Stock-based compensation: I have some thoughts
Now that we’re through the latest start-up bubble, I feel better about going public with my concerns with the abuses I’ve witnessed in the compensation discussions between job candidates & their prospective employers. Though I’ve seen a lot of founders got rich - and I’m very happy for some of them who I know - I saw a lot of bad deals dangled in front of a lot of people. Many gave up a lot of money along the way and got hurt. I had a lot of near misses that I’ll also share.
But before I do, I thought I’d share a couple of good experiences which also help illustrate how equity-based compensation structures can work for or against you. After graduating from my MBA studies, I started at a venture-backed FinTech called CAN Capital. Because I was young, didn’t yet have kids and believed in the company I knew I was taking a career risk and was DYING to get a piece of the company. But they wouldn’t give me any equity. They put me on fair base with a reasonable bonus and though many of my co-workers had options, I didn’t and resented it. In time as I moved up and got tenured I received a couple small options grants but in the end, they ended up being nearly worthless when the company ran intro trouble and was forced to recapitalize. Since I left, the company has recovered and perhaps if I exercised my options they’d be worth something, but they also haven’t yet since had a liquidity event where people can cash out either so I got the blessing in disguise of two valuable lessons:
Cash is King - Make sure you make what you need to live and get your fair value. The Black Sholes equation puts a lot of value in volatility aspect of options however…
Unless or until there is a liquidity event, its very hard to sell stock in a private company
I also learned the valuable lesson from a good friend who left CAN to go to a small start-up, now called Slice, an early player in the food delivery tech space. He joined very early in its journey and was granted options upon his hire before their Series A - the first institutional funding round. He was a big believer in the company & understood their model well. By getting in early, he got options at a 7-figure valuation. Not too long after he joined, the company closed its Series A and his options became worth many times more. I’d estimate the company’s value grew by 10x - 20x in this process. Though he eventually soured on the company, even partially vested, his options were worth a lot so leaving was not a painful decision. So from his experience, I learned two more valuable lessons:
Diligence the company as an investor - Be sure you’re a big believer before joining
Most of the money gets made early - The Series A is typically the moment where early investors get rich (or richer). Rarely will a company’s valuation increase more on a percentage basis at any point than the Series A. Once a company hits its Series B the big money has generally been made. Do not equate going public with getting rich because that’s just the moment when the founders truly cash out. But if you have options, by the time you can sell and cash out yourself, it’s very rare when the valuation is significantly higher
Before things went south at CAN Capital, I received an offer to go to another FinTech lender. The base & bonus compensation offer was reflective of a lateral move, but they also offered what seemed to be a lot of equity in the form of options. When I inquired as to how to value to the options and whether I could receive Restricted Share Units (RSU’s), HR gave me little insight and wouldn’t budge on the form of stock. RSU’s are different than options — and I believe as compensation are superior — because instead of being an option to purchase stock at a particular price at some point in the future, restricted stock is worth whatever the stock is worth. In addition, even if your options are “in the money” you still have to put up the cash to purchase the stock when you exercise and there are typically significant cash implications as well. RSU’s typically have an extended lockup before you can sell — that’s why the shares are restricted - but the company’s value too could stay the same or fall and you’ll still have something. Most options have a 10 year period (typically with a 4 year gradual vesting period) so by the nature of a random walk, they hold a high intrinsic value, but the day you receive them, they’re worth nothing on a cash basis. When I tried to negotiate the offer I told the recruiter placed the most value in a higher base, followed by stronger bonus structure. I was clear the equity was fine but when they countered, they only thing they changed was doubling the equity offer. By only bending on equity and giving me so much more, they signaled their equity wasn’t worth much to them. And if they were so willing to give it away so easily, it didn’t seem like it would be worth a lot to me either. I declined the offer. Big lesson here: If a company signals a willingness to give its equity away easily, it’s a huge red flag.
I didn’t even receive an offer at another Fintech lender where I learned another big lesson. As can be the case with start-ups, my first interview was with the CEO. After a series of friendly introductions and typical questions he invited me to ask my own. His responses were either short & evasive or he wouldn’t answer at all. Sensing the queue, I wrapped before I got far on my list. I later heard from the recruiter that he was offended by the invasiveness of my questions. In retrospect perhaps I may have been overly direction without building appropriate rapport, but I still believe that you should diligence the company as if you’re a venture capital investor. One of the things that grinds my gears the most about many start-ups is they will go through great lengths to present their vision to investors and quickly address all questions, but they will rarely betray information to prospective employees, even those willing to sign an NDA. Recognizing that companies usually need capital the most, I understand the instinct here to give as little information as necessary, but I believe employees have more to lose over the failure of a company. Investors will only lose their money and by their nature, they are risk-takers who expect most start-ups to fail. But if you work at a start-up that fails, you lose your income and depending upon the circumstances, it could be a stain on your reputation that may make it more difficult to find your next job. If a company doesn’t recognize that and prioritizes talent with the same priority as investment, don’t take the job.
In retrospect, it was smart I turned down those jobs because I ended up at Goldman Sachs, a place that eventually gave me RSU’s. But I still kept interviewing and learned a lot from two opportunities.
The first was a very small FinTech that wanted to hire me as Chief Revenue Officer. After taking me through the business, I asked the recruiter (who was also an investor — kind of a flag too) for something about the company that would get me excited about how I’d get rich there. His response was “Yeah, they were hoping you could help them figure that out.” Interview over. The lesson here: If you can’t get excited about how you will get rich & they won’t help you, discount the stock.
The next opportunity was a bit of a rocket ship, but a cautionary tale nonetheless. When they first reached out to me, they were already a unicorn (worth over $1B) but I hadn’t really heard of them so I didn’t show a lot of interest. But in the intervening six months, in addition to my getting a lot less excited about my job, they went public via SPAC at an $8B valuation. At that point, the interviews went well, culminating in an interview with the CEO — who at least on paper was a recently minted billionaire. It wasn’t really an interview as much an unnerving conversation. The CEO used the time to lecture me about others at Goldman who had left millions on the table by holding out for more guaranteed cash and suggested I shouldn’t make the same mistake. Based on the value of his stock at that moment, he may have had a good point about those who’d he recruited in the past— but his stock is now worth a fraction of what it was at the time & by that point, the only way for me to have done well on my stock were if the company were to rival Goldman in its valuation, leaving aside the fact he’d have the opportunity to sell years before I would. The lesson of the money being made early again made its appearance. Oddly, they never did make an offer but I’m glad they didn’t. The key lesson here: Be wary of cocky CEO’s intoxicated by the price of their stock.
I’m glad I am where I am and I can’t wait to be a part of a start-up that’s exciting, but in the meantime, I’m good with my big corporate job with my RSU’s. But if an opportunity comes your way and they start talking options, remember:
Cash is King - Make sure you make what you need and get your fair value
Unless or until there is a liquidity event, its very hard to sell stock in a private company
Diligence the company as an investor
Most of the money gets made early
If a company signals a willingness to give its equity away easily, it’s a huge red flag
If you aren’t excited about how you will get rich & they won’t help you, discount the stock
Be wary of cocky CEO’s intoxicated by the price of their stock