The Gold Standard of Startup Equity - A Guide for Employees

Startup Equity Standards - A Guide for Employees from StockOptionCnsl

Learn the three standards that define Startup Equity and three questions to ask to know if you have the real thing. 

1. Ownership - “Can the company take back my vested shares?”

2. Risk/Reward - “What information can you provide to help me evaluate the offer?”

3. Tax Benefits - “Is this equity designed for capital gains tax rates and tax deferral?”

Attorney Mary Russell counsels individual employees and founders to negotiate, maximize and monetize their stock options and other startup stock. You are invited to contact Stock Option Counsel for help in negotiating and evaluating your job offers and post-acquisition employment agreements, making stock option exercise and tax decisions and identifying your rights and opportunities to sell startup stock. 

RSUs - Startup Restricted Stock Units - What You Need to Know

Attorney Mary Russell, Stock Option Counsel, counsels individual employees and founders to negotiate, maximize and monetize their stock options and other startup stock. You are invited to contact Stock Option Counsel for help in negotiating and evaluating your job offers and post-acquisition employment agreements, making stock option exercise and tax decisions and identifying your rights and opportunities to sell startup stock. 

Restricted Stock Units ("RSUs") are not stock. They are not restricted stock. They are not stock options. RSUs are a company's promise to give you shares of the company's stock or the cash value of the company's stock. Every company designs RSUs differently, so be sure to find out the following to understand what you're getting and when you will pay taxes. There are a lot of variables with startups and RSUs, so don't take this blog post as fact or advice for your situation. Read your own fine print or contact Stock Option Counsel for guidance on the details for your negotiation or evaluation of startup stock.

1. How many RSUs are in my grant? Will I be granted more RSUs yearly or after upcoming financings?

One RSU = the right to receive one share of the company's common stock at a later time, or the right to receive the cash value of one share of the company's common stock at a later time. The number of RSUs you are granted tells you how many shares of stock (or the number of shares of stock used to determine your cash payment) you will receive when they are "settled" (see #5 below).

You should also find out when and if you will receive more RSU grants. If you are evaluating a job offer, there is a big difference in the value of your offer between a company that grants you RSUs only at hire and a company that plans to make additional grants each year ("Annual Grants") or after more shares are issued in financings to make up in part for dilution ("Refresh Grants"). 

2. Of course there is no precise "value" for startup RSUs, but it makes sense to gather some relevant details to evaluate the offer. For example: What is the most recent VC price per share of preferred stock? What is the current number of fully diluted shares in the company or my percentage ownership in the company? Can you give me some guidance on the company's expected dilution, exit scenarios, exit timing and future valuation?

When evaluating the number of RSUs in your grant, consider using one of the following methods to value the grant:

A. Current Valuation Method (Fact-Based): For startup stock, you don't have access to a public market for the stock. Therefore, there is no precise method for finding today's value of your RSUs. Instead, use the price per share paid by venture capitalists for one share of preferred stock in the most recent financing. This is the closest number you can find for today's value. It tells you that X Venture Capitalist paid $Y for one share of the company's stock on Z date.

You can find this in one of three ways: (1) Ask your attorney (Stock Option Counsel = legal services available to individual employees to guide them on their negotiation and sale of startup stock) to order the certificate of incorporation from the State of Delaware and interpret it to tell you the most recent price per share paid for the company's preferred stock. (2) Ask the company the price per share paid by VCs in the most recent round of financing. (3) Ask the company for the most recent VC post-money valuation of the company and the number of shares of fully diluted capital at that round; VC post money valuation / fully diluted capital = price per share paid by VCs in the last financing. For more on this approach, see Venture Hacks' post on startup job offers.

B. Future Valuation Method (Guesstimate Based): To look forward and define a future payout for your RSUs, you have to do some guesswork. If you could guess the startup's value at exit and dilution prior to exit, you would know how much the stock will be worth when you receive it. You can make these guesses in one of three ways: (1) Ask the company to estimate different exit scenarios for you. (2) Make these guesses yourself (see John Greathouse's What the Heck Are My Startup Stock Options Worth for his guidance on how to estimate wisely). (3) Find online commentary on future value of your company, if it is close to IPO and discussed in the news. 

3. What is my vesting schedule? Will any portion of my RSUs be accelerated upon change of control?

You will most likely not earn the full number of RSUs simply by joining the company. They will "vest" over time, meaning that you will earn them over a set period of time (called the "Vesting Period"). If you leave the company before the end of the Vesting Period, you will not earn the full number of RSUs.

The most common vesting period = "Four Year Vesting With a One Year Cliff": (1) After one full year, 1/4 of the RSUs will vest. This is called a "One Year Cliff." (2) After one full year, 1/48 of the total grant of RSUs will vest each month. 

Some startups require more than simply time to fully vest your RSUs. After you have "earned" them by meeting the cliff and monthly vesting during the Vesting Period, you may also have to wait until the company has an exit before they officially "vest." 

"Acceleration Upon Change of Control" is an employee-favorable modification of standard vesting. A portion of your unvested RSUs would vest before the end of the Vesting Period if certain conditions are met. The most common acceleration language is "Double Trigger Acceleration," which provides that you vest a portion of your unvested shares if two conditions are met: (1) the company is acquired and (2) you lose your position within one year of the acquisition. If you have acceleration language, contact an attorney to help you negotiate the most favorable language. The devil is in the details. (Stock Option Counsel = legal services available to individual employees to guide them on their negotiation and sale of startup stock.)

4. Will I forfeit or otherwise lose my vested RSUs if I leave the company?

For stock and stock issued upon exercise of stock options, some companies keep the right to repurchase your stock when you leave the company even if it is already vested ("Repurchase Rights"). Some companies have similar restrictions on RSUs, so watch out. This greatly reduces the value of your grant because it is not really "yours" even after the vesting period if, for example, you are no longer at the company when it is acquired or goes public. For RSUs it may be called "Double Trigger Vesting," which should not be confused with the employee-friendly Double Trigger Acceleration (see #3 above).

5. When will the RSUs be settled? Will the RSUs be settled in cash or stock?

A company "settles" its RSUs when it gives you either cash or stock. Unlike stock options, you may not receive anything for the RSUs at the time they vest. In other words, the company may delay "settling" the RSUs. The company's Stock Plan will tell you whether you will receive the RSUs at vesting, at an IPO  or sale of the company, or some other deferred time. The deferral is usually in your best interests, as it prevents you from paying tax before a liquidity event. However, it can prevent you from selling your startup stock before your company goes public or is acquired.

The company's Stock Plan will also tell you whether the company plans to "settle" the RSUs with (aka "give you") company stock or the cash value of the company's stock.

Knowing when and how the company settles your RSUs will help you with your tax planning.

6. When the company settles the RSUs and income tax is due, how will that be handled? Will I pay payroll ("FICA Taxes") taxes when the shares vest or when they are settled?

Fortunately, you will not pay taxes on RSUs at the time they are granted to you. Taxes are deferred until actual or constructive receipt of the stock or cash settlement.

Unfortunately, RSUs do not have the capital gains tax advantages of restricted stock or stock options. They are simply compensation income to you when you receive them (either at vesting or settlement). That means you owe ordinary income taxes and FICA taxes for their value as if you had received cash. Ugh.

In most cases, you will not pay income tax or FICA Taxes on RSUs until they are "settled." The company can make arrangements so that you do not have to pay these in cash out of pocket, but you will be responsible for the tax in some way. For example, the company may sell a portion of your stock for you to cover the income taxes. It's best to know the company's plan on this so that you are not caught by surprise in your tax planning. 

7. Questions? Contact Stock Option Counsel

Stock Option Counsel legal services are available to guide individual employees and founders on their startup stock. We specialize in helping employees who are evaluating and negotiating job offers with startup stock. Contact us with any questions at (650) 326-3412 or at http://stockoptioncounsel.com/contact/. 

Bull’s Eye: Negotiating the Right Job Offer

Mary Russell counsels individual employees and founders to negotiate, maximize and monetize their stock options and other startup stock. She is an attorney and the founder of Stock Option Counsel.

Boris Epstein is the founder of BINC Search, a next-generation recruiting startup that helps Silicon Valley companies hire technical talent at the scale they need.

You’re negotiating your salary and equity. You know there is a right answer – a bull’s eye where the final offer should land. But where is it?

The company is deciding what to offer you. They know there is a right answer, and they’ll get there using these four factors:

1.     Past Comp – your salary and equity in current and past jobs

2.     Peer Comp – the salary and equity of others in your peer group within this company

3.     Desired Comp – what you want to get paid, regardless of other indicators

4.     Market Comp – your competitive offers in the market

The right offer for you is the bull’s eye at the center of these possible offers. You can maximize your final offer by thoughtfully using these factors in your negotiation.

Past Comp

The company may ask you to disclose your compensation in your previous positions – your Past Comp.

If you disclose these numbers, be sure to include detail or “color” on the numbers to show the true value of your Past Comp. Do you believe your salary was lower than it should have been because of difficult financial circumstance at the company? Are you overdue for a review and raise? Does your company have valuable equity or a bonus structure that should be included to accurately describe your Past Comp? Are you expecting to continue vesting or receive additional stock option grants that you would forfeit by leaving your company?

A thoughtful discussion of your Past Comp may be more effective than following the lore that you should never disclose this information. You can use your answer to the question to guide the company to the right offer.

Peer Comp

The company also considers your Peer Comp – the range this company is already paying employees in similar positions. You start shaping this number during your interview as you discuss roles, levels and opportunities and present information to help the company understand where you fit to add the most value to the team.

For a company with a thoughtful system of leveling, there will be names or labels for each position and a range of salaries and equity packages they offer within each level. Your negotiation work is to distinguish yourself and show that you are a peer of those being paid at the highest end of the range for your level based on your unique skill set or experience.

The more unique your position, the less experience a startup will have in defining your Peer Comp. If you are a first-hire designer, physician or other leadership or expert role, you may have to help the company understand who your peers will be.  This is especially important in early-stage startups, where the hiring team might not understand that your new role should be considered a peer of, for example, vice presidents rather than junior engineers.

Desired Comp

The company also considers your Desired Comp – what you want to get paid. This is highly relevant to the right offer.

Desired Comp is especially important in equity packages, where your evaluation of the company’s equity may vary greatly from another candidate’s evaluation of that package. If you’ve been hoping for a home run exit during your career, you’ll be looking for an equity package that could get you there. If you’re strapped for cash and looking to maximize salary, you will have less desire for an equity-heavy final offer.   

There may be some tradeoffs, of course, but the right offer will be centered on your Desired Comp. So do your self-reflection homework and know what you want.

Market Comp

Companies take into account Market Comp and need to know what they will have to offer to stay competitive. While companies have a general idea of what is “market” for each position, your personal Market Comp is unique and driven by your efforts to identify alternative offers. The only way to use the right Market Comp in your negotiation is to go out to the market, derive that information and communicate it to the company.  

Once you have competitive offers, evaluate the equity packages and make thoughtful comparisons between them. For example, based on your appetite for risk and financial considerations, would you prefer options to purchase 1% of a Series A startup with a company valuation of $5 million or 5,000 RSUs of a public company with a current market price per share of $10? How many more stock options would the Series A startup have to offer you to equate to the public company offer? The company cannot make this estimation for you any more than they can decide which company is the best fit for your personality. When you own this process, you can confidently and effectively communicate to your company what is “market” for your equity offer.

Market Comp is also relevant after hire, as the startup job market can shift dramatically over time and new opportunities are always surfacing. As you continually find new information about opportunities, you can continually communicate with your company about what is “market” in defining the right salary and equity for your position. 

Bull’s Eye: The Right Offer

With thoughtful attention to these four factors, you can use your negotiation to guide the company to the bull’s eye – the right offer for you. If you see the company using the wrong data, you can bring the conversation back to the truth as you see it and work toward the right outcome. 

For more help on these preparations, you are welcome to read the full text of our interview here: The Right Offer – Long Form Q&A Between Stock Option Counsel and BINC Search

Mary Russell counsels individual employees and founders to negotiate, maximize and monetize their stock options and other startup stock. She is an attorney and the founder of Stock Option Counsel. You are invited to contact Stock Option Counsel for help in negotiating and evaluating your job offers, making stock option exercise and tax decisions and identifying your rights to sell startup stock. 

Boris Epstein is the founder of BINC Search, a next-generation recruiting startup that helps Silicon Valley companies hire technical talent at the scale they need.

Negotiating Equity @ a Startup – Stock Option Counsel Tips

Negotiating an offer from a startup? Here's some tips. For more information on how Stock Option Counsel serves employees who are negotiating their offers, contact us or see our intro video here> . 

1. Know How Much Equity You Want

For employees early in their careers, the only negotiable terms for equity are the number of shares of stock and, possibly, the vesting schedule. The company will already have defined the form in which you will earn those shares, such as stock options, restricted stock units or restricted stock.

Your task in negotiating equity is to know how many shares would make the offer appealing to you or better than your other offers. If you don’t know what you want for equity, the company will be happy to tell you that you don’t want much.

Your desired number of shares should be the result of thoughtful consideration of the equity offer. There is no simple way to evaluate equity, but understanding the concepts and playing with the numbers should give you the power to decide how many shares you want.

One way to compare offers and evaluate equity is to find the current VC valuation of the preferred shares in the company. If a VC has recently paid $10 per share for the company’s stock, and you have been offered 10,000 shares, you can use $100,000 to compare to other offers. If another company has offered you 20,000 shares, and a VC has recently paid $5 for their shares, you could use those numbers to compare the offers.  For more info on finding VC valuations, see: Startup Valuation Basics or contact Stock Option Counsel. For more on early stage startups that do not have VC valuations, see this post. 

Remember that the purpose of this exercise is not to have a precise dollar value for the offer, but to answer these questions: How does this offer compare to other offers or my current position? What salary and number of shares at this company would make this a stable, sustainable relationship for me? In other words, will this keep me happy here for some time? If not, it is in nobody’s best interest to come to a deal on that package.

For more information on negotiating equity, see our video: Negotiate the Right Stock Option Offer or our blog with Boris Epstein of BINC Search: Negotiate the Right Job Offer.

2. Look for Tricky Legal Terms That Limit Your Shares' Value

There are some key legal terms that can diminish the value of your equity grant. Pay careful attention to these, as some are harsh enough that it makes sense to walk away from an equity offer.  

If you receive your specific equity grant documents before you are hired, such as the Equity Incentive Plan or Stock Option Plan, you can ask an attorney to read them.

If you don’t have the documents, you will have to wait until after you are hired to study the terms. But you can ask some general questions during the negotiation to flush out the tricky terms. For example, will the company have any repurchase rights or forfeiture rights for vested shares? Does the equity plan limit the kinds of exit events in which I can participate? What happens to my equity if I leave the company?

3.     Evaluate the Equity’s Potential

Evaluate the company to know how many shares would make the equity offer worth your time. You can start by asking the company some basic questions on their expectations for future growth and the exit timeline.

The higher your rank in the company and the stronger your emphasis on these matters, the more likely you are to speak to the CEO, CFO or someone else at the company who can answer these questions. If you want more resources to help you think like a startup investor, there are great online resources on valuation, dilution and exits for startups.

But don’t place too much weight on the company’s predictions of the equity’s potential value, especially if those values are based on an early-stage company’s Discounted Cash Flows (DCF). Even the experts know that the only thing early stage startups know about financial projections is that they are wrong.

Stock Option Counsel

Stock Option Counsel provides legal services for individual employees and founders in negotiating, evaluating and monetizing employee stock.

Employees rely on Stock Option Counsel in: (a) evaluation and negotiation of employee equity offers; (b) identifying unusual terms in equity documents; (c) legal matters for sales of shares to third parties; (d) negotiation of employment offers after acquisitions and (e) disputes regarding equity and payouts at exits.

Founders rely on Stock Option Counsel in: (a) protecting their personal interests at incorporation, financings and exits; (b) coaching for their VC negotiations by bringing them to mastery of financing and exit deal terms; (c) managing friction between co-founders; (d) negotiating employment offers after acquisitions and (e) disputes regarding equity and payouts at exits.

For more information on Stock Option Counsel, contact us or see our intro video here>