Startup equity continues to be one of the most powerful hiring tools available. Equity grants align employees to driving successful outcomes and exits for the business in ways that typical salary and bonus could never match. While there can be incredible outcomes for early employees at highly successful startups, the reality is that most early employees do not strike it rich. Not every company turns into an Uber or an Airbnb. In fact, most startups won’t be able to raise a Series A, let alone have a successful IPO. Having worked with successful private companies on over $40B in private secondary and M&A transactions for the past decade, I can assure you that making it to a level where they can allow their shareholders to have a successful exit is an ideal outcome, but not a typical one.
With that context in mind, if you are thinking about making the leap and are trying to get your head around likely outcomes, our team at LTSE Equity wanted to give you a head start. TLDR Stock Options is meant to give you a quick glimpse into your chances of success (and the magnitude of your potential outcome) based on publicly available data and our best approximations. This tool won’t tell you what your options are worth, but it will give you a sense of where they could end up if things go well. Think of this tool as a starting point for understanding your equity grant and the questions you should ask to understand its potential future value. Having a working understanding of dilution and FMV, as well as their impact on your ownership percentage, are all keys to truly knowing what you are getting.
You may be wondering what dilution, FMV, and your percent ownership are, let alone why they impact the value of your equity, so here is a quick primer:
FMV is the fair market value of the company's stock. The FMV will determine the price you are granted options at, among many other things. If the FMV at the time you receive your grant is $2/share and you receive 10k options, that means you will need to pay $20k to exercise those options. The difference between your FMV and the exit price for your company (e.g. M&A or IPO) is what the eventual value will be (assuming you are lucky enough to exit). To oversimplify how this works, if you get 10k options at $2/share and the company has an IPO for $100/share, your upside is $980k before taxes. Keep in mind that there are a whole host of tax related complexities depending on the type of option grant and many ways to optimize for tax performance, but we recommend you talk to an accountant about that to get personalized advice based on your financial situation.
Dilution and Percentage Ownership
Dilution is important because it will decrease the value of each share you own. What does that mean? Let’s say you get 10k options and your company has issued 1 million shares at the time of your grant. At this point, you own 1% of the company's total shares. Every time your company raises capital, they are likely issuing brand new shares to those investors. As your company continues to issue new shares to investors, your 10k options become a smaller percentage of the overall total. This could mean that at the time of exit your 1% ownership stake is now diluted down to .25% or less. This isn’t necessarily a terrible thing, as many companies offer refresh grants and raising capital is essential for your company to ever make it to an exit, but it will have a material impact on your outcome.
These concepts can be a lot for someone brand new to equity, but hopefully the TLDR Stock Options tool will help you better understand the basics of how some of these concepts work. To check out more information on related topics, here’s a few of our latest articles on stock options:
- How to set up your first option pool
- What is an option pool?
- A 4-step plan for the startup stock option process