PeopleOps Playbooks

Navigating equity-based compensation on your startup offer letter

Tech companies and startups are increasingly relying on employee stock options to attract top talent and enable massive wealth creation opportunities. The lack of understanding of ESOPs can lead to confusion, disappointment, and missed opportunities
Aditya Garikapati
Aditya Garikapati
Designer at Numans
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Have you heard of the Ronald Wayne? We wouldn’t be surprised if you didn’t.

In 1976, Ronald Wayne, along with Steve Jobs and Steve Wozniak, co-founded Apple Inc. Wayne was given a 10% stake in the company, while Jobs and Wozniak each held a 45% stake. However, just 12 days after Apple's inception, Wayne decided to sell his 10% stake for a mere $800, citing concerns about the financial risks involved.

Wayne was not fully aware of the potential value of his equity and did not foresee the massive success that Apple would achieve in the coming years. As of today, a 10% stake in Apple would be worth tens of billions of dollars. Wayne's lack of understanding and foresight regarding his equity cost him an incredible fortune.

This story serves as a cautionary tale, emphasizing the importance of understanding and carefully considering equity-based compensation before making decisions. Knowledge workers should be proactive in learning about their ESOPs, seeking advice, and weighing the potential risks and rewards before making any decisions about their equity stakes.

Let’s go over some key aspects of understanding your equity offer.


Understanding Liquidation Preference

Liquidation preference is a crucial aspect of preferred stock, a type of security often issued to venture capital (VC) investors during funding rounds. This preference dictates the order in which proceeds are distributed during a liquidity event, such as a sale or IPO. Investors with preferred stock are typically paid before common stockholders, like employees with ESOPs. As a result, employees might receive little to no payout if the company doesn't achieve a high enough exit valuation. Therefore, it's essential for knowledge workers to be aware of liquidation preferences when assessing their ESOPs' potential value.

In 2007, employees at the social networking site Meebo found themselves in a difficult position when the company was acquired by Google for $100 million. Meebo had raised $70 million in funding with a liquidation preference, meaning that investors had to be paid first. As a result, many employees with common stock saw their shares significantly diluted or rendered worthless, while the founders and investors walked away with substantial payouts.
The most common liquidation preference is 1x, meaning that the investor gets paid back their full investment amount before any shareholders lower in the priority stack receive their payouts.


The Importance of Transparency

Companies must strive for transparency regarding their capital structure and liquidation preferences to allow employees to make informed decisions about their ESOPs. By openly communicating the potential outcomes of various exit scenarios, employees can better evaluate their equity's worth and consider the implications of the liquidation preference on their compensation. Encouraging transparency builds trust and loyalty, ultimately benefiting both the company and its employees.

Here are some terms you should ensure your employees fully understand

  • Stock Options
    A type of equity compensation that grants employees the right to buy a certain number of company shares at a predetermined price (the strike price) within a specific time frame.
  • Strike Price
    The price at which an employee can purchase shares of the company's stock when exercising their stock options.
  • Vesting Schedule
    The process by which employees gradually earn the right to exercise their stock options or receive full ownership of their restricted stock. Vesting schedules outline the time frame and conditions under which equity awards become available to employees.
  • Cliff
    A vesting schedule that requires employees to fulfill a specific period of service (e.g., one year) before any portion of their equity awards vests. After reaching the "cliff," the equity may vest all at once or continue to vest gradually.
  • Expiration date
    The deadline by which an employee must exercise their stock options before they expire and become worthless.
  • Grant date
    The date on which the company grants stock options or other equity awards to an employee.
  • Dilution
    A decrease in the ownership percentage of a company's stock due to the issuance of additional shares. Dilution can affect the value of existing shares and the potential payout from equity awards.
  • Fair Market Value (FMV)
    The current market value of a company's stock, used to determine the value of stock options and the taxable income generated from exercising options.
  • Incentive Stock Option (ISO)
    A type of stock option that offers tax advantages for employees, including the potential for long-term capital gains tax treatment upon sale of the shares.
  • Non-Qualified Stock Option (NSO or NQSO)
    A type of stock option that does not receive the same tax advantages as incentive stock options and may result in ordinary income tax upon exercise.
Buffer, a social media management platform, is known for its radical transparency. They openly share their equity breakdown, funding rounds, and even employee salaries on their website. This level of transparency enables employees to understand their equity's potential value and the implications of liquidation preferences, fostering a culture of trust and loyalty.


ESOP Education and Support

For employees to make smart decisions about their equity, they need comprehensive education and support regarding the ins and outs of ESOPs. Companies should provide workshops, seminars, or online resources to help knowledge workers understand key concepts like vesting schedules, dilution, and tax implications. This knowledge empowers employees to navigate their equity compensation with confidence and make well-informed decisions that align with their financial goals.

Shopify, an e-commerce platform, offers its employees extensive resources to help them understand their stock options. They provide a comprehensive guide on their equity plan, along with webinars and sessions with financial experts to answer questions and provide support. This educational approach empowers employees to make informed decisions about their equity-based compensation.


Most late stage companies offer RSUs instead of stock options

Negotiating Equity

Given the importance of liquidation preference and other factors, employees should consider negotiating their equity when joining a startup. Understanding the company's capital structure and the potential outcomes of various exit scenarios will enable them to negotiate better terms for their ESOPs. These negotiations may involve adjustments to the number of options, vesting schedules, or even advocating for preferred stock in certain cases.

When Facebook acquired Instagram in 2012, Instagram's co-founder Kevin Systrom successfully negotiated a significant equity stake in Facebook as part of the deal. By understanding the potential outcomes of various exit scenarios and leveraging his position, Systrom secured a more favorable outcome for himself and his team, ultimately resulting in substantial wealth creation when Facebook went public.


Collaboration with Financial Professionals

Finally, employees should consider consulting financial professionals who specialize in equity compensation. These experts can provide personalized advice, taking into account the employee's unique financial situation and goals. Working with a financial advisor can help knowledge workers optimize their equity compensation and navigate the complexities of ESOPs.

Wealthfront, a robo-advisor and financial planning platform, offers a service called the "Equity Plan Review" specifically designed for employees with stock options. They provide personalized advice, taking into account the employee's unique financial situation and goals. By working with a platform like Wealthfront, knowledge workers can optimize their equity compensation and navigate the complexities of ESOPs.


Products and Tools for Better ESOP Understanding

Equipping employees with the right tools and resources can significantly improve their understanding of ESOPs and enable them to make informed decisions. Companies can invest in the following products and tools to facilitate employee comprehension of equity-based compensation:

  1. Carta (
    Carta is an equity management platform that helps companies manage their cap tables, valuations, and equity plans. The platform offers a user-friendly dashboard where employees can access their equity grant details, understand vesting schedules, and monitor the value of their options. By providing a comprehensive view of their ESOPs, Carta helps employees make better decisions about their equity.
  2. Capshare (
    Capshare is a cloud-based cap table management tool that simplifies equity management for startups. In addition to helping companies manage their cap tables, Capshare offers educational resources, such as blog posts and webinars, to help employees understand their equity. By investing in a tool like Capshare, companies can ensure their employees are well-informed about their ESOPs.
  3. Eqvista (
    Eqvista is a sophisticated equity management software that helps companies track, manage, and make informed decisions about their equity. The platform provides detailed reports and analytics, allowing employees to better understand their ESOPs' value and potential outcomes. Eqvista also offers educational resources, such as articles and guides, on various topics related to equity management.
  4. myStockOptions (
    myStockOptions is an online resource that offers a wealth of information on stock options, restricted stock, and other forms of equity compensation. The platform provides articles, FAQs, tax guides, and interactive tools to help employees make informed decisions about their equity. Companies can invest in a subscription for their employees to access these resources and deepen their understanding of ESOPs.

By incorporating the right products and tools, companies can facilitate better ESOP comprehension and empower their employees to make informed decisions about their equity-based compensation.

Investing in these resources not only benefits the employees but also fosters a culture of transparency and loyalty, ultimately benefiting the company as a whole. As knowledge workers, it's essential to stay informed, seek support, and take charge of your equity compensation journey.

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