The Myth of Startup Employee Equity
Working for a startup? Break through the myth of startup equity to make the most of your equity compensation offer. Photo by Startup Stock Photos.
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
The shiny myth of startup equity has incredible power to recruit and retain talent. This is the myth:
If you have any startup equity, and the company is a success, you will be rich!
All startup equity contracts are “boilerplate,” so whatever fine print you sign, you will be rich!
You never have to make an investment in or pay taxes on startup equity until you are already rich!
The duller reality of employee equity conflicts with this myth. Here’s my take on this “reality”:
The number of shares in the original job offer will determine whether the potential upside will balance the financial risk in joining a startup.
The fine print terms affect the potential value of any startup equity offer (especially the consequences of a termination of employment prior to a company exit event).
Standard tax structures for employee equity often require individuals to choose between forfeiting vested stock options and making a significant personal investment in the shares (to cover the exercise price and associated taxes) prior to having access to liquidity for the shares.
Most employees believe the myth, so they do not bother to ask questions and learn more about the reality of their equity offers. In this context:
The shiny myth of startup equity does the job of recruiting and retaining employees without any action on the part of the company. Companies can follow the classic sales advice - “Never give someone more information than they need to make a decision.” - and let the myth fill in the gaps. If they don’t ask, why tell?
Only those few companies with extraordinarily favorable employee equity programs have any incentive to educate their employees to see the difference between their plans and their competitors’ plans. That incentive may be minimal, though, as such an education may even disincentivize employees from joining startups with favorable programs. The reality of even the most favorable programs cannot compete with the myth of magical riches.
Those companies with unfavorable terms in their employee equity programs would have zero incentive to provide such an education. Their financial models could not likely be sustained if their employees were knowledgeable about the terms from the start. For example, one prominent late-stage startup with a 3-month post-termination option exercise deadline relies on a model that only 15% of vested options will be exercised. As my colleague commented, the terms that bust the myth would be a feature, not a bug, for such a company.
I would love to hear that I am wrong in my assessment. I would much prefer to be sharing success stories of company-side equity education programs and explaining why startup companies actually do need to educate their employees in order to effectively recruit and retain them with equity. Please comment below!
Attorney Mary Russell counsels individuals on startup equity, including:
You are welcome to contact her at (650) 326-3412 or at info@stockoptioncounsel.com.
