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Fixing the Inequity of Startup Equity

By Harj Taggar on Mar 5, 2016

Fixing the Inequity of Startup Equity

tl;dr Short stock option exercise windows suck. They force startup employees to make hard decisions, and often rob them of fairly earned compensation. We’ve created docs that companies can use to give their employees 10 years to exercise their options. YC will recommend all their startups use these documents going forward. We’re advising Triplebyte candidates to favor companies making this change, and we’ve already convinced 12 companies to pledge to do this.

Stock options are valuable compensation for startup employees. The high potential upside of these options motivates employees to turn down larger salaries at bigger companies and work at startups. It seems obvious, then, to expect that employees should own their vested options outright, even if they leave the company. Stock options are compensation for work that’s already been done. Returning them to the company when you leave would be inequitable.

Unfortunately, this is exactly what often happens. The industry standard stock option agreement gives employees 90 days after leaving a company to exercise their vested options, or they are returned to the company. Many employees don’t have the money to exercise their options within such a short window and lose them. To fix this we’re announcing three things:

  1. We’ve worked with the team at Ironclad (YC S15) and Nancy Chen at Orrick to create the Triplebyte extended window stock option plan. This is standardized paperwork any company can use to give their employees 10 years from grant date to exercise their options. You can download these directly here or use Ironclad to set up and manage them here.
  2. We’ve been encouraging startups to make this change and are publishing a list of YC companies who offer an extended exercise window here. Currently 14 have already implemented an extended window option plan, and 9 have pledged to do so using our plan. More companies are in the process of deciding and we’ll be updating the list as they do. We’ll be encouraging Triplebyte candidates to weigh this heavily when choosing companies.
  3. Y Combinator has agreed to recommend that its companies use the Triplebyte extended window option plan documents when they form an option plan, beginning with the current Winter 2016 batch.

If you’ve been an employee at a startup, you’ll know this issue is important and causes stress in two ways.

(1) To exercise the options, you need enough money to cover both the exercise price and the taxes you now owe. In the case where the company has performed well and the valuation has increased (i.e. when people care most about their options), this will be more money than you can afford, unless you’re already wealthy.

(2) How do you know if now is the right time to exercise the options? The company may still be years away from a liquidity event, with some uncertainty remaining over its future outcome. Investors in the company are diversified and can absorb this uncertainty. You can only work for one company at a time, with all your eggs likely in this one basket. The stock is also likely illiquid right now so you can’t sell some to recoup your cost of exercising.

So now you’re left with three choices. Give up your options, stay at the company longer or scramble to find a financial solution quickly so you can afford to exercise the options. As Sam Altman wrote, this is an unfair situation and needs to be fixed.

At Triplebyte, we spend a lot of time talking to engineers who are thinking through startup job offers. They’re becoming increasingly savvy about how stock options work, and ask thoughtful questions about the mechanics of options. We also see an outsider’s perspective on this, as we talk to many engineers from non-traditional backgrounds who are based outside of the Valley. Invariably when we get into discussing the details of options, they are surprised by how quickly they’d be forced to exercise their options if they left a company. We agree with them. It’s not a fair situation to put someone in. People should stay at a company because they want to, not because they feel locked in by fear of loss.

There is a growing trend to fix this inequity by increasing the post-termination option exercise window for employees. This “option extension” gives you more time to exercise your options, which increases the likelihood there will be a liquidity event to help you pay the exercise price and the tax triggered upon exercise. Quora, Palantir, Pinterest, Asana and Coinbase have all increased the post-termination option exercise window for their employees. This is the future and we’re going to accelerate this trend to make it the industry standard to give employees 10 years from getting their options, to decide whether to exercise.

As a company, if you haven’t already implemented a stock option plan, adopting the increased exercise window is simple. You can just use our documents.

If you have an existing option plan in place, amending it requires thought and analysis of the tradeoffs. We’ve created a summary of the gory details on both the business and legal aspects here. Our goal is for founders to use this to have an informed discussion with their counsel and make a decision. What we want to make clear is that it is possible to do this for your existing employees by amending their outstanding options and adding a longer exercise window to them.

Much has been written about this issue in the past but not enough has changed. Most companies continue issuing options with a 90 day window. Employees are often either not sophisticated enough to ask about this issue, or are reluctant to ask a company to incur the expense of paying lawyers to draft new and complicated paperwork.

We’re applying the three forces we believe will make a real change (1) standardized paperwork accessible to all, (2) public recognition for companies who have made the change, (3) educating employees about the issue. We expect increasing the exercise window to become a necessary condition for startups who want to hire the best people, which is ultimately what their success depends on.

Thanks to Sam Altman, Carolynn Levy, Jonathan Levy, Jason Boehming and Nancy Chen for reading drafts of this post.

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