Berkeley CSUA MOTD:Entry 54582
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2018/08/19 [General] UID:1000 Activity:popular
8/19    

2013/1/16-2/17 [Industry/Startup, Finance/Investment] UID:54582 Activity:nil
1/16    Fred Wilson says you should focus on the cash value of your
        options, not the percentages:
        http://www.avc.com/a_vc/2010/11/employee-equity-how-much.html
        \_ Or at least, so says a VC trying increase his profit margin...
        \_ A VC wants to keep as much of the stock for themselves (and give
           as little to employees as possible).  That maximizes their return.
           The VCs also control the valuation process.  When he says your
           option grant should be based on the valuation, do you think he's
           saying that because he has the best interests of the rank and file
           engineers at heart?  His suggestion also means that your equity
           and your salary will be proportional.  One of the biggest
           bargaining points in startup salary negotiations is trading off
           salary versus options (I'm not saying one direction or the other
           is a good idea, just that it's an example of reality conflicting
           with this guy's suggestion)
        \_ If "you" is a founder then yes:
           "Giving out equity in terms of points is very expensive"
2018/08/19 [General] UID:1000 Activity:popular
8/19    

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www.avc.com/a_vc/2010/11/employee-equity-how-much.html
MBA Mondays series on Employee Equity is the question of how much equity should you grant when you make a hire. I am going to try to address that question in this post. For your first key hires, three, five, maybe as much as ten, you will probably not be able to use any kind of formula. Getting someone to join your dream before it is much of anything is an art not a science. And the amount of equity you need to grant to accomplish these hires is also an art and most certainly not a science. However, a rule of thumb for those first few hires is that you will be granting them in terms of points of equity (ie 1%, 2%, 5%, 10%). To be clear, these are hires we are talking about, not co-founders. Co-founders are an entirely different discussion and I am not talking about them in this post. Once you have assembled a core team that is operating the business, you need to move from art to science in terms of granting employee equity. And most importantly you need to move away from points of equity to the dollar value of equity. Giving out equity in terms of points is very expensive and you need to move away from it as soon as it is reasonable to do so. We have developed a formula that we like to use for this purpose. I got this formula from a big compensation consulting firm. We hired them to advise a company I was on the board of that was going public a long time ago. But it is based on a common practive in compensation consulting. The first thing you do is you figure out how valuable your company is (we call this "best value"). This is NOT your 409a valuation (we call that "fair value"). This "best value" can be the valuation on the last round of financing. Or it can be a recent offer to buy your company that you turned down. Whatever approach you use, it should be the value of your company that you would sell or finance your business at right now. The other important data point is the number of fully diluted shares. The second thing you do is break up your org chart into brackets. Grants for CEOs and COOs should and will be made by the Board. the CFO, Chief Revenue Officer/VP Sales, Chief Marketing Officer/VP Marketing, Chief Product Officer/VP Product, CTO, VP Eng, Chief People Officer/VP HR, General Counsel, and anyone else on the senior team. The second bracket is Director level managers and key people (engineering and design superstars for sure). The third bracket are employees who are in the key functions like engineering, product, marketing, etc. And the fourth bracket are employees who are not in key functions. When you have the brackets set up, you put a multiplier next to them. I am sticking with four brackets to make this post simple. Here are our default brackets: Senior Team: 05x Director Level: 025x Key Functions: 01x All Others: 005x Then you multiply the employee's base salary by the multiplier to get to a dollar value of equity. Let's say a director level product person is making $125k. Then you divide the dollar value of equity by the "best value" of your business and multiply the result by the number of fully diluted shares outstanding to get the grant amount. We said that the business was worth $25mm and there are 10mm shares outstanding. Another, possibly simpler, way to do this is to use the current share price. You get that by dividing the best value of your company ($25mm) by the fully diluted shares outstanding (10mm). Then you simply divide the dollar value of equity by the current share price. You'll get the same numbers and it is easier to explain and understand. The key thing is to communicate the equity grant in dollar values, not in percentage of the company. Startups should be able to dramatically increase the value of their equity over the four years a stock grant vests. We expect our companies to be able to increase in value three to five times over a four year period. So a grant with a value of $125k could be worth $400k to $600k over the time period it vests. And of course, there is always the possiblilty of a breakout that increases 10x over that time. Talking about grants in dollar values emphasizes that equity aligns interests around increasing the value of the company and makes it tangible to the employees. When you are doing retention grants, I like to use the same formula but divide the dollar value of the retention grant by two to reflect that they are being made every two years. That means the the unvested equity at the time of the retention grant should be roughly equal to the dollar value of unvested equity at the time of the initial grant. Andrew Parker built that lays all of this out for current employees and future hires. We share it with our portfolio companies but I do not want to post it here because it is very complicated and requires someone to hand hold the users. Issuing equity to employees does not have to be an art form, particularly once the company has grown into a real business and is scaling up. Using a methodology, whether it is this one or some other one, is a good practice to promote fairness and rigor in a very important part of the compensation scheme.