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Comment by danrocks | Hacker News Reader

Not joining one startup whose worth will be $0 in the long run is not enough. One needs to evaluate another type of exit that, in fact, is much more common that an IPO: acquisition by another company. In that scenario, you've worked hard for a number of years, the company will be sold for hundreds of millions of dollars, and you still probably will end up with nothing. The name of the game is "liquidation preference".

I have been through one of these scenarios and it's incredibly taxing and stressful: all that work, company selling for a boatload, and all I got was a lousy T-shirt.

https://marker.medium.com/my-company-sold-for-100-million-an...

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A bunch of early engineers i knew made less than 100k when their company got acquired for $320m cash.

Down rounds and preferential stocks are not fun

I was a late joiner at a near-IPO startup, and did better than I’ve ever done at an early stage one. Even then, I’ve done way better with post-IPO RSU refreshers than with the pre-IPO options. It took years for our publicly traded price to hit what management delusionally (or dishonestly) messaged us as our options’ worth pre-IPO.

I remember a conversation when we got new ISO grants, that they might be worth $X, based on blah-blah-blah, but they’ll be worth at least $2X soon because we’re growing, so really you’re getting $2X! Which doesn’t even make sense to me if we’re going to view today’s price as a discounted future cashflow. Anyways, we’re finally trading at $X today, years and years after IPO.

Moral of the story is that the people budgeting how much to pay you will engage with incredibly wishful thinking when deciding how much to pay you if they can. “Sure, Z shares seems super generous, right? We’re a rocket ship!” But when the market decides how much a share is really worth, they can’t screw you by pretending they’re paying out more.

I’m only working for public companies from here out. And none of those 1 year grants that seem to be popping up.

i know an early engineer who worked for a well known founder 10 or so years ago.

The company was sold to a large tech company for like 350mil but what happened first is the VCs/founders created a new company and sold the IP from old company to new company and sold the new company for the 350mil leaving the employees with a worthless company.

So also trusting the founders and the VCs they choose are in my opinion more important then any equity grant offer

Jesus, name and shame. That kind of behavior should follow those founders like a sign hanging from their neck saying "don't work for me."

That would be a fairly straightforward lawsuit as a company cannot intentionally defraud its own shareholders.

If the employees had options they weren’t shareholders (yet)

That's a straw man argument. If you had an interest of any kind in a company, and someone screwed you, you can sue. In today's environment, companies will settle even if they have a good case, let alone if they are likely to lose. Plenty of lawyers will take such a case and get paid in a contingent fee arrangement.

Hey, my old cofounder just did this to me!

I made $10k on a $138m sale and $50k on a $125m sale. I am that early Engineer you speak of.

I lost $8K on a $40M sale. Lost another $10K when a company "extinguished" prior shares (they are now worth $7B).

This is basically legalized gambling with a house that's allowed to have a rigged table. If you want to do well, become a senior engineer at a FAANG.

But was this a surprise to you? Did you expect to make more money from the sale of the company, and if so, why?

Because most of the shiny things in SF were paid for with equity. And there are plenty of shiny things in SF. I am not saying you should work for equity, but I think you should realize why the real estate is as expensive in SF as it is. There are plenty of times when people got screwed over, and there are also - fewer, but enough to move the market - people who didn't. So when you ask the question "how could you have been so incredibly stupid to believe that equity is not worth $0," you just have to look around yourself and ask "how come that zillow lists so many properties for over $10m?" You shouldn't count on your equity returning anything, but you also shouldn't listen to people who take an overly unhealthy view at the potential upside.

I’m willing to bet good money that the real estate in the SFBA is driven much more heavily by FAANG stock than startup stock…

Startups mint multi-millionaires. FAANG does it at scale day in and day out.

Even at FAANG, not enough people have the seniority for their base salary to turn them into buyers of $10m homes. I appreciate your point that RSUs are different from options, but I still think it's indicative that cash rarely comprises the majority of the wealthy people's income.

Oh, fully agreed that cash rarely comprises the majority of wealthy people's income - but my point is that most of the tech wealthy in the SFBA comes from FAANG equity wealth, not startup equity wealth.

Startups exits sometimes make a handful of people mega-rich, but as this thread has revealed, making ordinary employees rich is quite rare. Not so rare are the people who hang out at FAANGs, collecting large amounts of equity, and riding the industry up. And yeah, the wealth in this case is typically not of the level to buy $10M homes, but $2M homes?

Once in a while you have a founder who strikes it rich, but that effect is overwhelmed by the more numerous folks just riding $GOOG, $AAPL, $FB, etc. to multi/deci-millionaire status.

Sorry, I wasn't suggesting anyone was stupid for believing the hype that founders use to punt their stocks. What I was trying to get at was whether you had an idea of the valuation of the stock relative to your exercise price. If so, and that looked good, what happened to your company for it to sell at a low price?

Gotcha, I misunderstood.

Did you know the cap tables at those companies?

I don't think anybody knew the cap table for those companies. To be more precise: one of them didn't even have a cap table, the other was a secret between the lead investor and the original owner (an incubator). Needless to say nothing was disclosed to engineers, or any one of them for that matter. Even in this state, both companies raised a shitton of money.

This is what had been surprising to me in my experiences... first few startups the cap table was shared info but no specifics (investor pool 33%, employee pool 7%, etc) so at least you knew the rough outlay.

Then one recent startup was championing transparent salaries but wouldnt share anything about the cap table which seemed odd to me.

My current company the CEO answers questions about the stock outlay but not specifics but also doesnt claim to be transparent.

I just assumed from my earliest experiences most small companies were happy to explain the cap table and walk folks through dilution events.

Cap tables can change very quickly too. Even if you know at the beginning, you’re not privy to any changes later on.

Sure. More the reason to have a rough representation that is public in a transparent company.

Cant make good decisions without full information.

> To be more precise: one of them didn't even have a cap table

A cap table is a representation of ownership. Saying a company doesn’t have one is like saying I don’t have a height.

So you’re infinitely short? Joking.

What I meant is that the cap table was not disclosed and changed so often that nobody really knew what it was at a given moment in time.

Were you given a signing bonus to stay on after the acquisition?

Made 15k on a 100m+ sale, was at the startup for years.

I’ll stick to RSUs.

Saying you helped exit a company seems to go over well in interviews though.

Why is an RSU better than other types of shares, and how does it avoid this kind of dilution/backstabbing by founders? Honest question!

RSUs (restricted stock) can be granted to employees if the startup is very very early because the par value of each share rounds down to $0.

If you join a company that just had a seed or Series A, the par value would be much higher, and if you were granted RSUs, you would need to buy the shares at whatever they’re valued at, which can be a lot if you’re buying 1% of a $10mm company (compared with a stock option which is simply the option to buy stock at a later date).

RSUs have voting rights and is usually the same stock founders have.

That’s said, an investor (or a founder for that matter) can come in at any time and rework the whole ownership structure by simply increasing the authorized share pool in a company from (let’s say) 10 million shares to 100 million shares, and then grant all of the newly created shares to other entities, thereby cutting the value of all other shares by 1/10.

A lot of it comes down to what investors force startups to do when they accept VC money, and also how ethically and morally the founders act from the perspective of employees with stock interest.

I’m a CEO and when I hire people, I’m very generous with stock options, but I tell people upfront they’re just lottery tickets. That’s really what they are.

IANAL, but there are two "problems" with this claim.

One is that "just create a bunch of shares and only give them to the founder" is true, but has tax consequences. (In your example, you just gave ~90% of the company to the founder at valuation $XM. Whether as options or as Restricted Stock, there's going to be a tax consequence to that either at grant or during vesting). A dishonest founder might do that, but they'd have to believe it was going to work out in their favor beyond just "I already have 40%, let's increase the value of the company".

Second though is that the Founders, usually as CEO and Board Directors, have a fiduciary duty to their shareholders. Even if you have full control of the voting rights, reallocating all the equity is a violation of that fiduciary responsibility. The injured parties have to sue you for it, and that might make the company equity worthless, but just because a company is private doesn't mean "anything goes".

Is there any kind of clause or legal structure that would prevent the kind of alteration to ownership structure you describe above? It seems like you’re saying anyone can do anything at any time. That’s scary and I feel like we need laws against that, or a different structure for representation of workers.

> anyone can do anything at any time.

This is largely true at any smaller seed maturity or even Series A maturity.

As a sibling commenter mentioned, companies do have a fiduciary duty. But realistically, if the shareholders are composed of relatively unsophisticated investors/employees, you can do anything without being sued.

I obviously don’t subscribe to this kind of behavior at my own company, but being in the position it has opened my eyes the extent to which one could go if you were very greedy.

I take RSU to mean “RSUs in a publicly traded company” - i.e., the value of the shares is well known and the sort of “sell the IP and fuck the employees” shenanigans is much harder to pull off.

You can get RSUs in private startups which doesn’t mitigate the risks being discussed here. That said there are still benefits to having RSUs over options (i.e., 90 day exercise window).

I also take it to mean RSUs in a public company. I wouldn’t want RSUs in a private startup because I couldn’t sell them, but I’d still take the tax hit as they vest.

The availability of double trigger RSUs help mitigate that

RSUs are actual stock that can be sold on the market. Options are the ability to buy a share in the future at a given price. One is real money now and the other is maybe money later.

Isn't this just a way of saying "work exclusively for public companies if you value equity"? You will not be able to sell private company shares on the market.

But I think you’re ignoring the liquidation preference discussed at the top of this thread: surely RSUs have the same junior rights as the shares from options if the company is acquired. One difference is that people are generally required to exercise options (and pay taxes on that) before they leave the company. But you also talk about selling RSUs on public markets so maybe you are thinking of something else?

Private companies sometimes give out RSUs. For instance, Uber did pre-IPO.

If your RSUs vest when your company is still private, you’ll owe taxes but not be able to sell the shares for the money you’ll need to pay the taxes. That sounds way worse than options.

The most common way to issue them is so-called "double trigger" vesting where you have both a) a service requirement (the time) and b) an event required (like IPO or sale). Since you have risk of forfeiture if IPO/sale does not happen, IRS does not deem vested (and thus taxable) until both triggers are satisfied.

I didn't say it was better! I was just pointing out that "RSU, therefore liquid" can't be relied on.

Solid

Qualtrics gave engineers RSUs in 2015 when they were still private.

I have learned my lesson. Been at large company with fat RSUs for 5 years now.

Which is why it would be entirely reasonable for someone who is granted stock as part of compensation to do a full diligence on the company before accepting the terms. Companies deliberately offer options knowing most people simply won't and thats how they get away with it.

I joined a private company a couple of months back. They gave me Options, but they made it clear they were "monopoly money" and gave me no ability to evaluate the value of the options - I accepted the offer EXCLUSIVELY based on the salary

Friend was the founding engineer at startup that did quite well. Eventually sold for 100s of millions, and yeah, he didn't see a dime.

Always discount those options to 0, and make sure you're getting a good salary.

I’ve seen this term around lately. What exactly is a “founding engineer”?

Is it a euphemism to give early non-founder employees a title that sounds like founder but with minimal corresponding equity?

It is completely arbitrary. Arguably, all roles at seed stage or earlier are arbitrary.

Yes, and usually pretty bad salary. I haven't seen any comment mentioning it, but it's another way to get screwed when joining a very early stage startup.

The 1st engineers join pre-series A, get pretty low salary with the promise of making it big when the company goes public or is bought. Then more engineers come on board when the company has more resources after a few other rounds of funding and they get a salary much closer to the market.

A neat thing about the job is you probably get to exercise early and save taxes on your equity if it actually pays off.

But yes, it's not worth that much more than joining a startup later, and it'd be foolish to evaluate it differently. It's fun, but if you don't have real founder equity don't trick yourself into working longer hours than you would at a regular job.

It varies. Co-founder's are "supposed" (according to YC) to have a 10% or larger original stake in the company but people will throw the title around anyway. Likewise founding engineer could be an IC there from the begging with several % in stock or it could be a meaningless puff title.

To clarify: first engineer.

exactly

It seems to me that investors have figured out other ways of zeroing out startup employee equity, too.

I think the days of people getting rich from working for a successful startup are over.

Some data to back up your argument would really help here. The VC market has never been more founder-friendly, and the amount of VC invested is at an almost all-time high. Additionally, last year was the 3rd highest in the last 20 years for the number of IPOs. So just because you found yourself in an overly negative HN thread shouldn't skew your view that the chances of doing well are higher now than ever before (which is not meant to imply that they are high on an absolute level, but certainly in comparison to prior years).

Why does “The VC market has never been more founder-friendly” contradict the statement above that the outcomes are not so good for employees (who aren’t founders)? Perhaps the VC market became founder-friendly by transferring upside from employees to founders. Or perhaps some other mix.

A founder-friendly term sheet is not necessarily an employee-friendly term sheet, but a founder-unfriendly term sheet is 100% of the time bad for employees as well (low valuations, liquidation preferences, etc). All things being equal, as an employee you want to be in the company where the founder is laughing all the way to the bank.

for starters, there's this for IPOs (or lack of IPOs)

https://steveblank.com/2019/04/10/startup-stock-options-why-...

also, anecdotal, I've seen it happen. I was at a recent startup that got bought. I was employee 15. Somehow, the ISOs got set to $0 worth but the founders made out like bandits with their preferred stock.

It seems like there should be a law requiring this to be explained in plain terms at offer and each month to options holders. For example they should show you a graph with the x-axis as exit valuation and the y-axis as "your payout". Those are the numbers that really matter to most employees.

There's no law, but do not accept an offer at a startup where the founders / leadership are not willing to explain this to you whenever you ask.

Yes. There is a lot of confidentiality built into some of the financing terms. Befriend the CFO. A good one will say “If sell for X, you will own Y% of the company, which will be worth Z to you” and they can give another few scenarios too. “We need to clear A in valuation for employees to get anything, and at Y you get a little”

Other rough heuristics:

- Down rounds tend to punish employee shares.

- Pivots that require large equity tend to be bad for employee shares.

- Large rounds relative to valuation ($700mm for a post money valuation of a billion) make a much higher future hurdle to clear - bad for employee shares.

- PE rounds tend to be worse than VCs. (VCs tend to worry more about upside, while PE firms push for downside protection)

All of these general rules have many exceptions.

> Large rounds relative to valuation ($700mm for a post money valuation of a billion) make a much higher future hurdle to clear - bad for employee shares.

Is that a scenario where the company has a pre money valuation of $700m and accepts $300m in funding? Why is that a bad thing? Sorry if this is a naive question.

> PE rounds tend to be worse than VCs. (VCs tend to worry more about upside, while PE firms push for downside protection)

Is this a binary thing or do investors exist on a spectrum? I’ve also heard another label, “growth equity”, which sounded a lot like venture capital to me.

And are those rounds necessarily worse? Is it about the PE firm selecting deals to fit their risk appetite or is it more about them inserting clauses that are harmful to common share holders (not sure what the right term is but I mean regular employees).

Good questions…

Scenario 1 is $300mm pre, $700mm in investment, $1bln post. If there’s are strong preference rights, you need a multi billion dollar exit for employees to get anything.

PE vs VC isn’t binary, it’s a spectrum. VC firms generally don’t care about so-so outcomes. So they give up downside protection for upside. (They give up preferences to get a higher share of the company, which reduces valuation)

On the flip side, PE firms are trying to make as return on every investment. So they’re ok with crazy high valuations as long as they get liquidity preferences. Which means in so-so exits they get most of the money.

This is an oversimplification and, as written, is not quite right. It doesn't matter whether the company is acquired outright or floated on a stock market. If the company has a well-structured employee options scheme, then either of those events should be classed as an 'exit' event and the employees' options should be automatically exercised and sold, giving them the net gain in cash on that day.

As for preference shares, most VCs try to get that. They can be negotiated away by the company management sometimes. If they remain, they come into play in situations where the company isn't successful - where the shares are sold at a lower value than they were bought for. The preference gives the VCs to get their money out first, and leave the scraps for the others. Usually the others includes the founders who are similarly shafted - but then again they evidently didn't build the value of their company very successfully and they signed the deals.

VCs often get shares with (e.g.) 3x liquidation preference meaning that they should leave with max(3x value invested, num_shares x sale_price / total_company_shares), or less if the company didn’t sell for enough money to pay out that tranche and the more senior shares. For VCs, the point is that in a failed company, they get 0. In a medium-success they get up to 3x their investment a bit like buying a bond for 33¢ on the dollar, and in a massive success they get equity-like payout.

The problem is that if a company has a lot of shares outstanding with a high liquidation preference then outcomes that look like success to employees or founders may not result in those employees making much money, and the employees generally don’t know the relationship between how much the company is sold for and how much they get paid because it is confidential to the senior executives or investors.

Often? I agree that liquidation preferences are often overlooked by startup employees but I wouldn't say 3x is common or generally acceptable.

The National Venture Capital Association (NVCA) benchmarks[1] show that over 95% of term sheets across all funding rounds include a 1x liquidation preference.

[1]https://nvca.org/model-legal-documents/ (it's in the Enhanced Model Term Sheet v2.0)

A 3x liquidation preference is anomalous. Pretty much every term sheet I see is an eminently reasonable non-participating 1x, which is a de facto standard term these days. If liquidation preferences are consistently higher across startups then it is a sign of an unhealthy investment market.

I think there are two problems here. The first is that what is “standard” is not very well known, so candidates considering startups are operating with little in terms of default assumptions and expectations. Is there any resource that describes what the default even is?

The second problem is that companies are never transparent about any of these things. If you ask, you get funny looks or continued evasiveness, and candidates are left with only part of the full picture anyways. From other comments here it seems that even if you run through a checklist of questions, the company’s structure could drastically change in a subsequent funding round of some such event. And if that’s the case, does knowing the current state of affairs matter at all?

In my (UK) experience, a 1x liquidation pref seems requested. 3x seems unpalatable. Maybe things are different in the US west coast. (It's certainly easier to raise money there, so perhaps the terms are harder as a compromise.)

You're right that employees with options don't get enough information to understand the value and potential value and mechanisms of their options in private companies. That's what I was driving at (poorly) in a separate comment.

No, even in the US West Coast, 1x is what's typical. Anything more is non-standard.

3x would mean something is wrong with the company.

Back around 2012, I made 10k cash + stock that would eventually net me around 30k on a ~50 million acquisition. I had been at the company for less than a year. I was employee #50 or something. This sounds like a much better deal than anything I've seen down thread, and it was actually serious money for me at the time.

Honestly, I think this just comes down to the moral character of the founder(s) in the company. If you have a good way of assessing that in the interview process, then maybe take it into account? Doesn't sound easy to do though.

You should do your due diligence on the business and financing to avoid this situation, and unless you have a ton of equity, you should hedge your bet on multiple companies if you’re trying to make high ROI and you aren’t feeling confident that’ll happen in your current gig.

“Start-up” is a bit of a disingenuous term when using to compare with FAANG, because one refers to a class of high performing public tech companies, and the other is a catch all for small businesses.

I know chronically broke start up folks, faang millionaires, and a group of people who seem to to know how to play the startup game and are extremely wealthy, so YMMV.

I’ve received offers from a bunch of startups over the years. None of them would disclose their cap table. Most of them even refused to tell me the total number of shares outstanding.

Are people getting enough info for any kind of due diligence? Do people know how to play the game or did they get lucky?

Don't work for companies that offer equity as a significant component of their compensation and won't tell you shares outstanding. That used to be somewhat common, but I can't remember the last time a friend of mine got an offer where that was the case. It's a red flag.

For a privately held company the number of shares outstanding, on its own, isn’t enough and really doesn’t tell you much. Your shares are almost certainly not the same as other people’s shares and you need to know what those differences are. Other people likely hold shares that have terms like “I get paid 3X my investment before anyone else gets paid.” Or other terms that make the total number of shares not that informative in knowing where you really stand. If someone’s not sitting down with you and laying everything out on the table then it’s almost certain there are things they don’t want you to know that make your offer significantly less attractive than what it might appear in face value.

You can ask about liquidation preferences as well. Anything above 1X is above market and, again, a red flag.

Is there a list of these red flags to watch out for or ask about for startups?

I’m not agreeing one way or another about needing cap table in detail, but if the company isn’t giving you the information you need to evaluate an offer after you request it, then don’t work there.

As for luck, of course there’s some risk component there, otherwise the ROI wouldn’t be higher, but it’s not a dice roll unless you let it be.

I’m biased. I was part of lackluster exits, failed startups, and dead-end startups that will forever raise more money. I learned a lot of valuable lessons the hard way on how to evaluate companies, and have since been able to pick winners when I look to change jobs. The other thing that goes unmentioned is once you “win” once, your risk tolerance might change, or your patience to wait for the exact right next opportunity may increase significantly.

I think you can ask yourself if you’d invest 500k in this company (or whatever assets you have up to that), and if you value your time more than your money, that should tell you something.

Do you need the whole cap table? Presumably, common shares outstanding, preferred shares outstanding and the total dollars of the overhang of the preferred shares should be sufficient. Assuming that options are correctly accounted for in that number (that is, if people cash in ITM options)

I’ve yet to meet a start up that would disclose that much, but this is only my personal experiences

Isn't that the minimum you need to evaluate how much, if anything, equity is worth?

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