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Options vs. Cash

danluu.com

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Re: Options vs. Cash

#161

Post by arkades »

circlefavshape wrote: post #136
jonbarker wrote: post #98

Earlier quoted context omitted.

https://www.amazon.com/p/feature/z6o9g6sysxur57t "It’s not easy to work here (when I interview people I tell them, “You can work long, hard, or smart, but at Amazon.com you can’t choose two out of three”)"

I don't understand this quote. Does he mean that you have to choose ONE of the three? Or that you have to do all three (which means his "or" is misplaced)? Or that Amazon.com chooses for you, rather than you choosing yourself?

He means all 3.

His "or" isn't misplaced, because it's a play on an existing phrase: "better, faster, cheaper - you only get to choose two." Meaning you cannot optimize on all 3 dimensions.

Here he is saying that Amazon expects you to excel at all 3, by providing a contrast to a known idiom that says you cannot.

Re: Options vs. Cash

#162

Post by blennon »

code4tee wrote: post #137

Cash is nearly always better for the employee. Startups like options because: 1. They can "pay" people with "free" pieces of paper that effectively cost nothing from a cash standpoint 2. It helps keep staff onboard by slapping golden handcuffs on 3. In the event that these paper options turn into something with actual value that only happens if the founders and investors make a ton of money first, so at that point th…

Startups also like options because they believe it creates an "ownership mentality" among its employees. I believe this is mostly true.

I think equity compensation is also a selection mechanism. If I'm running an early stage startup, I want everyone to have a stake in the game. Equity compensation attracts employees with that mindset. Conversely, if a potential employee would prefer all cash compensation to equity, that would be a big red flag to me.

One of the struggles of offering equity to employees is finding a mechanism that has no taxable value upon issue, benefits from capital gains, and is legally sound.

One option is to organize as an LLC and offer a profits interest. These can be issued with $0 taxable value and benefit from the upside of the company. They can vest, and once vested they can participate in the gains of the company (including distributed income, not just a sale). I believe these are inherently more fair to the employees because there is no golden handcuff. They don't need to be exercised and once they're vested, you can walk away with them. On the downside, they are a little more cumbersome to set up.

Re: Options vs. Cash

#163

Post by pmontra »

I've been asked today if I'd take equity instead of some cash. My answer was a polite no.

If I could work at the same time for ten startups then I would hedge the risk. Most would fail, one would succeed, it could be worth it. But I can work for only one startup so it's like betting on who would win 2018 NFL. There are better choices than others, still it's down to luck.

Re: Options vs. Cash

#164

Post by moron4hire »

draw_down wrote: post #74
moron4hire wrote: post #60

You don't have to over-complicate the analysis. The fact that they give you the options instead of cash is proof the options are worth less than the cash. This is Econ 101: bad currency drives out good as good currency gets horded.

Well, kind of the whole idea is that maybe they will be worth more than the cash in the future.

When a company gives you options instead of cash, they are making a bet with you that they can make a better return on the cash than you can. They are hoping they can convince you that cash_in_your_hand_now , but in order for them to even consider making the bet, they have to expect that value_of_shares_in_the_future .

Re: Options vs. Cash

#165

Post by shaftway »

mikepurvis wrote: post #158
shaftway wrote: post #153

Earlier quoted context omitted.

I need you to ELI5 this for me. Let's say today I own 200 out of 10,000 shares (2%) of a company. Someone comes in and says we want to own 25% of your company and are willing to pay $100M for it. At that point (before any transactions happen) I assume that my company is worth ~$400M, and my shares are worth ~$8M ($400M * 0.02). So the majority shareholders agree to the deal and dilute stock accordingly. Now there are…

The $400M is a post-money valuation. The investor gave you a current valuation of $300M, and offered to add $100M for a post-money stake of 25%. Thus, 3333 new shares were created and sold to the investor for $100M. Your slice of pie before the deal is (200/10000) * $300M = 6M Your slice of pie after the deal is (200/13333) * $400M = 6M Except that after the deal, your company has $100M more to spend, hopefully on in…

Got it. This explanation makes sense to me.

Re: Options vs. Cash

#166

Post by georgeecollins »

tristanho wrote: post #103

> If you look at companies that have made a lot of people rich, like Microsoft, Google, and Facebook, almost none of the employees who became rich had an instrumental role in the company’s success. Is this true? Dan seems to kind of skim over this point without much proof or thought (which is unlike him!) I don't have any data on this either, but it seems like a pretty big assumption to take for granted. The implicat…

I think he means by count of people, not amount of money made. In other words, MSFT made Bill Gates very rich, plus thousands of others became part of the one percent (multi-millionaires) without making a really amazing contribution.

Re: Options vs. Cash

#167

Post by mattmcknight »

zone411 wrote: post #122

This is a very interesting discussion for me, as I'm about to incorporate a new AI startup and I'm thinking how to spend my own seed money. The author's argument in the "Incentive alignment" section doesn't seem strong. "However, as far as I can tell, paying people in options almost totally decouples job performance and compensation." Is there any data to support this or just this author's feelings? Just because the…

Exactly, this ignores where options are awarded for performance.

Re: Options vs. Cash

#168

Post by maerF0x0 »

blennon wrote: post #162
code4tee wrote: post #137

Cash is nearly always better for the employee. Startups like options because: 1. They can "pay" people with "free" pieces of paper that effectively cost nothing from a cash standpoint 2. It helps keep staff onboard by slapping golden handcuffs on 3. In the event that these paper options turn into something with actual value that only happens if the founders and investors make a ton of money first, so at that point th…

Startups also like options because they believe it creates an "ownership mentality" among its employees. I believe this is mostly true. I think equity compensation is also a selection mechanism. If I'm running an early stage startup, I want everyone to have a stake in the game. Equity compensation attracts employees with that mindset. Conversely, if a potential employee would prefer all cash compensation to equity, t…

Remember that people having a stake in the game (and not current cash) gives incentives for early liquidity. That could be a bad deal for all involved (except the acquirer). If your staff/founders are going broke before the greatest gains in value of the options, they will still have to push for liquidity event before the optimal time.

Re: Options vs. Cash

#169

Post by poikniok »

draw_down wrote: post #74
moron4hire wrote: post #60

You don't have to over-complicate the analysis. The fact that they give you the options instead of cash is proof the options are worth less than the cash. This is Econ 101: bad currency drives out good as good currency gets horded.

Well, kind of the whole idea is that maybe they will be worth more than the cash in the future.

Great argument for paying people in lottery tickets!

Re: Options vs. Cash

#170

Post by imh »

nemo44x wrote: post #119
walshemj wrote: post #43

What strikes me as odd given the USA's reputation as the home of the self made millionaire that the taxation of employee options is so broken. Treating options on shares as Income when they are not is just stupid options are a high risk instrument that well be worth nothing as opposed to a higher sallery. Why is there not a PAC made up of tech industry employees lobbying for reform of Federal and state laws and argua…

Options are not taxed until you exercise them. At that point they become an asset that contains "value" but until you exercise the option to purchase stock it is simply only the right but not the obligation to purchase stock at a particular price. When issued options you don't have to exercise them and if you don't you do not pay taxes until you decide to. Often companies offer the ability to "early exercise" options…

>Options are not taxed until you exercise them. At that point they become an asset that contains "value"...

The assertion that they then contain value is the contentious point. To the IRS it is defined to have value. To me, it has no more value than the option, because there's no more market for those shares than there is for the options themselves. "Fair market value" is weird when there's no market.

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