Startups often lure in star employees with the promise of equity. Why? A lot of startups are short on cash but can issue shares at will and have equity to hand out.
I recently helped a client negotiate his full-time employment agreement with a newly funded startup doing exactly that: providing equity in lieu of higher compensation. We normally deal in freelancers, but increasingly we are being asked to lend our negotiating skills for full-time employment contracts. In the words of our client, “the agent is emotionally detached from the negotiation, and so can provide much more rational advice and action than I could on my own.”
In this particular case, we had already worked with this gentleman for years, and it was my pleasure to help.
The company was a newly funded startup, and the basic terms of the deal he was offered were perfectly acceptable:
- Salary was ~35% below his market rate as a chief technology officer (CTO).
- The low salary was being offset with a reasonable chunk of equity.
When I dug deeper into the structure of the deal and the kind of equity being offered, I was concerned.
First, I discovered that the company was not offering equity but rather options to purchase equity.
Second, the options being offered were in a different class of equity than the founders.
Third, the terms on the option plan required that the employee exercise their options within 60 days of leaving the company. So my client would have to purchase equity without knowing if the company will be successful and if the equity will have any value.
We were not okay with these terms, and we offered three solutions:
- The company pays for the options to be purchased, saving the employee the cost of exercising and de-risking them.
- The company lends the money for the options to be purchased until they can be liquidated.
- The company extends the option period for 10 years (instead of 60 days) so the employee doesn’t have to exercise his option until there is a clear value for them.
The company rejected all three solutions. Even when presented with practical research, we ran into a wall. When you are dealing with a hardball negotiation and facing unfavorable terms, it is crucial that you – the wouldbe employee – take charge and either walk away or bring in an agent to help. It is easy to think that stock options won’t matter in the long run, but why then take a lower salary in the first place? Why take a lower salary for a lottery ticket if you can’t win with the ticket?
With my help, we eventually reached an agreeable compromise. The company agreed to a 5 year exercise period. In other words, once our client eventually leaves this employer, the client will have five years to decide whether to exercise the options. This makes accepting a lower salary more logical.
Regardless, the company’s initial reluctance to compromise signaled poorly to our side. At best it signaled a culture of rigidity; at worse, it implied employees are meant to be exploited. Who wants to work in an environment like that?
Your employees are the key to your success and finding good ones is very hard. When you finally find someone with the right skills and the right culture fit, you should work to bring them in feeling good and committed to your mission. If you make a mistake, you have recourse.
Smart entrepreneurs know that finding good employees is not possible without fair, clear, and mutually beneficial deals. They should not take advantage of wouldbe employees with shady deals and convoluted contracts. If you feel like you’re being taken for a ride, consult an expert or seek outside help. Ask around about other comparative deals. You might be amazed at how much you learn.
At 10x Management, we work with smart entrepreneurs who wish to prioritize both speed and quality via best-in-class freelancers. They don’t rush hiring decisions (4-8 months for many W2 searches) because they know hiring is too important to shortcut. So they engage freelancers to move quickly while running a good parallel hiring process to get the right full-time employees. None of that is possible without fair, clear mutually beneficial deals. The cash components of those deals typically are easy to follow – the equity, not so much.
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