VIDEO Startup Stock Options: Negotiate the Right Startup Stock Option Offer
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Founders' Stock Red Flags - Keep Your Law Firm on Your Side
Lately, I’ve seen startup law firms yielding founder rights to future investors by proposing incorporation documents that are detrimental to founder interests. Photo © Aleksvf | Dreamstime.com
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
I help founders protect their personal equity interests, from incorporation through financing and exit events. Lately, I’ve seen startup law firms yielding founder rights to future investors by proposing incorporation documents that are detrimental to founder interests. These choices are being made by company counsel and signed by founders before a company has investors.
Here are some of the red flag terms I call out for my clients:
Requiring board approval for transfer of shares;
Adding Company repurchase rights for vested founder shares upon termination of employment;
Using stock option structure rather than restricted stock at founding;
Setting the purchase price of shares higher than necessary;
Adopting a stock plan for future employee grants that has off-market, anti-employee terms;
Failing to provide for any vesting acceleration related to a change of control, or limiting double trigger acceleration of change of control to apply only if the termination event is within 6 or 12 months of the change of control rather than at any time after it; or
Adding Company rights to terminate unvested shares or options at the time of a change of control.
I’ve seen some of these terms even from classic Big Law startup-focused firms in recent months. Limits on founder shares are often negotiated between founders and investors at the time of financing – not before. This is usually done through a stockholders agreement, such as a ROFR Agreement or Voting Agreement. It is premature for founders to restrict themselves – or for a company’s law firm to restrict founders – by adding pro-investor terms to the incorporation documents.
The founder’s task is to communicate to company counsel that they want standard, pro-founder terms in the incorporation documents and provide feedback if they see that company counsel has added pro-investor terms have been included before negotiation with investors.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
*Thank you to JD McCullough for edits to this post. JD is a health tech entrepreneur, interested in connecting and improving businesses, products, and people.*
Considerations for founder restricted stock purchase agreements.
Underwater Startup Stock Options Due to Lower 409A Valuations After Mutual Fund Markdowns
Photo: Bobby Mikul. Startup employees may find their stock options are underwater as startup valuations decline. - Mary Russell, Stock Option Counsel
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
QUORA Question: Do recent markdowns by mutual funds of private tech company valuations impact the strike price for options granted to new employees?
MARY RUSSELL Answer:
Yes, I am seeing this in my practice. Companies that issue stock options generally set the strike price at the fair market value on the date of grant, with such value determined with an outside valuation performed every year or six months. These are known as "409A valuations." Some companies which have seen markdowns in their stock, and some other companies in the startup world, are showing their 409A valuations decreasing in their most recent outside valuations.
This is relevant for new hires and existing employee optionholders. For new hires, it may make sense to agree to delay an option grant until a new valuation if the company expects the next 409A valuation to come in at a lower price than the current 409A valuation.
For existing employee option holders, a lower 409A valuation may cause outstanding options to be "underwater." An underwater option is an option with a strike price that is higher than the current value of the shares. In the case of underwater options, it may make sense to ask the company to reprice the options so employees can take advantage of the lower valuations.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Is the Battle for Talent Delaying Unicorn IPOs?
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Frederic Kerrest, Chief Operating Officer and Co-Founder of Okta lists recruitment as one of a few factors that influenced their choice to delay their IPO.
“There’s a few reasons specifically that we thought about when we went through the calculation [of taking another private financing rather than having an IPO]. Five or ten years ago, companies like us would have gone public at this point instead of doing this financing round, because it’s about the same amount of money you would raise in a typical IPO.
First of all, it’s interesting for potential employees who want to come join the company. The opportunity to join a pre-IPO company is something that’s interesting to them, even if it’s just 6 or 9 months before.”
“Do you think it’s harder to hire certain folks if you were public as opposed to being pre-public?”
“I think it’s a slightly different kind of person who wants to join a pre-public versus a ... public company. They have different profiles, they’re looking for different things. They’re looking for different things in terms of the company, in terms of the job, in terms of other things. ”
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Reddit to Share Stock with Users
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
“What’s new and interesting is that the round was led by an individual — Y Combinator president Sam Altman — and that he, along with the other investors, plans to allocate 10 percent of the equity they are buying to Reddit users.
How exactly that’s going to be managed hasn’t yet been figured out (or, more importantly, approved by bankers and lawyers), but Altman said Reddit may dole out shares using a distributed accounting system, a la the bitcoin block chain.”
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
In the News: Startup Employees in the Dark on Equity
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
“Mary Russell, an attorney who founded Stock Option Counsel to help employees evaluate their equity compensation, says the first step is for employees to make sure any equity is theirs to keep. Some companies have repurchase rights in their equity agreements that give them a right to buy back shares and options from any employee who leaves; and some give founders or investors broad latitude to change the terms.
“If the company can take back employee shares it dramatically limits the value of those shares,” says Ms. Russell. “It’s the sort of thing an employee needs to know about when they go into a job.” She says it’s as simple as asking whether the company can take back vested shares.”
See Katie Benner's full article, Startup Employees in the Dark on Equity. The Information is a subscription publication for professionals who need the inside scoop on technology news and trends.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Repurchase Rights are "Horrible" for Employees
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
“As an aside, some companies now write in a repurchase right on vested shares at the current common price when an employee leaves. It’s fine if the company wants to offer to repurchase the shares, but it’s horrible for the company to be able to demand this.”
What can you do about it? Ask before you join:
“Can the company take back my vested shares?”
For more from Sam Altman, see his post, Employee Equity. For more on repurchase rights on vested shares, see Clawbacks for Startup Stock - Can I Keep What I think I Own? For more on questions to ask to make sure you have true startup equity, see our post, Startup Equity Standards - A Guide for Employees.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Links - Best Web Content on Startup Employee Stock
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.Here's links to the best web content on startup employee stock:
1. Risk/Reward
Calculating percentage ownership and understanding fully diluted capital, #1-2 of The 14 Crucial Questions About Stock Options, Andy Rachleff, the Wealthfront Blog
How to use the company's VC valuation to evaluate your equity offer, Video, Stock Option Counsel Blog
How to ask about valuation, #11-13 of The 14 Crucial Questions About Stock Options, Andy Rachleff, the Wealthfront Blog
How preferred stock rights make common stock less valuable, Stock Option Counsel Blog
Knowing your market rate with regards to startup equity, #3-4 of The 14 Crucial Questions About Stock Options, Andy Rachleff, the Wealthfront Blog
How to know how much is enough equity for a pre-Series A startup, Stock Option Counsel Blog
Four factors of how startups decide your salary and equity Mary Russell & Boris Esptein on the Stock Option Counsel Blog
Four factors of how startup decide your equity offer VIDEO Mary Russell & Boris Esptein on the Stock Option Counsel Blog
2. Vesting
Acceleration upon change of control, Gil Silberman on Quora
When acceleration upon change of control does not make sense, Gil Silberman on Quora
What is vesting; what is acceleration upon change of control? #5 & #8 of 14 Crucial Questions about Stock Options, Andy Rachleff, Wealthfront Blog
Does my vesting make sense? Stock Option Counsel Blog
3. Ownership
Can the company take back my vested shares if I leave?, #6 of The 14 Crucial Questions About Stock Options, Andy Rachleff, the Wealthfront Blog
How Skype's repurchase rights gave certain employees $0 of $8.5 billion acquisition payouts, Felix Salmon at Wired
4. Tax Benefits
Three Ways to Avoid Tax Problems When You Exercise Options, Bob Guenley, Wealthfront Blog
Ensuring company compliance with tax rules - and your tax rights - when negotiating an offer, #9-10 of 14 Crucial Questions About Stock Options, Andy Rachleff on the Wealthfront Blog
Incentive stock options, Michael Gray, CPA
Non-qualified employee stock options Michael Gray, CPA
5. Overview
The 14 Crucial Questions About Stock Options, Andy Rachleff, the Wealthfront Blog
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
One-Off Startup Stock Secondary Sale & 409A Valuation
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Q:Would a sale of private company /startup common stock by a former employee trigger a change in 409A / fair market value?
Short answer:
Not in all cases. It comes down to logic. How significant is the market for this company's stock? Is it enough to really show there is a market? Or that there is a clear value? Probably not, unless it is a company-sponsored sale or a Facebook-type frenzy. But companies do use this as an excuse to prohibit secondary sales or drag their feet on allowing their employees to do them.
Lawyer answer:
Based on the tax code rules, the Board needs to change the fair market value price at which they grant options / employee stock any time a major change has occurred that either reduces risk or materially changes company forecasts. Is a secondary sale of private company stock a material change that would have to be seen by the Board as a sign that the risk of investment in common stock has changed?
There are arguments on both sides of this question.
One one side, the secondary sale of shares of common stock shows that common stock is "liquid," or convertible into cash. The lack of liquidity is a big factor in the riskiness of stock and in the logic of discounting common stock value compared to preferred stock value, so liquidity for common stock would raise the "market" price of common stock. Also, the investor who invested has clearly signaled that he/she thinks the stock is less risky than the prior 409A valuation if he/she pays more than that valuation.
However, there are good arguments on the other side as well. The basic argument is that a one-off sale of common stock does not a market make. When you look at the FMV of publicly traded stock, it is based on many sales and the presumption that anyone who holds common stock can trade at any time. Small sales of private company common stock do not mean that any shareholder could find a buyer or that any shareholder could sell at that price. Another argument is that a single buyer or even group of buyers who do not have access to inside company information do not have enough information to know if the stock is more or less risky than the Board has determined it to be in setting the FMV. So one buyer or small group of buyers acting with limited information would not be the appropriate group to define the risk of the stock and, therefore, its fair market value.
Many thanks to Aranca for the following additions to this analysis:
In addition to 2 key points (# of sale points for the price paid, and profile of buyer + seller) that have been mentioned for assessing reasonability of price paid as reflection of FMV, I would like to add 2 more angles that would need to be evaluated while making the determination:
How many different buyers participated at the price that has been paid for the security: If there have been lets say a couple of parties that have transacted, the applicability for the price paid to be considered as reflection of FMV would be weak. However, if there are several buyers who bought from the seller, the applicability of price paid as a FMV can be high.
What has been the valuation range (if any) / bid-ask spread offered by buyers: If the available buyers give a valuation range which is wide and significantly different from the transacted price, then again the applicability of price paid as reflection of FMV becomes questionable. However, if there are sizable number of buyers providing a tight valuation range, then the applicability of price paid as an FMV can be a good indicator.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Many thanks for the contributions of Dylan Gittleman, Vice-President, ARANCA US and Manpreet Singh, ASA, Manager, Valuation Services, ARANCA US. Aranca is a leading provider of 409A valuation services.
Negotiating Equity @ a Startup – Stock Option Counsel Tips
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Negotiating an offer from a startup? Here's some tips.
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.
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.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Stock Option Counsel Tip #1
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Use @angellist to research "market" equity for your company size. https://angel.co/jobs #equity #negotiation #startup
Exercising an Incentive Stock Option (ISO)? Should You Hold the Stock?
This is a guest post from Michael Gray CPA. He counsels individuals on their employee stock option tax questions. For more employee stock option tax resources, see Michael Gray, CPA's Option Alert at StockOptionAdvisors.com.
When you have decided to exercise an incentive stock option (ISO) and consider the federal alternative minimum tax (AMT) and the net investment income tax, the benefits of holding stock after exercising an incentive stock option are reduced. The "brass ring" of having the gain from the sale of the stock eligible for long-term capital gains rates (15% or 20%) seems attractive, but the 28% alternative minimum tax rate applies
for the excess of the fair market value of the stock at exercise over the option price ("spread") when the option is exercised. (California also has a 7% alternative minimum tax. Find out the rules for your state.) The minimum tax credit for this tax "prepayment" is hard for many taxpayers to recover, because they are already subject to the AMT, due to deductions disallowed for the AMT computation, including state income taxes, real estate taxes and miscellaneous itemized deductions. That means the "spread" at exercise is probably
going to be taxed at a 28% federal tax rate when the dust settles.
In addition, long-term capital gains are subject to the 3.8% net investment income tax when the taxpayer has high adjusted gross income. That means the total federal tax rate for the initial spread would be 31.8%, versus a maximum federal tax rate of 39.6%. Is an 8% tax benefit worth the risk of exposure to market volatility of the stock? It could fall much more than that.
The main time it makes sense to hold the stock is when the "spread" is low and the option price is low. Then you can probably afford to pay for the stock and AMT (if any) and to take the risk that the value of the stock could fall. When you do this, you forgo the "time value premium" for the option. If you have the alternative of just buying the stock for about the same price without exercising the option, you will probably be in a better position by doing that, because you will still have the options to exercise if the value of the stock increases with no downside risk for the options.
An alternative is to exercise the option and immediately sell the stock, provided the stock is publicly traded or there is a "liquidity event" such as a sale of the employer company. In that case, the gain will be taxed as additional wages, subject to federal tax rates up to 39.6%, but exempt from employment
taxes such as social security and medicare taxes.
These are general comments. You really should meet with a tax professional familiar with incentive stock options (that's our business!) to discuss your individual situation and have tax planning computations done. To make an appointment with Michael Gray, call Dawn Siemer at (408)918-3162 on Mondays,
Wednesdays, Thursdays or Fridays.
This article was published in the September 24, 2014 Option Advisor Alert. Republished with permission.
From The Daily Muse
Attorney Mary Russell, Founder of Stock Option Counsel based in San Francisco, advises that anyone receiving equity compensation should evaluate the company and offer based on his or her own independent analysis. This means thoughtfully looking at the company’scapitalization and valuation.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Thanks Ji Eun (Jamie) Lee for the mention in The Daily Muse!
“Is This the Right Company?
Investors buy equity in a company with money, but you’ll be earning it through your investment of time and effort. So it’s important to think rationally, as an investor would, about the growth prospects of your start-up.
Attorney Mary Russell, Founder of Stock Option Counsel based in San Francisco, advises that anyone receiving equity compensation should evaluate the company and offer based on his or her own independent analysis. This means thoughtfully looking at the company’s capitalization and valuation. ”
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Skype Repurchase Rights = Vampire Capitalism
I agree that it is unethical as it goes against the expectation of employees as to how their contributions are valued. If they don't know about it before they choose the company, they are making a choice without an essential term of the deal.
And it goes against the most idealistic ethic of Silicon Valley – that capitalism should be used by groups to organize and cultivate their own creative efforts rather than as a tool of vampires.
But it is not illegal. And I've seen worse in my Stock Option Counsel practice (twice this month alone). Congratulations on paying attention.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Quora Question:
What does it say about a company that has a Skype-like repurchase right in their stock option agreement? The company that I work for has a stock option agreement that has a Skype-like repurchase clause (See: Upgrading Skype and Silver Lake to Evil), basically allowing them to buy back exercise stocks at 1.5x FMV within 90days following the employee's end date/exercise date. I have never seen anything like this, is this to protect them/screw ex-employees? It basically mean my vested stocks can be easily bought back at 1.5x? Isn't it unethical?
Stock Option Counsel Answer:
I agree that it is unethical as it goes against the expectation of employees as to how their contributions are valued. If they don't know about it before they choose the company, they are making a choice without an essential term of the deal.
And it goes against the most idealistic ethic of Silicon Valley – that capitalism should be used by groups to organize and cultivate their own creative efforts rather than as a tool of vampires.
But it is not illegal. And I've seen worse in my Stock Option Counsel practice (twice this month alone). Congratulations on paying attention.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
Best of Blogs: How to Value and Negotiate Startup Stock Options
NOTE: Updated February 23, 2016.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
We have suggested the following free resources to Stock Option Counsel clients to help them master this area and gain confidence in negotiating their stock options and other employee stock.
1. Leo Polovet's' Analyzing AngelList Job Postings, Part 1: Basic Stats & Part 2: Salary and Equity Benchmarks
2. Venture Hacks' I have a job offer at a startup, am I getting a good deal?
3. Andy Payne's Startup Equity for Employees
4. Mary Russell's Startup Equity Standards: A Guide for Employees
5. Wealthfront's Startup Salary and Equity Compensation Calculator (This is very general but people find it helpful.) And Wealthfront's The Right Way to Grant Equity to Your Employees.
6. Patrick McKenzie of Kalzumeus Software's Salary Negotiation: Make More Money, Be More Valued
7. Piaw Na's Negotiating Compensation, from An Engineer's Guide to Silicon Valley Startups
8. mystockoptions.com's How does a private company decide on the size of a stock grant? (You may have to create a login)
9. Michelle Wetzler's How I Negotiated My Startup Compensation
10. Mary Russell's Video Negotiate the Right Startup Stock Option Offer, based on Mary Russell and Boris Epstein's Bull's Eye: Negotiate the Right Job Offer
11. Mary Russell's Joining An Early Stage Startup? Negotiate Your Salary and Equity with Stock Option Counsel Tips
12. Robby Grossman's Negotiating Your Startup Job Offer
13. John Greathouse's What The Heck Are My Startup Stock Options Worth?! Seven Questions You Should Ask Before Joining A Startup
14. David Weekly's An Introduction to Stock & Options for the Tech Entrepreneur or Startup Employee
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.