Recommendations for stock option compensation for a startup.

https://news.ycombinator.com/item?id=939147

by mrinterweb • 17 years ago

6 11 17 years ago

news.ycombinator.com

I am considering a job at a new startup where I would be playing a very integral role in the product development. The company has not yet secured any external financing and is funding the project out of pocket right now so cash is limited. They are offering me a salary that is about half of the market salary for my skill set with no other benefits other than 1.25% stock options. I will be their first employee. The company also has no valued worth currently as we are working on software. I am trying to figure out if I should ask for a larger percentage of the the stock options considering the salary is 1/2 market rate and that I am playing a major role in the company. Does anyone have any advice?

thegoleffect• 17 years ago

Are you technical? Are you one of the few technical people on the team. If so, depending on the type of stock being offered, if founder's stock, 5% seems to be a pretty well-liked number.

If a startup's success depends on the team, then you have to figure out whether or not the current team can pick up additional skilled people. If you're the first technical hire, most likely you will be responsible for gathering a team (though not always). But in either case, you are directly responsible for the value of that stock.

Are you willing to give it everything and make that 1.25% be worth something? Or are you going to sit and rely on hope & expectation?

$0.02

mrinterweb3• 17 years ago

It is a very small company of 3 founders and myself. Two founders and myself are technical. I am in charge of all things web related. Including public site, client portal, admin portal, web services, REST API, database design, and fun things like that.

It is a big leap for me because I am currently employed, and jumping into a startup company, taking large pay cut, is quite a risk.

tonystubblebine• 17 years ago

That offer sounds fair to me. If they don't have funding, then where's the cash coming from? If it's coming from the other founders then they deserve to own more of the company.

Joining an early stage company isn't about getting paid market wages. It's about job satisfaction (assuming you like having responsibility, working hard, and don't mind chaos).

There's a lot of people who think that the only people who get rich in a startup are the founders and investors. I believe that. If you do the math on a good exit, let's say $100M after six years including earn-out and dilution from A&B rounds, then your very-good-case scenario is a personal payout of $300k after taxes. If you think this company has a 1/10 chance of a good exit, then your average benefit from these options is $30k (spread over six years!!!). Looking at it that way, I can't see why anyone would work at a startup for any reason other than it seems like a lot of fun.

I loved the two startups I worked for but the benefits were getting responsibility nobody else would give me, excitement, and seeing how companies are started.

I guess that's not a very direct answer to your question. Here's my direct answer, ask for 2%. But don't make your decision based on whether they say yes--make it based on whether you're excited for the company and team.

tptacek2• 17 years ago

I made a very significant amount of money in the '90s on a startup acquisition where I had not a whole lot more than this person did. I think:

* Very few people, founders or otherwise, really make a lot of money on startups

* Single-digit percentage equity grants are actually huge, regardless of how small they look when you write them down on paper.

tptacek2• 17 years ago

A rule of thumb I think may actually work for helping tech people evaluate stock options:

Take the percentage you probably think you're worth, and divide it by 10.

Is 5% a "good" number? Well, YC takes 6%. If the company had to choose between you and YC, would it be almost a coin-flip?

That said: the number one rule of stock options valuations for employees (not founders) of private companies:

The numbers don't mean anything. The company can succeed wildly and still ratchet you back to any level they'd like. Every round of funding is going to rewrite the terms, and so will the acquisition. The exceptions to these rules occur mostly in cases where "employee #2" stock options are so clearly and inherently valuable that you won't care about the specific number.

kls2• 17 years ago

If you don't have the background in it, I suggest you begin to educate yourself in market cap projections and break-even analysis.

You need to know 1.25% of what. 1.25% of a 50,000,000 company is $650,000; nothing to sneeze at, but not a massive pay day by any means. Especial with taking the risk of 1/2 salary for an extended period of time.

Second, you need to know the projection on when you will level off on salary to return to market. If it is a year no big deal, but what if it is five years.

You need to weigh this level off period against the percentage of market cap projection and see if you are comfortable with the numbers.

mrinterweb3• 17 years ago

Currently it seems impossible for me to make any projections like that. I know they are self-funded and are paying me out of pocket. They do not yet have a complete product which is what I am helping them build. The software we have developed so far is looking very promising and I'm sure it is likely to crush the current competition, but it is hard to guess what the company is valued at or what it will be valued at.

I am thinking of putting in my contract that my salary would be renegotiated every time they take on funding or after the company has become profitable until my salary reaches a pre-agreed on market rate for my position.

kls2• 17 years ago

You say it will crush the competition, what is there market cap. The point is not to get the number that will hold the test of time, but to get somewhere in a remote ball park so that you could know what the extreme bottom end is. For example one competitor may be worth 100 million and 1 is worth a billion. you could say well the bottom end looks like a 1.25% of a 100 million dollar company, or you may chose to average the two competitors and say the bottom end is y.

The point is not to get it exactly right, rather to get some number that you may or not be comfortable with. The second option would be to project potential customers as well as potential product price and work into your numbers that way.

I strongly urge you to try to project these numbers even on highly subjective data points.

As for you salary, do not put in your contract renegotiation, that puts you in a disadvantageous position at every round rather you should negotiate a schedule up front to return to market rates. e.g. if the company reached x capitalization you move to y% of current market rates.

With this model it puts you in the position to have a bargaining chip as funding rounds come around and not get diluted out while still being paid less than market.

With this structure if they continue to want to keep you below market (to keep the liability light) then they have to negotiate with you to further sell your earning potential.

Which is exactly what you are selling so you really need to know the price of what you are selling. Just as you would not sell a car without knowing its market value you need to analyze the value of your lost earning potential against the investment risk.

ardit33• 17 years ago

sounds like a bad deal to me. Lots of risk/half the salary, for only 1.25% ?

mrinterweb3• 17 years ago

Thank you for all the advice. This is very helpful. I think I will likely ask for larger % (probably 2-4%). I will also ask for renegotiations at each round of funding until my salary is brought up to market rate.

fnazeeri• 17 years ago

Just remember that 1.25% of a pre-funded startup is worth very little. If you're able to bootstrap for 5 years and sell the thing for $10MM you're looking at something like $100K. If you raise money and sell for $50MM you'll end up with something similar (after the dilution and liquidation preferences). The cost of taking a half-salary can add up quickly.

For more data, check out http://compstudy.com/. It's an annual survey of startup compensation. This year there were over 1000 companies that participated in the survey and there was a huge jump in pre-VC funded companies.

Recommendations for stock option compensation for a startup.

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