…or at least an attempt at a balanced approach.
Do your own math
Dan Luu has recently published a great piece arguing that working for a big company will on average net you more money than working for a startup. If his math makes sense for you, so does his conclusion.
For me personally the math is different. I live in Israel, where a programmer's salary is very unlikely to surpass $150K/year, and $100K/year is pretty good. On top of that, taxes are higher, while prices aren't much lower overall, AFAIK. Based on Dan's numbers, a senior engineer working for Google at their Mountain View site might be able to save $3M in 10-12 years. His colleague at the Tel Aviv site might take 30 years to save that amount. And while a startup might pay less than Google, the difference will be much less than 2x, and nothing near the 3x-5x multiples mentioned in Dan's post.
Did I land at a startup because I figured the stock options were valuable? No, definitely not. In fact, while I was granted some laughable amount of stock options, I had no idea how it all worked – strike price, vesting, I didn't even know those words. How did I end up with the job then? I'll tell you how.
At the time nobody, and I mean nobody, would hire me. In hindsight, the reason was as obvious as it was misguided. They wouldn't hire me because I projected a large degree of mental imbalance. They were misguided because in terms of performance/price, I was solid gold. I'd work as hard as you can imagine for peanuts, and, nuttiness of youth aside, I knew my shit. I often wonder if today's me would hire then's me. I know I should, but I'm not sure I would.
6 months passed, and not a single job offer. To cheer myself up, I'd send SMSes to friends which supposedly parodied my missives to potential employers, along the lines of "Hi, my name is Shitface McArsefuck. Do you happen to be in need of a programmer?" And so it went from bad to worse, until EB called.
EB was among the tiny number of people I "networked" with in the university. I originally contacted him to get advice on building a 3D scanner from a commodity camera and clever software that reconstructs 3D geometry from images. (He immediately explained why it wouldn't work. Then I somehow convinced him to spend the next 3 months on a failed attempt to do this.)
And now he recommended me to this startup which he just joined. And I passed the interview, nuttiness and all, no doubt because of that recommendation.
My point being, maybe you just happened to land at a startup because it so transpired. Maybe you didn't pass the interviews at the big companies for some transient reason, maybe you'd pass them a year later but right now you didn't. Maybe the startup is right near your home and your friends work there. Whatever the reason, right now you're there.
The question now is, should you ignore the equity part of your compensation? And the answer, of course, is…
Do your own math
Here are some points to consider:
- A lot of the problems with equity are solved by getting more equity. It doesn't help if the stock ends up completely worthless. But dilution, a long time spent waiting for the IPO, a high strike price, and, in some scenarios, liquidation preferences – all of these problems are helped a lot by having more equity.
- They call stock options a lottery ticket. I call it insurance. It sucks to have worked at a startup which did make it big and to not have made anything off it. Incidentally, I know quite a lot of people who either forfeited their stock options or sold them very cheaply, on the theory that equity is worthless. Trust me, if you're working for a startup, this is the one accident you want to be insured against.
- Who has invested in this company at the latest round? VCs often lose their entire investment. On the other hand, investment banks like Goldman Sachs tend to make money, and so do investment management firms like BlackRock. Sounds obvious – and yet I knew people with more financial literacy than myself who'd say "how much more can this stock go up?" after GS or BlackRock invested in the company. The right answer is that now it will most definitely go up, albeit perhaps by a smaller percentage than in previous rounds. Which brings us to the next point:
- Percentages are not absolute amounts, and you care about the latter. If the stock goes from $1 to $10 (a "large" 900% increase), you get $9 when you exercise the option. If it goes from $50 to $70 (a "small" 40% increase), you get $20. Sounds obvious – and yet I knew people who're way better at math than me, who preferred tiny cash raises to sizable stock options grants, right after an investment round involving firms which rarely lose money, on the theory that "the stock is too expensive already."
- These days it takes companies a lot of time to go public. As an employee, it largely works to your advantage. It gives you time to become valuable and to then ask for more equity. To a private company, even one with serious late-stage investors, equity is still pretty cheap, and there are few enough employees for some to have gained significant bargaining power. So it might be sensible to initially ignore equity and mainly ask for cash raises – the company is too likely to tank at this stage, while your bargaining position isn't good enough to get enough equity for it to matter anyway. Later on, when your salary gets closer to the ceiling, and the stock becomes more valuable, and you will have become more valuable to the company, ask for equity. (The downside of asking later, of course, is that they give increasingly less of their increasingly more valuable stock over time. But the difference in bargaining position might be larger than this unfortunate effect.)
- To actually negotiate more equity, to a first approximation, you must be ready to leave over this point. Leaving might mean losing whatever stock options you already have. This is where the advice of people who tell you to ignore equity paradoxically comes in handy! (I do know people who managed to find an outside investor who helped them buy their stock options; whether you can legally do this in your particular case is a question to a lawyer.)
- The variance in options-based compensation is vastly larger than the variance in salary. One reason is that stock options are very cheap for private companies, and it's therefore their preferred way to motivate their favorite employees. I suspect that another reason is, you getting 10x my salary tends to piss me off much more than you getting 10x the stock options. Right now you can't spend the stock options, so there will be no changes to your lifestyle signaling to me that you're better off than me, and then even if I knew, I might not care as much about stock options, which might, after all, be worthless. The upshot is, if you want to increase inequality in the world by getting an outsized compensation for your supposedly outsized contribution, stock options are your #1 route.
One point on equity negotiations
All the usual advice on negotiation, of which I'm hardly a good source, applies here. But on top of that there's one specific point when it comes to equity and it's this.
Suppose the party line is, this company will be worth $50B, but you think it'll be worth $20B (right now it's valued at $10B.) And let's say you want to ask for enough stock options to net you $1M.
The wrong thing to do is argue that the company will be worth $20B, and ask for an amount netting you $1M on that theory. They'll tell you that you're wrong, that it'll be worth $50B, and here's 1/4th of what you ask for, and it'll net you your $1M.
The right thing to do is tell them you want to end up with $4M (or better yet, $8M) and ask for an amount netting you that, according to their $50B theory – in the hope of getting half of what you asked for, and then 1/4th the capital gain they predict, overall $1M.
Why? Because it's much, much easier to argue that your contribution is worth $8M and that you can make it elsewhere than it is to argue that the company isn't worth what they tell everyone it's worth. Of course your common sense cries foul at this: "but you can't make $8M elsewhere! And the company might end up worthless, for all we know! Surely arguing that it's not worth $50B is more sensible than arguing that you are worth $8M, because it isn't, and you aren't!"
Well, common sense is wrong, because common sense is not a salesman (in fact, it's a salesman's worst enemy.) "We're both unusually valuable" simply sells better than "neither of us is". So do go for the former.
Stock options have expiration dates. With the time it takes companies to file an IPO these days, yours might expire earlier. Don't miss that moment, and make sure they extend the date (a private company can easily do it.) Make sure to ask for the extension as early as possible – you never know what things will look like at a later date. While all is well, it's a trivial request. But not all is well at all times.
From competent programmers to terrible investors
It might well be that, having worked your ass off, and having negotiated a nice chunk of equity, you'll sell it at some early liquidity event for a fraction of the IPO price or some such. With this shit, trading skills/luck might dwarf the rest of your skills. A bit depressing, that. But don't get depressed. Here, I'll cheer you up. My name is Shitface McArsefuck. Do you happen to be in need of a programmer?
There are many schools of thought with respect to trading strategy. I recommend the following method:
- When you can, sell enough to get a sum of money that buys you something important. Something so important that, if you won't buy it now, and you won't get another chance, you will have a hard time forgiving yourself. That something can be a house, or enough money for some crazy trip you dream about, or enough money for "financial independence" according to your definition, whatever.
- If you're left with stock and selling it does not buy you something important, keep it, or sell in little bits, so that you spread out the selling of the whole amount over a long period of time.
- Try to not be fully vested at all times (your employer should be willing to help you with it), so that these rules don't result in the selling of everything at what in hindsight is a low price.
The point of this approach is to think hard about what you really want, and not miss a chance to get it. I expect it to net worse results on average than a strategy aiming at maximizing the mean profit, because it does not try to maximize the mean profit. What it does attempt to do is minimize regrets, and unlike maximizing strategies, it takes your personal priorities into account.
(Incidentally, the differences in personal priorities might make the best strategy for me a terrible strategy for you. The question isn't where the price will go – and BTW nobody can answer that, anyway – but what you need the money for. I wish I understood that before giving people what in hindsight was bad trading advice.)
I strongly recommend to refrain from selling everything upon the first opportunity under the assumption that diversified risk is always better than concentrated risk. People who understand the "rationality" of this argument should also understand that it's somewhat rational to spread the selling over some period of time, because stock prices tend to be volatile and you're rather likely to have sold at a bad moment.
More importantly, people underestimate their own irrationality. Yes, it's crazy to put a large amount of money in a single stock, but it does not follow that it's equally crazy to hold that stock. Stock analysts understand this, which is why they have a Hold rating – don't buy this stock, but if you already have it, don't sell it. Holding a position that you wouldn't buy makes perfect sense for a human, because a human tends to get very upset if they sell it and then the price goes way up. I say, unless selling it all right now is your way to buy something that you absolutely must buy, don't.
Are stock options worth it for employers?
Absolutely. It does nothing to motivate most but it does wonders to motivate some, and then it's really cheap for the employer.
Overall, if you're at a startup and there's no compelling reason to leave (as there might be if you can make $3M in 10 years at a big company, or start your own business, whatever), make sure to maximize your equity. From a regret minimization perspective, it's not a lottery ticket, but an insurance policy. If the company makes it, you will not be the one who came out with nothing. If it doesn't make it, at least you took a shot.