In the past two decades startups have become one of the dominant forms of doing business. Employers like stock options because giving employees the opportunity to own a piece of the company may make them feel invested in it and help keep them around. But once you have options, what do you do with them? Given how many startups go bust, how should one decide whether to make that investment? If the company has a successful exit, either because they are purchased by another company or go public, then the stock has a lot of value and you can exercise it.
But if you leave a company before it either goes bust or has a successful exit, your calculation takes place in more of a vacuum. What are the odds that paying up now will land you a windfall later? If there is a non-compete—i. Can you afford it? Determine what portion of your shares have vested and what it would cost to exercise them. More on calculating that below. Evaluate this as you would other investments. Does the company have paying or, even better, profitable clients? Does the team work well together and deliver on schedule?
Is there market buzz? Is the company meeting its benchmarks? If the answer to these questions is yes, that bodes well for a good exit. But also estimate the wait for a potential initial public offering or sale. Will there be any money leftover after the investors get theirs? If you can, find out these terms and try to calculate what price tag the company must hit in order for the investors to be paid. Could your shares be further diluted? If the company needs more funding, its new valuation could make your shares worth more.
On the flip side, the number of shares could also grow, diluting yours. In a later round of funding, they got consolidated to 1, leaving him with A subsequent round of another to 1 consolidation left him with 0.
This type of occurrence is relatively rare, but more common in startups in capital-intensive industries such as biotech that can take a decade or more to mature. The question is whether the growth in company value will be faster than the increase in the number of shares. If the valuation is already high but the company will need more funding, the boost in valuation might not outpace the dilution of shares, so your future shares may be worth little.
Would it still be worth it after taxes? The two main types of stock options are non-qualified stock options, which are less desirable, and incentive stock options, typically reserved for executives. If you can, exercise when your income has exceeded the threshold to avoid paying that tax.
Selling the stock will result in another tax —this time a long- or short-term capital gains tax based on whether you have held the security for more than a year or a year or less. In the end, unless your budget gives you a clear answer or the company is close to exit and you know how the likely terms would affect your shares, whether or not to exercise your options is a game of probabilities, and if you decide to play, you should be just as willing to lose as to win.
By Laura Shin 6 minute Read. And with that, comes a new question for employees: How to deal with stock options? Are there any non-compete-type provisions in your options plan?More...