This paper briefly summarizes what anonymous authors should know and seriously consider before they want to join an early unlisted company (also known as a start-up company, especially unicorn in some cases). The article does not want to persuade readers not to join a startup company, but to warn people who face similar choices that the imbalance of rights between founders and employees is beyond imagination. If you stand at the crossroads of joining a startup, it will be beneficial to stop and consider and compare your options.
The content in this paper is neither novel nor innovative, but the main purpose of this paper is to sort out the basic knowledge related to stock options and employee incentives for employees.
First, common options for startups
1. lock
When you leave a company, you usually have up to 90 days to exercise your rights, otherwise you will lose the options you have obtained. Legally speaking, this restriction stems from the statutory conditions that the US Inland Revenue Department needs to meet for the statutory option to enjoy tax benefits, but the exact reason is no longer important. The only important thing is that if you want to leave your job and you don't have enough cash reserves to exercise your right to buy shares in the company, the mature options that you have spent several years accumulating will evaporate instantly.
To make matters worse, by exercising options, unrealized book wealth (equity) will make you face tax obligations immediately. The option in your hand has an exercise price. Unlisted companies usually use the valuation of 409A to determine their fair market value. The difference between the exercise price and the market price multiplied by the amount of the option exercise will be regarded as your income, and you need to pay taxes, even if the equity is illiquid-that is, you have not earned a penny, and there is no feasible way to cash out in the foreseeable future.
Even if you have the money to exercise options and pay taxes to the Inland Revenue Department, the result is that your cash will be trapped from now on, and your investment may not return for an uncertain long time. You should consider the opportunity cost of using these funds for other investments.
According to the provisions of the US tax law, the exercise period of statutory options enjoying tax preference is ten years, counting from the date of approval of the option plan. Even if the stock can't circulate (trade) at that time, you will either pay for the exercise or let these options evaporate, and you will face the cost and tax burden mentioned above.
Does ten years sound long? Then think about the age of these unicorns (20 17):
Palantir has a history of thirteen years;
Dropbox is ten years old this year;
AirBnB, GitHub and Uber will all celebrate their 10 birthdays in a year or two.
Now some companies offer 10 years (after employees leave) exercise window, and after 90 days, your legal options will be automatically converted into illegal fixed-term rights with higher tax burden. For employees, this is better than the 90-day window period, but as mentioned in the previous paragraph, ten years may still not be enough.
Soon you'll be wearing golden handcuffs. The longer you stay in the company, the more equity you accumulate, and the harder it is to decide to leave. This may eventually lead to early employees having almost no liquid assets, but they are all praised as "paper millionaires". Therefore, employees are faced with a difficult choice-whether to give up these book wealth or stick to it until the founder lets them cash out some equity and get a return.
Comments on Simplified Law Help: Based on the influence of international VC on China's entrepreneurial circle, the option system of China startups usually refers to the practice of the United States, requiring employees to exercise mature options within 90 days or even less after leaving their jobs. On September 22nd, 20 16, the Ministry of Finance and State Taxation Administration of The People's Republic of China introduced preferential tax policies (Caishui [2065438+06]10/No.) to support equity incentives for start-up companies. Similar to the United States, it is required that the time from the date of stock (option) grant to the date of exercise shall not exceed 10 years. We wrote in "Stock" that in addition to greater tax incentives, China's tax system has more open and relaxed requirements for option pricing and valuation. Interested readers can refer to the valuation game of startup companies: how to price incentive shares most reasonably? A concrete analysis of the article.
2. Realization of equity liquidity
There is no time guarantee for the realization of equity liquidity. In fact, even if the company is very successful, it cannot guarantee the realization of equity liquidity. You can cash out your equity in 1 year, 5 years or1year, or you can never cash out. In our time, we have seen evidence that many companies may have to wait longer to go public (see the age list above).
The motivation of founders and employees to go public is sometimes inconsistent. Employees want some equity liquidity to get a slice of the company value they helped create, but the boss knows that letting employees share the cake may mean that a group of the best people will leave the company because they finally have the opportunity to pursue other projects (dreams). This may be another reason not to go public.
Although this may be one reason why the founders don't want to go public, it is not the only reason. Many founders really believe (right or wrong) that the company still has 65,438+00 times/65,438+000 times room for growth, and these potentials have been wasted by premature IPO. For a normal founder, their company is their life's hard work, and they are willing to wait a few years to realize a bigger blueprint. This is a more noble reason not to go public, but from the perspective of employees, it is problematic.
Simple Law Help Comments: The development situation is not bad, but how to appease the restlessness of loyal old employees for startups that are far from listing or being acquired? Common methods include incentive share repurchase mechanism and incentive share transfer, and even part of employee incentive share cashing can be combined with corporate financing. For a detailed analysis, see the article "How can a startup appease the restless heart of loyal old employees if the listing is far away".
3. The rights of founders/employees are not balanced
The founder (and the right-hand man) can arrange some cash in the financing process and cut a piece of cake from the table, so that a certain degree of financial freedom can be realized before a large-scale liquidity event (such as listing or acquisition) occurs. However, employees cannot. This situation is completely unbalanced, and most people are on the unbalanced side.
Even if you enter a company and look at the company's equity structure table, you may find that the denominator that determines the proportion of equity in your hand is getting bigger and bigger. The company can issue new shares at any time, which will dilute your equity ratio. In fact, in any round of financing, dilution is often inevitable.
Jane's comments: It's like "the unicorn loses its front hoof, and the employees bear the brunt. How should startups balance the interests of all parties? " The conclusion of the case analysis in this paper is that at the critical moment when the startup company is cashed out by merger and acquisition, the management of the company should not only strive for its own interests, but also consider the interests of the employees who work together with it. I believe that such efforts can not only win the loyalty of employees, but also gain the understanding and even respect of investors and even acquirers. However, if the startup company can't coordinate the interests between the preferred stock and the common stock, as well as the interests of all stakeholders within the preferred stock, even unicorns or swift horses may stumble in interest disputes, and "ordinary" employee shareholders are always the first to bear the brunt.
4. Non-public equity trading market
The United States already has an equity trading market for unlisted companies, which can even help solve the related tax burden. However, it must be considered that this kind of help will cost a lot, and you will almost certainly lose a lot of room for equity appreciation. In addition, depending on the company you intend to join, the company may limit your possibility of conducting non-public equity transactions without the special permission of the company's board of directors.
Jane Eyre comments: Unlike the United States, China's non-public equity trading market is not developed enough. China start-ups with domestic and overseas structures can realize partial cash-out of incentive equity in the hands of incentive targets by means of portfolio financing and external transfer of incentive equity. Domestic unlisted start-ups can also try to solve the liquidity problem of employee incentive shares to some extent by using the price discovery mechanism of the New Third Board or even the New Fourth Board all over the country. Companies with financial strength can also consider giving employees the opportunity to voluntarily buy back incentive shares.
Step 5 evaluate
Especially in the early days of the company, the equity given to you is a very theoretical figure based on the company's future valuation. Sam Altman, president of YC, suggested that the first 65,438+00 employees should get a total of 65,438+00% equity (about 65,438+0% each). If the company's price is $6543.8+000 billion, this ratio may be a very large number, but think about how many companies actually end up.
If the company's selling price is more likely to be realized (for example, 250 million US dollars), your original 1% will not be as valuable as you intuitively imagined, with tax burden and inevitable equity dilution. It may be equivalent to the value of your incentive shares in large listed companies, but the risk is much greater. Don't take the above calculation seriously easily. Before joining a startup, you must calculate the specific figures according to the company's possible price range and share dilution coefficient. In fact, this is a very simple math problem. Do it for your own benefit.
Comments on Jane Law Help: One of the most common problems of option incentive in startup companies, whether in the United States or China, is the lack of transparency and communication between companies and employees, which easily leads to disputes between employers and employees on options. "What is the new attitude of employee option allocation and management under the new regulations of equity incentive tax? Simplified Method In the article "Simplified Method", four problems that should be paid attention to in employee option allocation and management of startup companies are shared: (1) option allocation method; (2) Company option information summary; (3) A transparent way to provide employees with options details; (4) Communication and follow-up management of options. In addition, in the year-end myth: How many options do I have? In the article, we also share some common misunderstandings about options, as well as practical problems such as the tax burden and tax planning of resigned employees around option valuation.
6. Tender offer
Some companies are aware of the impact of the stage of insufficient liquidity of the company's equity on employees, and adopt the way of tender offer to give employees a chance to cash in their equity and get a return (many examples can be found online). Of course, it is better to have a chance to cash out through tender offer than no chance, but it should be noted that the structural arrangement of tender offer may minimize the value of the equity you can cash out. Tender offer is also likely to be a small probability event. Look carefully at the format clauses hidden in the tender offer, calculate the specific figures, and consider the average annual return you actually get when you sell (including all the time you serve the company, not just the year you were acquired). This return is probably not as good as the stock incentives you get in listed companies.
Comments on Jane Law Help: A startup company organizes a tender offer to let a third party obtain the company's incentive equity under the supervision or control of the company, thus solving the liquidity problem of employee incentive equity. It has a large market in the United States, but it is rare in China.
7. Working environment
This has nothing to do with equity, but it is worth considering that the environment of a big unicorn company is not necessarily significantly different from that of a big listed company, and it is likely to be the same. Every "ant soldier" employee has little influence, the IT security system is quite strict, there are many meetings, and paid holidays are fixed. In the worst case, you may even need to use the same management system.
Jane's comments: there are no comments here, and employees are cautious. It is best to do more research and learn more according to the actual situation.
Second, I just want to try to start a business.
Suppose you have decided to join a startup. Here are a few questions. I suggest that you know the answers to these questions before accepting an offer from a startup (you should be surprised that few startups provide this information):
If I leave the company, how long is my option window?
What is the total share capital of the company? This allows you to calculate your shareholding ratio in the company. )
Does the company leadership want to sell the company or go public? If so, what is the approximate timetable? Don't accept the answer "We don't know". )
Have employees or founders ever cashed in their shares? (Try to find out whether the founder cashed in the money on the desktop when financing, and whether there is any opportunity to offer to buy the equity of employees. )
Assuming that there is no opportunity to realize the equity such as listing, can your equity be sold in the private equity market?
Does the company have equity or creditor's rights financing and enjoy liquidation priority of 1 times or more? (Investors may get more than 1 times the liquidation priority, which means that these investors will use this multiple to cut the cake before others get any distribution. )
Does the company offer longer exercise time for options? After joining a startup company, I found that most people's exercise window is 90 days after leaving their jobs, but not all of them do. Unfortunately, after joining the company, you lose the bargaining chip, and it is difficult to ask for an extension of the option exercise window. )
Jane Law Help Comments: If we look back at the current situation of employee motivation in China startups, the list to be listed is much longer than the above list. For example, are there any special incentive documents or verbal commitments for equity incentives, or written commitments written in unrelated documents such as work reports? We are in the "equity incentive is also a double-edged sword! In the article "Analyzing the Correct Way of Stock (Term) Incentive with Judicial Examples", this paper analyzes the present situation and problems needing attention of China's equity incentive from the perspectives of employees and companies, combining with real events and court cases. Interested readers can have a look.
After asking these questions, people will inevitably think that you value money too much, or that you are not elegant enough, but you must do so. Today's "you" need to protect tomorrow's "you"
Three. abstract
Working in a startup can be fun, rewarding, interesting and even financially rewarding. The working conditions of Silicon Valley companies are often the best in the world. It is conceivable that you may want to stay there even if you don't have a chance to get rich returns. But don't forget that in terms of fairness, employees are often at a disadvantage in the rules of the game.
Your correct valuation of options should be zero, and you should treat options more as lottery tickets. If options make you rich, that's great, but you have to make sure that your labor remuneration is acceptable, which means that even if you don't have options in your contract, you will still choose to join this startup.
This is not only because the startup you work for may fail, but also because even if the startup is successful, it is often difficult to cash out the equity in your hand. For example, if you want to try something new in five years, or want to start a family, you need a job with a stable income so that you can buy your first suite in the Bay Area. The book value of entrepreneurial options may embarrass you.
If you are hot enough in the talent market that you can freely choose a listed company with good liquidity or a unicorn with a valuation of one billion dollars, I suggest you seriously consider the choice of the former.
Disclaimer: Some opinions in the original author's article may be a little extreme, but they do reflect some problems of Silicon Valley startup options from the perspective of employees. The simplified method is helpful to be faithful to the original text as much as possible, and is analyzed in combination with the legal and entrepreneurial environment in China, hoping to provide readers with a multi-faceted perspective.