How do Googlers manage their RSUs?

Question (Orig. on Quora):

Since RSUs makeup for major chunk of their future savings, do Googlers feel insecure about stocks dropping significantly ? For example, LinkedIn stocks lost their worth significantly overnight. Do Googlers sell immediately or reinvest into other venues or just hold onto them ?

Answer (by Dan Walter):

I think if “Googlers” as a group did mainly the same thing, the would be deemed far less intelligent than expected.

Doing the “right thing” with RSUs depends on many factors. Some of these are personal, some are market driven, some are income and tax driven and still others are driven by psychology.

Here is what the smart people do.

1) Long before their RSUs vest they take advantage of the financial education and planning opportunities offered by the company or recommended agents.

2) As their RSUs vest that look at the current market conditions, the plan put together with their financial advisor and any indicators of how things may change.

3) They also look at their current cash position, their current concentration of Google stock, and related industry stock as part of their portfolio.

4) They look at what other vesting events may be occurring in the near term future.

5) They look at any potential cash payments they may be receiving soon.

6) After all of that they make a determination to keep or sell the share delivered after vesting. This decision will be different for different people and will be different for different vesting dates.

They key to equity compensation is being well educated about your awards and the choices surrounding them.

In my more than two decades of working on these programs I have found that perhaps a single digit percentage of ALL equity holders truly utilize these awards well. It should be noted that this single digit percentage is across all companies. This means that, at many companies, the percentage is below the fraction of 1% and at others it is quite high. This is mainly due to the amount of time, effort, passion and money the company spends on educating people. BUT, individuals can get much of this information on their own, even if their company is relatively silent.

Do founders with a16z funding agree with Scott Kupor’s post on employee options?

Question (Orig. on Quora):

Do founders with a16z funding agree with Scott Kupor’s post on employee options?

The Lack of Options for (Startup Employees’) Options

Answer (by Dan Walter):

Scott’s answer is a great start to a discussion that has been needed for a long time. The lock step approach to equity compensation that is followed by most startups is not founded in any science, so it is right to question things.

But, extending the post termination exercise period to the full life of the grant is not sustainable. Most of the equity at startups is given the the first 20 (maybe 50) employees. This doesn’t leave much for any else to begin with. Without having the ability to recycle stock options (and other forms of equity compensation) companies would quickly end up with nothing to grant at all.

The accounting rules and lack of cash make it difficult, but not impossible, for the company to provide cash at the time someone leaves. It is also counterintuitive to give leavers money when those who stay cannot get money.

More successful (read profitable or very well funded) companies are looking at creating some type of market for employees and ex-employees to get out from under some of their equity. As these techniques mature I think we will see more companies extend the post termination exercise period to a length long enough to allow people to participate in the next private round of liquidity. This would probably be more fair and reduce the overhang that is a problem for any long-term pre-IPO company. It is a big problem even when the only people holding equity are employees.

I think you may also see growing use of options that have lives much shorter than ten years. These may be linked to cash incentive programs that are designed to drive exercise and hold transaction, once again reducing the burden on lower paid staff members.

Also, options were never meant to be a guarantee or direct replacement for cash. They were intended to be a reward for the commitment to the long-term success, while remaining a fairly inexpensive tool for companies. They were also designed to inspire long-term holding (hence the periods associated with Incentive Stock Options).

If a company plans to be successful with a relatively small number employees (let’s say less than 250) then long-term post-termination periods may be viable. If they company requires a larger staff, or a significant number of senior players, the “10 year exercise period” is likely to drive as many or more problems as the current vanilla solutions.

The key is this: Equity compensation is both very flexible and very complex. Companies tend to follow the leader because 1) Their lawyers like to follow plans that have already been tested in court, 2) Investors like to use plans that fit easily into their pre-made financial models, 3) Consultants often choose the easiest path to approval rather than the best path to success, 4) Companies can get a vanilla plan created much cheaper than a more “bespoke” plan that may work better, 5) Internal HR, Compensation and other related professionals seldom have deep expertise in the design elements of these programs and must therefore simply trust that those giving advice actually know what they’re talking about. There are, of course, additional reasons to follow the leader, but, like building a company, following the leader is seldom the best path to success.

What happens to employee unvested stock options upon acquisition?

Question (Orig. on Quora):

Let say I’ve received 1% over 4 years. At the end of the second year we get acquired. Now I have 0.5% in my hands. What’s happens next, assuming I continue working at the acquiring company?

Do I still get stock options of the ‘old’ company for the next two year?
Does the old company even have stocks of it’s own now that it’s been acquired?
Do I switch to getting options of the new company?
How will the value of the options I get be determined?

Many companies may sell for tens of millions and be worth close to nothing after a few months, be dissolved by the acquirer etc. I’m wondering how may my unvested stock option keep their value.

Answer (by Dan Walter):

Generally the basic for how this is handled will be described in your Plan document and your award agreement.  Here are three things to look for.

  1. Unvested portion will be assumed. – This means the acquiring company will “convert” your old grant into a new grant of roughly the same value (taking the intrinsic value of your old awards and converting them into shares at the new company’s price) and at least the same terms. You will receive updated information. Your exercise price may change. Your vesting will likely be the same, or earlier.
  2. Unvested portion will be cashed out. – This means that the company does not want to carry your equity, or may not be able to carry it (legal issues, etc…).  They will cash out any unvested equity compensation at the then current value (*Be aware that this may be $0.00). You will have income and associated taxes at the time of payment.
  3. Unvested portion will be cancelled/forfeited. – While it isn’t common, some companies set up plans so that unvested amounts simply “go away” at the time of CIC. The company is not required to provide a replacement or payment (although many do provide something)

It is critical that you read and understand your agreement paperwork.  There are many moving parts.  There are many things that may seem logical or even possible.  This area of compensation is still somewhat of the Wild West, so you need to do your homework.   This is especially true in environments where IPOs are less likely that corporate transactions like mergers and acquisitions.

Could the stock options or RSUs you receive from a “unicorn” startup be diluted?

Question (Orig. on Quora):

Of course the rsu’s can be worth nothing if the company implodes, but other than the company simply failing, is it possible for my stock to become worthless?

Answer (by Dan Walter):

Sure. Imagine the company goes through a down round financing. Imagine the new investors put a structure in place that ensures they receive their full value if the company is sold below a given price. If the company is eventually sold below this price then all of the value of the company would be paid to the latest investors and nothing to the holders of employee equity.

This is just a super simple hypothetical but I can bet that some people on Quora have real horror stories about similar transactions.

What are current (2016) best practices for employee stock option programs for US pre-IPO startups?

Question: (org. on Quora)

Answer (by Dan Walter)

Hi Alex.  Thanks for the A2a.  And thanks to Shriram Bhashyam for also recommending me.
The first thing to clarify is the difference between “best practices” and most common practices. In the realm of equity compensation the most common practices are seldom the best. I will try and cover a bit of both.
“Early Stage” has also become a term of art in many cases. In this case I will write from the perspective of a company who may have up to a medium sized B Round. Your company may certainly fall into a different category.
Lastly, before I get into details, please realize that essential ANY equity compensation data is wrong at some fundamental level. Since you are unlikely to know how another company has designed their plan, what their investors expectations are, what the releasing timeline and potential value at the time of liquidity and whether the liquidity event is focused on IPO or acquisition (*and a series of other potential factors), you may be comparing apples to hotdogs, or plastic cups. (A list of the 11 reasons your equity compensation data is wrong)
The most common practices in the Silicon Valley (another assumption I am making, since these rules may not apply to you if you are located elsewhere) have been generally boxed in by VCs over the past couple of decades. The VC sway on startups is so strong that many companies (and many VCs) don’t realize that there may be other ways.  In summary:

Continue reading

If a start-up terminated an employee, is it required to allow them to exercise the relative portion of their stock option grant that is yet vested?

Question: (org. on Quora)

Answer (by Dan Walter)

This is a fairly common question. The short answer is no. But, it depends.
The first thing you should turn to is your grant agreement.  This will explain things like vesting schedules (generally when you can beging exercising stock options, or when you gain access to the stock or cash underlying things like. RSUs.  The vesting schedules may also require that a change in control or IPO take place before any vesting is finalized.
Your agreement is also the most common place to see the details on post-termination grace periods.  This is what may allow you to exercise any vested amounts after you  leave. The rules for these are usually different depending on the type of termination.  Example:  Death or Permanent Disability may give you 6 months or a year, termination without cause may give you 30 days or three months, but being fired or “terminated for cause” often results in an immediate forfeiture of anything vested.  Anything unvested usually is cancelled the date of termination, regardless of the reason.
If your vesting schedule allows exercises and your termination grace period allows exercises, they may still be additional restrictions that would keep you from exercising.  Some of these may be defined in your agreement.  Others may be found in the plan document.
You need to ask the company to put in writing their reasons for not allowing you to exercise.  And you need to do this quickly.  If there is a grace period you don;t want to mess around with the grant after that expires.  If the company is on the edge of a transaction like an acquisition, you don;t want to have to learn a new set of people and rules.

When will the new 2016 GPS Stock Options become available to view?

Question: (org. on Quora)

When will the new 2016 GPS Stock Options become available to view?

Answer (by Dan Walter)

The updated 2016 version of the GPS Stock Options document was released yesterday, January 27, 2016, in draft format (GPS options DRAFT.pdf), and is currently available for Public Comment through February 17, 2016. The final publication, which will include public comment, is expected to be available towards the end of March 2016. Please take a look and provide your feedback. Additional details can be found at:  https://www.scu.edu/business/cepi/gpsproject/public-comment/

How does HR contribute to an organization’s success?

Question: (org. on Quora)

Answer (by Dan Walter)

Whether you have an HR professional or not Human Resources is likely the single greatest contributor to your organizations success.

First. Unless your company is really large, HR controls more of your revenue than any other department.  At small and mid-sized company as much as 65-75% of revenue is used to pay staff and provide their benefits. This means that even small improvements in HR can result in material budget increases for other departments. Improvements in this area are often simply viewed as controlling pay or limiting staff. But, even better improvements may be gained by improving the perception of pay or creating a work environment where people actually do their best, instead of operating at three quarters of their potential.

Second. The best strategy and tactical planning in the world cannot be well executed by incompetent, uninterested or unmotivated people. Human Resources first goal is making sure you have the right people. Without them you will fail, 100% of the time.

Third. They protect you from the problems that come from the mercury poisoning of disgruntled employees and lawsuits that come (mostly) from disgruntled ex-employees. Whether it is mediating disputes, motivating personal and professional growth or simply documenting and enforcing policies that keep people from becoming injured, a good HR department has your back, by being out in front of things.

Fourth. Great HR build your company culture and communicate your company strategy. (poor HR departments may not do either.) Your company culture or personality drives employee (and often investor) perceptions. Perceptions are reality for most people. Every company’s strategy is clear to its founders. But communicating this strategy and how it will become reality requires a broader vision and understanding of human dynamics. The task of communication usually falls to HR. So your HR department is in charge of how your employees define reality and how you make it better.

This most could stretch many pages. It should also be noted that failure in each of the above items can directly lead to your company’s failure or stagnation.

What is the normal RSU policy for private companies? I recently got an offer from such company and they say that if I work for x years and I leave, I would get x more years to sell the RSUs otherwise they would expire. So if I leave after 1 year and no IPO in the next 2 years, I don’t get anything.

Question: (org. on Quora)

Answer (by Dan Walter)

The most common company policy for RSUs follows the basic structure below:

1) Award of RSUs, generally to be settled in stock when they vest (some companies convert the RSUs to cash)
2) Vesting schedule of 3 years (annually increments or cliff vested) (this period can vary widely).  Vesting is may also be restricted to ONLY occur after a period of time AND a liquidity event like and IPO or Change in Control. — this is becoming far more common.
3) When RSUs vest they are “converted” to real stock and delivered to the participant (or held in electronic book entry).
4) When the individual leaves the company the unvested RSUs are forfeited back to the company. The vested RSUs are now shares (usually of common stock) and the individual is therefore a shareholder.
5) Most companies let people who hold shares keep the shares.  They also usually restricted any transactions so the shareholders have little or no liquidity until a major event.
6) It is uncommon, but not unheard of, for companies to take back vested and delivered shares.  When they do they usually pay the individual the current market price.

NOTE:  There are a ton of exceptions to every single statement above.  The statements above may not represent the best strategy for every (or any) company. Equity compensation is Variable, Variable, Variable, Variable (and up to three more variables) compensation. The type of equity, the number of shares/units/options/etc., the price at the time granted, the price when vested, the currency at the start and end, the vesting schedule and several other components can all be variable within a single award. “Normal” is often not synonymous with “best”.

How have you seen Stock Options or Performance Rights grants change for employees from Pre-IPO to Post-IPO?

Question (Orig. on Quora):

How have you seen Stock Options or Performance Rights grants change for employees from Pre-IPO to Post-IPO? What are the triggers and how have the amounts differed? Building out our long term comp strategy. Thanks!

Answer (by Dan Walter):

First, it must be clarified that this answer refers to “pre-IPO” as companies with a realistic chance of an IPO, not simply any company (tech or not) that is not currently publicly traded.  This distinction is important since it plays directly into many of the design goals and trends for equity compensation. I can cover non-pre-IPO companies in a separate post)

Second, the difference between pre-IPO companies and so-called “unicorn” (>$1B) pre-IPO companies is also a significant differentiator in equity plan design and use.

Stock Options:
For most pre-IPO companies these are fairly basic. MOST TYPICAL… They may be ISO or NQSO. They are granted with a strike price equal to the IRC 409A) compliant Fair Market Value of the companies common stock.  They vest over time. Usually over 4 years. Sometimes 25% each year, sometimes 25% at the end of the first year and monthly for 36 months after that. We are also seeing more grants with a secondary event-based goal that has to be met before final vesting takes place (typically Change in Control). Leaving the service of the company usually ends up with the individual losing all unvested options and having a limited period to exercise vested options (usually 3 months for termination in good standing, 0 for cause, 1 year for death or disability). Grant size is generally determined as a % of outstanding shares for early employees and some formulaic number of shares for later employees. Exercises, if allowed before the IPO, usually require cash paid directly by the optionee to the company. The optionee is no longer an employee the cash payment may also include taxes due (since withholding may be difficult or impossible).  In a small percentage of companies still optionees are allowed to exercise unvested optionees and hold the remaining shares until they are vested.

So what is different for post-IPO options?
Often not much. The grant price becomes driven by the stock price traded on the open market (usually closing price on the date of grant). Vesting is generally the same schedule as pre-IPO (although many companies do away with allowing exercise of unvested options). Vesting for post-IPO seldom requires any trigger other than time. Leaving the service still ends up with the option losing unvested options and having a limited time to exercise vested options. GRANT SIZE: once a company is public grant size is most commonly driven at least partially by the black scholes value of the options at the time of grant. Values are less likely to be based on percentages or fixed formals and more likely to be based on compensation dollar values. Exercises become much easier with the addition of same-day sales and net settlement methods for payment. But, with public trading comes insider trading policies, black-out windows and, for some officers, SEC filings for nearly every transaction.

Back to pre-IPO companies
But, companies that stay private for a long time AND have a lot of employees AND grant a lot of equity may find themselves running out of stock options to grant.  This is one of the two biggest drivers for the pre-IPO move to Restricted Stock Units (RSUs). The other major driver is the fact that most options allow for a voluntary exercise transaction. These transactions create shareholders.  Too many shareholders means the company must file information with the SEC that may be available to competitors.  So, companies move to RSUs and restrict the vesting event to occur only after a period of time (usually at least 3 years) AND after the company choose to file publicly.  This can simplify the process for the company, but removes a lot of flexibility and leverage for the individual.  But, it still beats giving no equity at all.

More recently companies have been granting RSUs with performance-based vesting (most often also requiring a period of time to pass as well, typically at least a year).  Performance criteria for these pre-IPO performance-based RSUs are usually focused on internal financial and operational metrics.  Companies love metrics like EBITDA, but we recommend metrics that are more closely aligned with the jobs people do and decisions they make, rather than something like EBITDA that is a result of many things, but may not be understood or feel like it can be personally impacted by individuals.

Performance equity is still relatively uncommon in pre-IPO companies, except officers, but it is a growing trend.

So what about Public companies?
Public companies who moved to RSUs pre-IPO usually stick with them after the IPO.  Most of these companies also add and ESPP (Employee Stock Purchase Plan) that is focused on the rank and file.

At the time of IPO most companies create entirely new plans that are built to conform with public companies rules and best practices.  These plans also can include an “evergreen provision that automatically increases the pool of shares available to grant on an annual basis. Evergreen provisions usually expire before the start of the 4th fiscal year after IPO (shareholders and the advisors kind of hate them).

It should also be noted that overhang changes pre and post-IPO.  This is partly due to the different ways overhang is calculated pre and post-IPO.  But it is also due to the fact that once a company goes public people start exercising options and RSUs start vesting.  Every exercise of options or release of vested RSUs moves equity from one side of the overhang calculation (outstanding equity) to the other (outstanding shares). SO, the impact of exercises and releases is double that of equity cancelled for a terminated employee which only impact the outstanding equity side of the equation.  The quick movement in transaction during the first year after IPO reduces overhang quickly at many companies, giving them more room for new grants (as long as they have new shares coming through something like an evergreen provision.)

Now if you have gotten this far you are probably taking this seriously.  So you should know a little secret.  While all of the above is true it doesn’t mean that it is right.

The most common methods of using equity compensation are often not supported by any evidence of effectiveness. They are follow-the-leader approaches that many lawyers and compensation consultants throw out to companies to create average solutions (and great consulting fees).

The real process to determine a long-term compensation strategy requires a true understanding of your company culture and strategy. It requires know how and why each equity instrument works and it requires a communication program that ensures that your employees perceive the value of equity in a manner similar to your intent for that equity. The end result is a program that is unique to your specific facts, circumstances and goals.

I can go on (I have co-authored books on this topic), but I will wait for any follow-up questions first.