How much should share options weigh on your decision to join a tech company?
It’s the dream — you join a tech company at the base of their hockey stick growth, every monthly meeting Champagne bottles are popping as the sales and adoption of the product exponentially grow. A couple of years go by and an IPO makes you an instant millionaire, now free to fulfil your dreams of travelling the globe in First Class …..then you wake up.
Nothing wrong with having a dream, it has happened before (remember the artist who painted Facebooks first offices?) and will continue to happen for a small number of very fortunate people. This is why in Silicon Valley software engineers are extremely savvy when it comes to understanding and negotiating equity.
“So should I disregard share options when weighing up my decision on which company to join?”
Most definitely not!!
Having share options makes you a part owner in the company (this is after something called a vesting period) so everyday you contribute and add value to the company you personally benefit.
It is great for camaraderie, everyone around you is personally vested and therefore it can (not always) create a supportive culture where personal achievement is superseded by what is best for the company.
To be clear however you should NEVER join a company purely based on equity, regardless of how attractive it might be if you don’t believe in the product, the people, if their values don’t align to yours, or if you’re being shoehorned into a role you don’t want to do.
Why?
Firstly share options have vesting periods, typically a 2 year cliff (this means after 2 years you can exercise the option to buy those shares) followed by an extended period where the remaining share options continue to vest.
If you join a company you have to stay for at least 2 years to reap the benefits. Do you want to be unhappy, unmotivated, frustrated, stressed for 2 years for shares that you have no guarantee of their value?
Mark Lazarus - Director at Lazarus Legal gives us a breakdown of the key components of shares / share options to look for;
What are share options? More commonly referred to an ESOP (employee stock ownership plan), is a scheme used by startups/companies to incentivise its employees. There are various forms of employee share ownership schemes, the main types of schemes include, Share Schemes i.e. participants buy shares; Option Schemes i.e. participants acquire options to buy shares later.
Vesting period — Options will usually vest based on a number of variables, including the length of service to the company, meeting milestones/objectives etc. Vesting refers to the amount of time after which one can act on and sell their shares. Generally, the standard time frame is anywhere between 3 -5 years, with options vesting at various intervals during this period.
Sometimes the vesting period will only commence after a certain period i.e. one year. This is known as the “cliff”. If an employee or party who has been granted options leaves the company before this period, they will lose their options.
The strike price — also known as the Exercise Price sets out the price you must pay to exercise your option.
The exercise price is usually determined by the fair market value of a share in the company on the date the company grants the option. There are various methods for calculating the strike price/fair market value of the company, including the Safe Harbour Valuation Methodologies.
Selling shares — Before considering selling shares, you should obtain legal and tax advice, particularly around possible startup tax concessions. Generally, you will need to hold onto your shares for at least 3 years to benefit from the ATO’s startup tax concessions.
If there is an exit event contemplated by the ESOP i.e. a listing, business sale or share sale, you will need to consider the terms set out in the ESOP plan rules. As a general rule of thumb, the company’s board will have discretion to determine how to deal with an employee’s options during this time. The usual position is to either buy-back or cancel the options in exchange for their fair market value at the time (this may even include options that have not vested) OR inform the employee of the number of options that will vest, and then make arrangements for the employee to exercise the options before the exit event.
For advice tailored to your personal situation contact Mark directly — mark@lazaruslegal.com.au
What factors affect the potential value of shares?
Stage — This would be the stage at which you join a company. The earlier the stage, the higher the risk the business fails however the rewards are far greater.
- Finding Product Market Fit — the earliest stage
- Pre revenue — traction with the product
- Revenue generating — proven product
- Growth — sustained increase in revenue
- Market saturation — single digit growth or consolidation of market share
TAM (Total addressable market) — If the product or service is niche or is restricted to a geographical location then there will be a smaller revenue opportunity than a global product with a wide reaching user base.
Dilution — The funds the company has taken from investors for equity in the company.
A key indicator here is the percentage that the Founders of the company retain, the higher percentage ownership, the less diluted and the higher the probability your shares with be worth more in the future. Don’t be blinded by huge capital raises!
Final thoughts.
Find a company you believe in, find an environment where you’re challenged, you can learn and grow, you can do amazing things and should that lottery ticket land then book that dream holiday, if not those shares might still be enough to pay off your mortgage, send your kids to University or buy that dream car you’ve been too sensible to purchase.
Work for a corporate? Whilst modest gains can come from shares you don’t have a ticket. (Check out this article on why you should ditch your corporate life.)
Join a tech company and keep the dream alive!
Check out www.techlifesydney.com and choose your ticket.
