but to evaluate the offer against other companies, I'd be interested in hearing from other people who have taken share options, and what they have ended up being worth and what restrictions are "normal".
The sorts of things I'm interested in are;
- How long did you have to keep them ?
- What was the increase (or decrease) in value ?
- Do you think it's a good idea ?
- What are the "gotchas" ?
It's highly unlikely that I'll be making a choice based solely on $$$$, but it's important to understand the economics of it all.
Comments? "
I have been with 4 start-up companies and have gotten nothing in four rounds (currently in my fourth) of start options vesting and seeing if they are worth anything.
I know people who have worked for a variety of companies that have gotten options whose value have ranged from nothing (like mine) to several million dollars. It is all a gamble and valuing stock options is very hard to do. It is all speculation and depends on how good you think that company is from a total picture point of view. It takes strong management, sales, marketing, leadership and technical ability to really make it and be successful. All of those things are a hard thing to find and most startups don't have them. The next best thing is being with at startup that has one of the key factors and merges with another company that can leverage that key factor and has all of the other key factors.
In the end I believe that it is all luck and a little bit of strategy on your part. Remember that that first few people who worked for MS, Cisco, Sun, AOL and Oracle made the most money but most of the millionaires from the companies came after it was public (or at least beyond a startup stage) and just road their way to success. Maybe a good strategy is to work for a up and coming winner that has a good chance of making it but isn't a complete powerhouse yet.
This lowers you risk but has a better chance of reward. It tends to be more stable also. Startups are hard and I wouldn't recommend them to most people.
It varies depending on the deal - 6 months to 3 years. If they were offered in a private company and in lieu of salary, probably shorter. A larger company may grant a huge amount of stock options as an employment incentive (mine did) -- in which case the vesting period is much longer (the time you are allotted the options is the "grant" date, the time before you can "exercise", sell, them is the "vesting period").
Another thing to keep in mind is that you are often limited in how long you can hold onto them (in my case, I have to sell within 10 years of vesting).
2.What was the increase (or decrease) in value ?
The increase/decrease in value is dependent on the company's stock performance. If the company does not go public (not everyone gets to have an IPO), then things are rather more tenuous. A publicly traded stock is much more closely tied to specific financials of the company.
Stock options work this way: a company looks at the current trading value of their stock on the specified grant date and then purchases a certain dollar value or fixed number of shares of stock, which they set aside for you. The stock is held until the vesting period is over, at which time you may do one of two things: purchase the stock from your company at the price they paid on the grant date, or have the company sell the stock and give you the difference. Since you are never obligated to exercise your options (the options may expire with time, like 13 years in my case, but at that point they just evaporate), there's no risk that you will ever owe your company money if the shares never rise above the grant price.
In the case of my company, the number of shares granted was calculated by an outside financial firm by an equation based on my current salary, the Black-Sholes index of the company stock (a performance indicator), etc. Ultimately they come up with a number of shares that they expect to appreciate by a specific amount over three years based on past performance indicators.
3.Do you think it's a good idea ? Stock options can be avery good bonus/incentive plan in the same way other investments may be (think of stock options as a bonus that's invested in just one stock -- your company), but it doesn't replace salary since the benefit is deferred and, quite obviously, not at all guaranteed.
If the company is a start-up, and they have a successful IPO, and they look like they will be profitible for the medium term, options can be VERY valuable. However, 9 out of 10 startups will fail miserably (for all sorts of reasons), and the 1/10th that get through may struggle for some time to get a decent stock price.
Ultimately, only you can tell how mcuh you want to risk on such investments and what the vlue is to you, based on what you know of the circumstances.
4.What are the "gotchas" ?
The priciple gotchas are: a stock option may never be worth anything, and that options are an investment with fixed vesting and exercise periods -- so they are not liquid, you cannot borrow against them, you see no income from them whatsoever until the day you exercise them.
Your job will be to decide whether the option will produce more value for you than carefully investing the extra income the company was asking you to forgo in lieu of the options.
I still say options are better bonus/incentive plans than they are income replacements.
You have to look at a fwe things. If your company is already public it is easer. Because you KNOW what the stock is worth now. It could go up or down in the next year but at least it will be worth something.
If you are at a startup (Like I am) you have a more complex problem. You have to evaluate several things:
1)How many shares am I offered.
2)How long will it take them to vest. (It is usualy over 4 years, with the first bunch after 1 year)
3)What is the option price.
4)What do I think they will be worth when the vest or at some point in the future.
For example I have a bunch of options in the company that I work for at $0.25 share. When we IPO I think that the stock will go to about $35 a share. So if it does that it gives me a large chunck of cash.
The other thing to know is that the earlier you join a company the greater the rist you are taking and the more options you should get. A friend of mine at the company was the 3rd person they hired and he has a *HELL* of a lot of shares. When we IPO he will probably be worth several million.
Oh also Semper Littenis Mandate (Always get it in writting).
Erlang Developer and podcaster
The first and foremost thing to remember when being offered options is they should not ever be offered in place of a market-level salary. Small start ups are notorious for that, particularly when they're hiring people right out of school who don't know better.
I know lots of people who were talked down as much as 25% in their salary for options in a company that went under after a year or two. Those options are worth nothing (of course), and those people get burned for the salary they lost.
Options should be a perk.
Also another good point thats already been said in here several times is to make sure EVERYTHING is in writing. With the sudden boom in the Internet over the last few years, there's a lot of serious sleezeballs out there.
I'd say that the main thing to realize is that if this is a start-up, those options are worth ZERO DOLLARS until your company is either bought by a public company, or goes public.
Several of these posts are from people who seem to have received options in a company that is already public - this is almost never a bad thing, because they usually have some value at the time of the grant, and they're on TOP of a salary, not instead of a salary.
Options can't really decrease in value - if you receive options on 1000 shares at $10, and the stock goes to $20, then you've made 1000x($20-$10)=$10,000. However, if the stock goes below $10, then your options are said to be "underwater" and they are worthless - you haven't lost money on the options, but you haven't made any, either.
As to how long you have to keep them, that's up to your company. I have received options from my (public) company as an incentive to stay with the company, and they vested (became exerciseable) after 3 years, and I had a 5 year window after that in which I could exercise them. My company's stock went from $13/share to $135/share, so I've done pretty well.
So, as another poster said, if you think there's a good chance that your company will be successful and go IPO or get bought, you could make a nice sum. If it doesn't, you'll have $0. I'd suggest asking for a salary you can live on, and see if you can get options on top of that.
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In essence, options are a promise and incentive. If you make the company succeed, and it goes public, they become worth something. If the fellow offering them is having trouble meeting payroll... take em anyway! Chances are he doesn't have the money to pay you the big bucks anyway :-). It's when you're in the middle that you have to really sweat.
A typical company that offers options will have a four year vesting period. Vesting means your options become "usable", that is, you can use them to purchase stock at the price specified by your options agreement. Vesting schedules differ widely. I've been at companies where you vest 25% each year, I've been at places where you gradually increase your vesting over time, 10%, 20%, 30%, and 40%. I've also been at companies that did it the other way around (40, 20, 20, 20).
Can you see yourself committing 4 years of your life to this company? Does the company have a serious plan for how to make money? Do they have reasonable financial backing? Do they have good marketing and sales? Those are all questions that you should factor into your decision. Many options agreements have clauses that accelerate the vesting schedule should the company IPO, merge into a public company or get acquired. My current company has that.
Ask about cashless exercise of options too. That's when you give up a certain number of options in exchange for your stock. For example, let's say you have 100000 options at $0.10 each. Suppose you don't have $10000 around to exercise. Were you to do a cashless transaction, you take the IPO price, say $10.00, and convert ONE $0.10 option into 99 shares of stock. Note, you may have to claim the appreciated value of the options as income ($9.90 per option you gave up).
Even if you are NOT restricted under SEC Rule 144 with respect to sale of your stock, HOLD ONTO IT for at least 12 months. Why? If you dump your stock instantly, you get socked with short term capital gains tax on it. That's about 40%. Holding it for a year or more turns it into long term capital gains, at 22%. It's a no-brainer, unless you've got something that's guaranteed to offset the extra 18% you'll fork out in taxes to put your $$ into immediately (like say Qualcomm at the 11/98 price).
Be careful. If you hit the startup lottery, and win big, people around you WILL change. It did for me. My parents and grandparents are totally cool about it, they're just proud of me. My friends are happy for me and think it's cool. Other parts of the family aren't as good though. I've got extended family members that haven't spent more than 10 minutes talking to me over the past 10 years calling me asking about friends & family stock. People you went to college with will find out that you're suddenly a millionaire and start calling you about investing in something they are doing. People you don't even know will email you about getting money for things. I didn't even hit it huge (but I'll be quite comfy) and it's happening to me. I can't imagine what Taco, Hemos, ESR & those guys are getting hit with...
--
The unsig!
If a company really wants you, ask for both ...
I work for a small, semiconductor technology startup. When a company is working in the red, of course they are going to be tight. On the flip-side, they need good people. Like anyone else, they are willing to pay for it ... in both salary and stock options.
All I can advise you on is to look for these things before you join (that haven't already been mentioned above):
Find out how much money the have in the bank, and how long that will last
And that includes how long they expect to be in the red. No company in their right mind will have an IPO while they are in the red. So, until then, all you have from them is your salary. If they company has several million in the bank (usually secured through private or government investments), you are probably looking at a sound company with a future. And that means you'll get paid for the next few years before IPO.
A good indicator you are on shaky ground is the fact that they do not want to pay you even the lower-end market value for your employment. That means they are probably strapped for cash, not a good move. Although that could be because you are a commodity item. And it that is true, it may not be such a revolutionary startup.
Look for other unique assets the company may have, like a patent portfolio?
As with other Slashdot'ters, I think almost all software patents are quite lame and trival ideas. But many advanced hardware patents took years of research and dedication. As it is with my company. We have a large patent portfolio that makes us an inviting acquisition target should money become an issue (it has not yet, and probably won't). We have also proven our technology through government programs, which has in turn helped us raise funds and woo potential investors (we are now turning many away though).
It was not too long ago that most players in the semiconductor market stopped short of just laughing at our ideas and concepts. Today those same companies, and the Semiconductor Industry Association (SIA) itself, believes our approach is the correct one to solving the IC design problems of the 21st century. And those same companies are now admist organizing accelerated R&D programs to catch-up on the last 20 years we invented.
There are ways of implementing concepts similiar to our technology outside of our patents and current product focus. The ideas are nothing new (although we thought of most of them), and our patents and designs exploit what we believe is the best course (meaning we do not have lame, broad patents that stiffle innovation, in fact, we have been promoting it as the best course of future IC design). Of course companies like Motorola (and others, including some very prestigeous individuals I cannot mention at this time) have decided that our technology has already been proven and already developed to the point where it is commercially viable. But there will always be those who wish to "re-invent the wheel," hating us because we already dealt with the issues they are now having (e.g. Intel).
So, ask for what you want, but tell them you are flexible
If you and your skills are a valued commodity, they will pay. The salary may be slightly below market value, but they should more than make-up for it in stock options. And as one Slashdot'ter above mentioned, you need to know what percentage of the total "stockpile" is available to you.
But if they company has money in the bank to last a year or longer, long enough to its first product, ask for what you want and expect to get at least market value. I did with my company and walked into it with a nice raise. And since they did not meet the salary I wanted, they gave me additional stock options. I got the offer the very next day, that is how valuable they saw me.
One more thing: Non-Disclosure, Accepable; Non-Compete, UNAcceptable!
A company has the right to protect is technology, trade secrets and the like. As such, you will be presented with a Non-Disclosure Agreement. That is fine, sign it. But when the company wants you to sign a Non-Compete, give them two options for them to choose from:
You will get stares, disbelief and other "pep-talks" from others. But the fact of the matter is that "non-competes" ARE at least partially enforcable in many states IF you sign. As such, don't. If they won't reason, get a lawyer. He may not get rid of the non-compete, but he will narrow its focus so you can work after you leave the company.
As it was with my new company. I refused to sign the non-compete. My future boss, his boss, the head-hunter, and everyone else tried to reason with me. After a week, I got a lawyer, and we write a narrowed agreement. The next day, my future employer threw the Non-Compete completely out, they wanted me on-board ASAP. They said they would draft a new, narrower Non-Compete for everyone later on (or expand the Non-Disclosure). Unfortunately for them, no state law that I know of will enforce an agreement on you AFTER you have already started employment.
-- Bryan "TheBS" Smith
-- Bryan "TheBS" Smith
Independent Author, Consultant and Trainer
I have been with a company for 3 years.the way they work (at least here) is you have the "option" to buy x number of shares each six months at whatever the current price is.The company buys the shares and holds them.When you sell (in part or whole)the company then *deducts* the price they paid from the current market price.I get the difference.If the stock price zooms (mine did once) you can make out pretty nice.If it just limps along (our current state)you got zip.There have been times,had I sold,I would have *owed* money.Of course I don't work for a hot Linux company (alas).You have to look at the track record (if the company has one)and figure where this stock/company is heading.Today's latest and greatest can be tomorrow's Betamax :p
Tired of being another body in the flock? Linux ! We are not sheep anymore.
- Tulip Bulb Mania
This is not to say that this phenomenon is the exact thing that is happening with internet stocks -- but something of which everyone thinking of speculative trading should be aware. If you don't know about tulip bulb mania: read it.<sig>Guvf vf abg n frperg zrffntr
the company IPO's, gets aquired, or merges. Stock options are not equity in the company only the right to purchase equity at a latter date when vested. I have been sucked into the options games and came out a lot wiser. Here is the bottom line -- Stock options are only worth something if someone else values them. Until then they are not worth the price of the paper they are printed on.
I hope I don't come accross as bitter but I do want to show people the truth.
I don't think much of this holds if the company is VC-backed. If the VCs are big, and if they've put in enough money, and if management doesn't do a Pointcast, there WILL be an IPO, and it will most likely make you some money.
The most important indicator is how many times the management team has take a company public in the past. More IPOs == higher chance of a big IPO again.
Don't take much of a pay cut, and get some vacation time accrued before you start. Make sure you take that vacation time and unwind; startups can be pretty vicious places to work (been there, done that, got the scars to prove it).
Good luck!
Just one other thing that occurs to me: it depends entirely what you think your company is worth and what you do with the options. If you happen to have landed with a beaurocracy that doesn't let you vest until after you leave, they are worthless - not just because you won't get anything, but because you see them as pathetic.
In short: money is what you make of it, neither how much you make of it, or how much someone else thinks you're worth, within reason.
Give me happiness and a new mouse in preference to £10 any day.
~Tim
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Rushing on down to the circle of the turn
DAMN! This is super-ultra important. I lose all my unvested options at the end of the month. The options have a strike price of $17/share. The current value of the stock we'll call $47/share. Are you saying that I can outright buy these unvested options at $17/apiece? How do I do this?!!?!
It sounds like you've had dealings with some shady customers. Here's some basiscs in the RULES you should be looking for:
1. They may choose not to tell you how many shares are outstanding. This is a minus, as you cannot make judgements about the value of your shares based on what YOU think the company is worth. None-the-less, you should be told a) the current estimated value per share b) the option price. These two numbers need to be handed to you IN WRITING, or you're being taken for a ride. The percent difference between these is called the "options discount". That is, you are being allowed to buy an item (stock) at a discount. You should expect between 50 and 99% discount. Any less is not much of a deal.
2. They should NOT have a clause in the options plan that allows them to just pull the shares back from you at any time. In reality, they always can, but it's a major pain in the ass. They should *not* be allowed to simply inform you that your options are no longer yours unless you are fired for cause, and even then, stock that you have purchased (e.g. the options have vested, and you paid the option price) should never revert to them.
3. You should either receive your full vesting or there should be a substantial acceleration in the plan in the event of a substantial change of ownership (e.g. you get bought out or go public). You don't want to join the company, have them go public and then not be able to sell your stock, as you watch its price plummet. The ways I've seen this done are: a) 1 year acceleration b) 1/2 of remaining options vest immediately c) the full plan vests immediately, but there is a restriction on when you can sell. Think about this aspect of the plan carefully.
Rule 0, however, is options are barely worth the paper that the contract is printed on (and in many cases less) unless your company succedes. You need to carefully look into the company and its plans.
Some nifty ideas to noodle around with: If you don't have a brokerage account, get one now, don't wait until the last minute. Talk to friends about what their plans are like. See if anyone in the office is willing to discuss the plan (most companies don't like this, but that's their problem).
Options are 'free' to the company giving them to you. It costs them nothing to give them out, and so are often used to try to entice people to work for less then they are worth.
I would demand what you are worth, and if they want to give you options on top of that so be it.
I personally would only accept options as a substitute of salary on three conditions. First I would have to really believe the idea was a briliant one with a good business plan. Secondly I'd have to really think highly of the management team of the company. Third I'd have to be in a position where I made a difference in the company and helped make desicions on the way it's run. (forth, goes without saying, it better be a truckload of options)
Lets face it, in this late stage of the game most all of the good management teams have already gone out and done most of the briliant ideas and taken them public. All thats left are the stragglers to pick up the scraps. Most only areas left for internet startups are highly specialized/marginalized fields where the returns aren't that great, or areas where there is already a giant dominating the market.
Options are a great way for startups to underpay their tallent and 'handcuff' them so that they won't leave when they'd rather be somewhere else. I know two people who were handcuffed and rather be somewhere else. One of them recently was fired (he was misserable for a year and still lost his options).
My opinion is to get paid more and invest the extra in the stock market or put it away for a rainy day. Either way _you_ controll your destiny, not some idiot MBA who wanted to do 'this internet startup thing' and needs your help just to open his email.
If your not following the rules layed out above buying lottery tickets might be a better way to go (about the same risk!)
Last suggestion: be an independent contractor.I get to work at a couple of new startups a year, make more than any human should, and get to do the fun stuff of building up their business without the boring side of having to sit around maintaining it for the following years.
Slashdot, would a spell-checker for posting be too much to ask? It's not rocket science!
MAKE SURE the company has registered the options with the SEC. If they havn't registered them, the only way you can use the option is to buy them, and hold them for a year.
(Got burned pretty bad on that, left my last company, went to cash out the options I had vested (Would have made for a down payment on a house or a new car) and turns out the turkeys never registered them! By the time they were finally registered, the company had finished bright sizing, and was worthless!)
Be careful. Talk to a lawyer and an accountant about this kind of stuff, there are SOOOO many ways to get burned, and only a few ways to get paid this way.
"Liquidation Preferences" as described in this are the rights attributed to a type of stock called "Participating Prefered" stock. It is quite unusual to see this these days, with an oversupply of VCs and cash, and a relative shortage of good ideas looking for money. If the company-side lawyers are halfway decent, and the company isn't super desperate, you'll be unlikely to see participating prefered; if you *do* see it, call the VCs on it, and they'll more than likely scale back to straight prefered. If they won't, then shop around and find someone who will give you better terms.
On acceleration, this is also atypical for all but the most senior employees, and even then not a given. Acceleration causes trouble in the event of an acquisition if it's not properly structured. This is because of the technical details of how an acquisition happens. If there is a change in the equity positions in the company shortly prior to an acquisition, it makes it hard to account for the acquisition as a Pooling Of Interests, which makes it less attractive to the buyer. It means that any "goodwill" in the acquisition price (that is, the difference between the book value of the acquired company and the price paid for it) shows up on the expense side of the acquirer's balance sheet. Ever heard those "Earnings were $x or $x+nnot including a one time charge associated with the acquisition of company Y" things? That's goodwill showing up on the wrong side of the balance sheet. Companies typically don't care about individual engineers enough to grant them acceleration, and even if they do, it might have to be waived if the company negotiates an acquisition.
IANAL, nor an accountant, but IAA entrepreneur.
It's obviously written by someone who has "been there".
1) How long did you have to keep them ?
:) You really need to evaluate if you think the management are financially aware enough to bring the company up in the financial markets.
I don't know the situation, but all the share options I have come into contact with are companies that are just after first round funding. Hence, I would keep them until either the IPO or the company is bought by a bigger fish.
2) What was the increase (or decrease) in value ?
To ZERO, or 1000 percent increase seems to be the range
3) Do you think it's a good idea ?
As long as you aren't actually taking a pay cut of any major proportion. Depending on the company it may be easier to simply take the difference in salary to Vegas.
4) What are the "gotchas" ?
It's partially a game of luck. Of course, in this game, if you are driven enough, and good enough, you can actually make it more likely that the value will increase.
Make sure you get some sort of shareholders agreement. It is probably possible for the company in question to devalue your options significantly by simple act of board meeting. It's unlikely as they would loose all staff overnight, but it is something to think about.
Personally, I wouldn't take a pay cut, but I would consider this a major incentive to joining a company. Shares are currently the easiest way to large sums of money (if you are lucky)
I'd like to emphasize a point that's not getting much attention:
Don't focus on the number of shares: it's the percentage of the company you own that will determine what you make on options.
I have two friends - both received 1000 shares in a pre-IPO startup. When IPO-time arrived, both companies felt the need to adjust their stock value - they like the initial offering to be in the $10-$20 range.
Friend A's company made a 2-1 split, and he came out with 2000 shares.
Friend B's company made a 1-10 split, and he came out with 100 shares.
MORAL - before IPO, the number of shares is almost meaningless. The percentage is key.
-k
But, assuming that you are asking about the opportunities that most people are presented with, here's a thought exercise:
- If you get options for 1% of a company an amount generally offered only to the 1st couple of engineers after the founders
- and it goes public valued at $100 million and very few companies achieve that valuation
- by that time your shares will likely have been diluted let's use 50% as the company must sell more shares to raise money for growth
- and it will have taken 4 years
- so you now have a $125K a year bonus break out the champagne, but not too expensive
Now, that's nothing to sneeze at, it's a nice bonus. But, you probably weren't paying attention to the probabilities: this was the unlikely, lucky scenario.It's worse than that: Chances are, however, that if the company is succeeding it will show up on the radar of a big company and will get bought out in the $10-$20 million range after a couple of years and you will get maybe $200K but you'll have to wait around through your vesting period of 4 or 5 years to receive it. In these scenarios, the founders will be doing 10x better than you at $2-$10 million and post-acquisition or -IPO their salaries will be fat which is why they will cut the deals without asking what you think. They will be thinking, "we are offered $20 million to give up. Otherwise, that $20 million and more will be used in a marketing campaign to defeat us. We do not have $20 million in cash to fight back... hmmm."
Remember, these are the rosy scenarios! I'm not even talking about the 90% ugly ones.
But the reality is much better than this! Take the damn deal! It will be fun, and the real rewards come from doing a good job and getting promoted. If the company goes to $100 million and you are among the first 10 employees? By that time you will be managing a huge group of people who are really getting nothing :) pumping up your resume with real experience and visibility, and getting the opportunity to jump ship in a few years and be a founder which is where the action is. All this presuming you are talented in a variety of areas. If you are not, take the deal anyway, because you are not talented and who is going to give you a better deal?
So, just to sum up (didn't I just sum up? :), if you are in a startup situation, get as much info as you can. Run the numbers up above by the people making you the offer. Don't be afraid to ask any questions you want. The tougher your questions, the more they'll think "this one's got 'nads! We want'em on our side!" Ask about the ownership of the founders and the investors. Ask what happens in case of an acquisition. Ask for the "right to be taken along", meaning, they sell their shares, you can sell yours. Ask for [can't remember the term: immediate vesting on IPO or acquisition] so they'll have to offer you a good job to stay. When you ask what percentage you are being offered, ask if it's fully diluted (taking into account special options that the investors have to execute their liquidation preferences). Ask for more shares! (they're worthless, remember? :) From the point of view of the founders, your options are actually very expensive: each sliver of .25% equals an employee, there's only room for a few 10's or so, and they are going to need many more employees. In the course of asking the tough questions, you will discover whether the founders think of you as a junior partner, or a mushroom. (The mushroom theory of management: keep 'em in the dark and feed 'em shit.)
Also pay attention to the quality of the shares. Look at investor confidence: a company that has tried to raise money and failed and wants to pay you shares instead of salary? Nope. A company that has the confidence to pay you a real salary is also offering you shares that are real.
But really pay attention to the rest of the offer. It's the job, the people, the day to day that is going to launch your career to the next level. If you approach the options as gravy on top of a good job, you can have a lot of fun with them, as if they gave you a giant book of lottery tickets on top of a real job with a real salary.
Since the markets for tech stocks are high and expected to remain so for some time to come, stock options seem to be a better way of making money than regular salary. provided that the company is promising. the downward risks are minimal, really.
Many of my friends have reaped a moolah thr' stocks:
there is this friend of mine who got 200 shares @ Rs 10 each in an indian firm some 4 years back. then they split to 800, and when the company got listed on NASDAQ a few months back, the price was Rs 14000 each.... at 28, he is planning to retire...
I've gotten options from 3 previous employers, and you know what? I'm still working for a living. :-)
In one case, the company went public but the share price dropped below the IPO price, which is not really that uncommon (at the time, they told us that happens with 8 out 10 IPOs). It's trading well above now, years later and years after I left. I would have only seen anything from that if I had forked over my own money when I left. On one spike I made enough to pay for a vacation.
In the second case, it was public when I started, but possibly entering a boom, but it didn't work out. The stock price dropped so the options were worthless, and again I left.
In the third case, the company is at least a couple years behind on their plan to IPO, and I got sick of working there before any of my options vested. So again, nada.
A bunch of people have made some excellent points, but the keys for me have been:
My advice is unless you want the startup for other reasons, consider the options as icing; a bonus you may never see. Make sure you can live with your salary.
I cannot stress this enough. Do NOT NOT NOT work for any company that does not offer stock options (or some other form of profit sharing) to its technical employees. If they do not, there is something wrong. The tech industry is booming. Working without the possibilty of sharing the success of the business is pure lunacy."
Um, ever hear of a privately owned company? Not every company in existence is publicly traded, or heading in that direction.
You mentioned that the company is offering a trade of salary for options. Take the options!!
Take the options in lieu of salary? NO!!! If a company wants to offer me options, that's nice. It had better not be at a reduction in salary, though. Stock options are an added incentive. Stock options are a temptation. Stock options are NOT a replacement for getting paid.
If they offer a decent salary and throw in options as a sweetener, then take it if you like the job. If they offer stock options and a reduced salary, tell the cheap bastards to push off.
"People who do stupid things with hazardous materials often die." -- Jim Davidson on alt.folklore.urban
I checked on how many options I had vested and found that I had about 600 valued at $28 and about 400 valued at $22 (the differences in value being due to when they were issued & the merger). The only problem was that Network Associates revalued the stock at $16 per share. All of a sudden, my options were worth less than the trading price. Not too long after the stock crashed, I was "rightsized". I had 90 days to exercise my options from the date I left the company. Unfortunately the stock price never went over my strike price during those 90 days.
The moral of this is that even if your options are gravy, don't rely on them. If I had taken out a loan for any kind of large purchace figuring that I could pay it back based on my options I would be in big trouble now.
I have been here a year now. My initial grant was for 15000 shares at a little over $1.50 a share (adjusted for a pre IPO reverse split).
s ource=htx%2Fhttp2_mw&symb=askj&sid=15052 1&menus=&mnuTimeFrame=open&mnuCompareTo=closed&mnu Indicators=closed&mnuChartStyle=closed&t ime=8&freq=1&compidx=aaaaa%3A0&comp=&ma=0&maval=9& uf=0&lf=1&lf2=0&lf3=0&type=64&size=1&dra w.x=98&draw.y=17 ) looks like a rollercoaster.
How do I have to keep them?
The important issue here is longterm capital gains. Taxes. They suck. When you first get hired, you will be given a piece of paper from the board that says how many shares you have and how much the strike price is (strike price: the amount you may purchase shares for). This paper is called you option grant. There is an important date on here (surprisingly enough, called the grant date) which is the date that you officially begin vesting. But this date also have important tax implications. You only get long term capital gains tax rates (20%) if you hold your stock (not the option) for two years after the grant date and one year after the excercise date (the day that you purchased stock from your options). These periods overlap. If you sell your stock either less than two years from your grant date or less than one year from your excercise date, then you have what is called a disqualifying disposition. Basically, the money you get from your stock sale will be treated like normal income.
What is the increase in value?
This is my fourth startup company. Although one of my previous companies went public (on the EASDAQ, though so obviously that doesn't count) and another one was bought out, I never saw a dime from them. However with Ask Jeeves (Nasdaq: ASKJ), I finally hit it. ASKJ closed on friday at 103, and if the stock held that value for me to fully vest, I would have made 15000*(103-1.50) or $1.5225M. However, since my vesting schedule spead over 4 years, presently, I only actually have $380,625 of that.
Our stock has been very volatile lately (mostly with the lockup coming -- I'll explain that later). We have been all the way up to $190. On our first day of tradingwe shot up to $70, then over a few months sank to $30. Then to $190, now back to $100. Our chart ( http://www2.marketwatch.com/intchart/default.asp?
Lockup Expiration is another thing. When a company goes public. All the pre-IPO shares cannot be traded (this mean employess, board members, investment banks, etc...). You have to wait, usually, 6 months to do anything with them. Our six month expiration was up in December. However employees still counldn't sell. There are also blackout periods where employees cannot sell. Blackout periods start before earnings are announced and continue until the SEC mandates 3 days after the earnins report is released (this is true of all nonpublic information -- you cannot trade on nonpublic information, and if you do know nonpublic information you must wait until 3 days after that information is made public).
The moral of the story is that you have to hold on to you stock until the SEC says that you can trade it.
Do I think that it is a good idea?
I like small companies. There are many on the IPO track. It is more coincidental than intentional that I work at places that give stock options. Many companies give a form of stock options (all of what I am saying here has to do with qualified stock options, most larger companies give nonqualified stock options, which are slightly different). I might, personally, find it better to get a larger salary with a job that I really liked than to get a heap of options and a job that I just don't despise.
What are the gotchas?
1. AMT. Remember those three latters. If your comapny is successful, you will hate those letters. In the US there are 2 Federal tax systems. The standard income tax that you are used to and then the Alternative Minimum Tax (AMT). AMT is much simplier to calculate. It is basically (close to but not exactly) your income tax, but no deductions. Then you take one huge deductions at the end of adding everything else up. That personal deduction is usually so big that you never have to pay AMT. You will have to calculate your AMT when you excercise your options (turn them into real stock). Your tax basis of your options in your strike price (tax basis: what is the base amount you use to calculate your tax costs). When you excercise the options, your tax basis will be raises to the current value of the stock (if I excercised today, my tax basis for my options would go from $1.50 to $103 and if I did this to 5000 shares, I would be liable to pay AMT on $507k). You have to pay AMT on this spread (spread: the difference of your strike price and the fair market value of the stock). The only good things that comse out of AMT is that when you sell your shares, you will calculate the taxes next time against your excercise price instead of your strike price. And the other good thing is that AMT is just a matter of time: ever year after paying AMT, is you do not pay AMT, you can get a deduction in the amount of the difference your AMT and your normal income tax. Basically, in the years you are not liable for AMT your taxes will be greatly reduced. So you really only loose the opportunity cost of the AMT amount (which can still be huge).
2. Don't watch the wiggles. Watching the stock price hurts. I have no doubt that ASKJ will rise in the future but seeing it tank like this is painful.
3. The value of the stock is in how valuable the company is. Make smart decisions on who you work for. No matter how much you may not like the idea of uppper management, make sure your upper management is good. No, not good, amazing. Make sure they understand how to keep a company happy and productive. They are many people out there that understand the technical apsects to company finance, but if the workers are not happy, the company will go nowhere.
The short of it is that options can be viewed along a spectrum ranging from a benign form of aligning employee interests with the owners (making money) through long-term organic growth, to a bribe to accelerate work effort (those 80 hour weeks) in order to ambush an unsuspecting target. Is it worth the pain/risk? In one sense, it comes back to the individual in evaluating what type of career and lifestyle they want, whether they are willing to sacrifice the present for the future. The monetary gains can be quite high from creating products/services that others think they want but ultimately it comes down to individual values (for example, a study indicated that people valued a happy marriage and family as being worth $150K/year). In pricing options, you have to be realistic in understanding your job and the business the company is in as to the long-term prospects. Remember that public shares are capitalised expectations and growth of future profits so unless you're in a sustainable business, things could get sticky when the growth slows (despite the wild expectations of some businesses, biologists call unlimited growth cancers).
Successful (note not necessarily equivalent to good or moral) businesses have a decent model (e.g. Microsoft = controlling a platform to flog their building blocks) and anyone relying on accounting tricks (like the pooling of interests to hide deprecation of goodwill) or using overinflated script as currency to eliminate competitors is in the brand-name stripping business and not IT (ie guess who gets made redundent when a merger is announced, the programmer or the manager?). If the company provides you with its financial record, then you can probably made a guess as to the future and likely profitability to see whether your efforts (and thus options) are fairly rewarded and whether you can trust the managers to achieve their role (creating a need for the product/service). One good trick is to ask yourself, if you are a bank manager, would you lend money for this business? Some basic financial literacy goes a long way to avoid being ripped off.
Best of luck in your wealth creation efforts.
LL
A related topic of related interest is stock options at a major corporation. The major advantage is that the company is stable, and you're *almost* guaranteed that your options will be worth *something*. The downside is that you're not going to get a zillion shares (or a significant percentage), and you probably won't be seeing outrageous growth in the near term. Another disadvantage is that you may get very screwed during an acquision.
In our case, we were given a 1200 shares with a strike price of $26. A third of these vested each year. First year, their after-tax value was around $7,000 at the time of vesting. Second year, the next set of options had an after-tax value of $12,000. The market was not kind to the stock this year, and has effectively stalled at around $13k but fluctuates WILDLY. (No longer an INVESTMENT stock... the stock is now a TRADING stock.)
Be aware that taxes eat a significant chunk of the value, unless you hold for over a year. Cashing in during the first year will cost you around 43% of the amount in taxes.
I *did* make the mistake, discussed earlier, about confusing options as compensation instead of incentive. So did just about everyone else I know. I'm being paid $20k below an easily obtainable market value. But there is an advantage of having options instead of a salary... bulk payment. Having an extra $1k/month is great. But being hit by $12k at once is a WHOLE LOT BETTER. You can do something useful with all the money at once.
What are some useful things to do with your stock options?
If you have credit card debt, and you don't think your stock is going to gain at a rate equal to what you're paying on your credit card, PAY OFF THE CREDIT CARDS. You're paying out more than you're gaining, otherwise.
If you've got a stock that you think is going to go up like a rocket (or you are forced to excersize your options earlier than you want to), investigate a MARGIN LOAN. I have options with Solomon Smith Barney. I called the line I use to excersize my options. I hit the option for a real person. I asked to speak to a financial advisor. Basically, you are using the value of your options as a guarantee to buy more stocks with. (There are risks. Talk to an advisor and completely understand the transaction.) The other net plus is you get a real trading account.
Of course, there's always the obvious options of starting your own company, or just spending left and right on cool stuff. Can I recommend arcade games? Ones by Atari, perhaps?
The downside to all of this is that there is no guarantee. You are gambling that the value will go up. (Actually, at one point, people who would have excercised their options would have had to PAY money!) The other is that you'll still be working for the company. Also, you're gambling that there isn't a significant change at the company.
What kind of significant change? Well, EDS is taking over our IT shop at the end of the month. We have to excersize our options before February, or we lose them. And, we're getting SCREWED out of our future unvested options (easily worth post-tax $40k, and certainly more in the future). They've put in writing the effective language of "you WILL join EDS and lose your options or you are fired and lose your options and don't get any severance benefits". My (pre-EDS) employeer is going to get what they're asking for... a nice class action suit slapped on them.
EDS actually wants to keep a good chunk of us and they realize we're getting screwed. (IE: "If I don't get my stock options, you don't get me!") They claim to be working a (nebulous) "performance share" deal. The question now is if it'll be worth $500/year, or $50,000/year.
Sometimes, I wish I didn't have to worry about options. They really add a lot of stress and unhappiness to what should be something pretty simple. But then, if it weren't for options, we wouldn't be paid well.
Back to the original topic, take the job with options or a higher paying one without? It is just like investing. Determine your tolerance for risk, and go from there. If you take the options, then take the time to understand the stock and the way it behaves. What sort of things it reacts to, and what other stocks it reacts with. See if it is a trading stock (goes up and down in a range) or an investing stock (nice upward and somewhat consistant line). Options in a trading stock are almost worth nothing.
Good luck!
I strongly advise anyone even considering getting even remotely involved with options, to visit the Chicago Board Options Exchange's basic education page. The Philadelphia Stock Exchange also has the Characteristics and Risks of Standardized Options available on its site. Most people simply don't understand what they are getting into with options. Although options on equity securities can potentially lead to tremendous payouts, particularly at the height of the largest bull market in history, they can much more easily turn out to be completely worthless. If you don't take the time to understand the inherent risks of options trading, you deserve to get burned at some point in the future.
"The illegal we can do right now; the unconstitutional will take a little longer." --Henry Kissinger
Yes. Yes, yes, YES!!! To my way of thinking, having a job that I enjoy going to every day is (ok, almost) as good as being independently wealthy and doing what I want. Sure, it's cliché, but there's a profound truth in that old saw that money can't buy you happiness.
If you want to be a developer, go write code. If you want to make a fortune, persue your career with that goal in mind. Either way, I would be very careful of getting caught up in the IPO lotto. As others have observed, there's lots of risks:
- A company that hasn't gone public might never; their options might never be worth anything...
- Even if the company does go public, the stock market is a notoriously unpredictable beast; there's no telling what your shares might end up worth
- Even if the company goes public and your options are worth a lot of money, you will have to work through a long vesting period before you really own them. And 5 years can be a long time to hate your job.
There's got to be lots of companies out there saying "thars gold in them thar internet IPOs", and most of them have got to be more cluefull than LinuxOne. Do you really want to spend a long period of time working for a company with the primary goals of 1) Going through a successful IPO, 2) Making sure the stock price stays as high as possible, and 3) Very little else?150 Opening BINARY mode data connection for slashdot.sig (129323052 bytes).
I don't recommend this. I did it in my first startup and ended up a bit out in the cold - especially when the company failed. I do have about 40K shares worth of wallpaper though.
In the second job in which shares were offered, I negotiated a good salary with a decent amount of shares on top of that. I think of options as being worth $0 - they are not compensation for anything, they are incentive for me to stay through the vesting period.
I'm now in my third startup with options and I took the same approach this time - options are just icing on the cake if we build a successful business.
I know most people in this industry are more interested in the work than the money, but you have to be smart about the money too.
1.How long did you have to keep them ?
In all of my situations it's been a four year vesting period. The vesting increments over the course of those four years. It's not uncommon that they would vest 1/48th per month over that period. Sometimes you'll find a "one year cliff" in which nothing vests for the first year but at one year you magically vest 1/4 of your options and then 1/48th of the total options per month after that. I heard of one place that vested 1/4 per year rather than incrementally per month.
Also, be aware that if your company completes an IPO you will probably be subject to a lockout period of from 6 months to a year. The guys at VA Linux weren't able to get in on those high prices initially - they are still holding theirs.
It depends on your agreement, but there is often a clause stating that the options vest immediately in the case of the company being acquired.
2.What was the increase (or decrease) in value ?
First Time: $0
Second Time: ~$4 per share
Third Time: Still waiting on that one
3.Do you think it's a good idea ?
Of course, but I've been through about 4 companies in the last six years, so I don't know if I'd listen to me if I were you.
4.What are the "gotchas" ?
Taxes. Spend a lot of time at the Motley Fool messages boards dealing with employer granted stock options and take a look at this www.fairmark.com site. There is a lot of information here.
There are different types of options, so be aware that different laws apply differently to them.
Stress. As a shareholder, you get to be stressed when the company is on the ropes. Of course, there's the flipside. However, have you looked at the success rate figures for startups?
Good luck.
Troy Denkinger
TD
My first rule of employment: Do what you WANT to do. Meaning, don't take a job just for the "possibility" of a big payout due to stock options and a large IPO. Unless the company has already gone public, the options are worth nothing, and could be worth nothing in the future. This is why you have to view these things as a "bonus" only. If the happen to be worth something later, great, if not, no big deal. It shouldn't sway you into going somewhere, unless your decision is based on two companies that are exactly the same in every way, save stock options. Sometimes, options don't make sense either. An example:
You get an offer to work for a startup doing some "new" think with Linux. They're only going to offer you $40k, but they'll give you 10k in stock options, and tell you to look at the Red Hat IPO for an estimate of what those 10k options will be worth in 3 years (when you're fully vested and can sell them). Wow, you think, I could be worth over a million bucks in 3 years...of course your employer knows this and expects you to work 60-80 hrs/week to acheive this.
You get a second offer for $50k, but no stock options. Nice place, and you'd love to work there because you know it's laid back and isn't as cutthrought, only 40 hrs/week, but those stock options are on your mind.
So you take the first offer, lookin for the big payout. Your company goes public after 2 1/2 years (before you're vested), and doesn't do too hot, after 6 months (when you can sell) the stock is only at $4. Hmm...who got the better deal?
Deal 1: ($40k/yr * 3yrs) + (10k options * $4/share) = $160,000
Deal 2: $50k/yr * 3yrs = $150,000
Whoa, even at only $4 per share, you made the right choice! But wait, not really. Think of all the time you put in that you could have been doing other things with that other "lesser" offer in deal 2. You'd save yourself 20 hrs a week on average to spend w/ your family and friends. Also, you have to remember the time/value of money. $10k now is worth more than an extra $10k in 3 years if invested correctly.
Moral of the story? Do what's best for you, and don't base your decision on pipe dreams that could ruin your life.
So what you need to do is answer some questions the best you can:
- Is the product going to be useful to someone? A product that is interesting to you as an engineer might be of no interest to a potential customer (or web surfer).
- How is the company going to make money? Read the business plan. Does it make sense to you?
- When do the first suits show up? You do, unfortunately, need some of them for your company to succeed. There are exceptions, but this is rare. Personally, I have found it difficult to interview sales and marketing guys and figure out if they're any good. In hindsight, however, the bad ones broadcast warning signs. (E.g. a sales VP who came out early in the life of the company and said he had no idea who he would be selling to. But he said it in that confident and smooth sales VP way and yes, he snowed me.)
You should definitely talk to as many people as you can within the company to decide whether you think they're going to succeed. DO NOT interview with just the techies. Insist on meeting the suits and reading the business plan.Other things to watch out for:
Get the share price on paper. Get the company to justify that price.
Ask around what a standard grant is at the company in question. I was told when I joined the company I currently work for that when I joined (6 months before IPO) that my shares would most likely be around $8. After joining the company, those same shares (1000) were granted to me at a whopping $18.90 -- a much different than my expectations. Later, the company went public at $11/share. Effectively making my options worth nothing until the stock price climbed to above my grant price.
Know the math.
I know this sounds stupid, but work the price out on paper. A standard approach by employers is the Here is a $30,000 in stock options that could make you a millionaire. That same $30,000 might actually be signifigantly less under normal circumstances. A grant of $5/share * 1000 shares = $5000 that you have to put up front to get the stocks you are vested in. The company may believe that they can warrant a $30/share price (which is reasonable), hence the $30,000 estimate. The real world is a little more complicated: The real price in the above example is $30,000 - $5,000 = $25,000. Granted, in this example, that is a nice investment. If you only plan on staying with that company for two years (assuming 4 year vesting period) and will only get vested in 50% of those stocks.
Have realistic expectations. Red Hat and VA Linux are exceptions to the rule.
Although we have all been amazed (or maybe not very surprised) by the spectacular success recently of Red Hat and VA, these companies are most definately exceptions to the rule. While the tech industry was surprised when the IPO's of these companies were as successful as they were, the investment community was dumbfounded. Most companies IPO somewhere between $10-$20 a share and generally open around that price or slightly above before settling near the IPO price. That is because CFO's and investment bankers aren't dumb and will have a good feeling for what the company can support for a stock price.
There is no garentee with stock options.
As stated previously, it is a great gamble and can pay off immensely but it is not money in the bank. Keep your whits when examing a company based on possible stock options. One company offerred me 10,000 shares @ ~.30 share while another offerred me 1000 @ ~$18 and I took the $18 for several reasons. First, while the first company's offer was certainly better given just those figures, you have to look at the time frame involved. Company A wanted to go public eventually but it would not likely happen for at least 5 years. Company B was on the verge of an IPO (it happened 6 months later) and was much more of a sure thing. Five years versus 6 months was a great selling point. Also, be aware that most companies will never go public! Either they will go under or will never have the earnings or size to support itself in public trading.
Know your taxes and the tax laws of your state and federal goverment.
Be acutely aware of short term versus long term capitol gains. Consult a CPA if you are really unsure of the financial implications of stocks. Believe me, there are many. Short term capitol gains will impact the bottom dollar quite a bit. In the above example I gave, the above $25,000 ($30,000 in market price minus $5,000 to buy the options) you would actually receive around $15,000 (this will vary depending on your state) if you sold in the first year. That same $25,000 will be worth $20,000 if you wait more than one year after buying your vested options before selling them. Believe me, it gets worse. People make careers out of fiddling with these numbers.
I hope some of this helps. Be aware, I am a developer not a CPA or business person or upper management so take everything above and research your own answers and apply it to your situation.
I'd say that the first thing to be wary of are vesting rules. It is a sensible and ubiquitous precaution for a company to keep you there; you are the value of the company, more than its so-called assets.
But it is therefore easy to get stuck at a bad company. You don't know how much the company will be worth when/if it is successful. You need to know what proportion of total shares is represented by your share (I know one company which basically offered n shares, but said, "You'll just have to hope we don't issue too many shares and dilute you out of the game. Trust us."
You'll want to get a good idea of the management team, talk to other coders there, etc. You should do this anyway, but if salaray was all you got, you could just jump to somewhere better. Vesting rules means that much of your pay depends on you staying 2-4 years-- that could be half your working life due to age discrimination. That means saving 10% of your income for your retirement, too.
It is, philosophically, great that you don't care too much about money. But for Pete's sake don't tell them that. Otherwise they will lure you with 'intangibles' which will vanish by week two. I know people who are hideously underpaid for their skills, but get seduced by sweet talk from managers who are taking 10x the salary. Take 80k instead of 50k and donate it to charity-- you'll be doing a good deed and management will regard you as an $80k asset. This isn't about being a 'nice guy', it is about not being a naive businessman. To them, your worth is what they are paying for you.
Remember age discrimination. There'll be some great young 22 year old who can work 16 hour days and is up on everything new, and doesn't have a family to support in ten years. So count on a short working life before you have to settle somewhere where your bargaining position isn't so good.
Look at who is investing. Joe McClueless might be big in the machine tools field, but to him your venture is just a way to put a little risk in his portfolio. If Larry Ellison is dropping $10M, though, you know that your company has been judged as a good investment by experts. Don't look at who they're 'talking to'. Anyone can talk to anyone else. The measure of a company is ink on paper, and numbers not happy words.
Finally, and this actually should have come first, make sure this is something you believe in as a field. Don't do databases because they are hot. If your passion is UNIX, do that. If it is COBOL, do that (!). If it is graphics and usability, do that. You'll be happier and much more successful doing work you love and believe in. Just remember: you are also a businessman. Act naive, and management will fleece you. If you don't believe in money, take it anyway, then give it to charity.
Infoworld has an article in the most recent issue related to this topic. You can find it online at: Should you leave your job for one at a startup?