At least 50% of startup stock options are now worthless. Most employees don’t know it yet. Here’s what you should know about stock options if you work at a startup:
For stock options to be granted without tax consequences, they need to “strike” at current fair market value. When a company does a big financing round, that value goes way up. Company does a 409a valuation. Usually common stock values about 30% of new financing price.
Ok, so your startup was valued at $5 billion last round, that means your options are worthless if the company is worth less than $1.5 billion. (30% of funding price) Investors buy “preferred stock”. So they still get their money back if company sells for less than $1.5 billion.
Of course, the super high valuations last year were crazy. If your company went out today maybe it could *only* raise at $500 million. But that is too embarrassing for the founder and makes VC have to do a markdown. Company still needs money, so they take convertible debt.
Now they are loading debt on the company and gambling for resurrection. All while your high priced stock options end up further and further out of the money (because common gets paid last). What to do as an employee in this situation?
1. Demand transparency. How much has company raised? does it have any debt? What value could it raise at now? 2. Ask for a new 409a and more options at a lower strike price. 3. Unfortunately, you probably gotta leave if they don’t do 1 or 2, unless it is a rocket ship.
Good management will be way in front of this on behalf of employees. Unfortunately, they are big incentives for management to bury their head in the sand and gamble for resurrection. One more good reason to work with leaders with integrity.