Startups have traditionally used employee stock options to attract strong talent who could otherwise likely land a higher salary at a more-established company. But pitches that promise significant upside don’t always live up to their potential grandeur.
As 2021’s lofty valuations have come crashing back down to earth, many employees are slowly realizing that the stock options they have been banking on are essentially worthless. Those who have seen their company continue to grow aren’t always impressed by their outcomes either. So, is the potential upside a myth?
Not necessarily, according to Maria Dramalioti-Taylor, general partner at Beacon Capital; Tyson Hendricksen, founder and CEO of Notice.co; and Amir Ashkenazi, the founder and CEO at Switchboard. Speaking at a panel on staff retention and employee liquidity during TechCrunch Disrupt 2023, all three agreed that if done right, employee stock options demonstrate company alignment, and giving employees early access to that liquidity can motivate them to keep building if an exit is far off.
Still, stock option programs have to be done right.
Companies should be intentional about setting up a real program from the beginning, Hendricksen said, because it gives them more control over what happens later. “You can say, ‘Hey, here’s your equity, and every quarter, you can sell this much. This is the history of what we’ve been doing and here’s where it’s at.’ It’s also good price-discovery in a lot of cases; you can kind of figure out what the market’s telling you.”
Dramalioti-Taylor said companies could set up a system for employees to regularly sell stakes by finding a few existing investors who may want to increase their stake. This gives the company someone to call as it looks to give liquidity to someone who is already invested or interested in the startup.
“Yes, it takes some legwork, but it shows courage,” Dramalioti-Taylor said. “It shows commitment. It shows conviction in your ability to use your stock to keep your most valuable employees.”
Another way is to work with a company like EquityBee that helps employees manage their stock options, Ashkenazi said. Such companies help employees by covering their exercising costs or letting them forward contract their shares, meaning they get the value now without as much risk later.
Ashkenazi noted that startups should strive to be transparent with both new and existing employees, regardless of what their employee stock program looks like. He added that across the six businesses he’s had, offering liquidity hasn’t always been easy, but it is worth pursuing.
“The best approach is to be completely transparent, but also to be careful not to set expectations with no indication of what the future value is going to be, because honestly, as founders we have no idea,” Ashkenazi said. “It can be anywhere from zero to the moon. So give people all the information that they need to put in their assumptions [and] make their calculations.”
Hendricksen said that startups shouldn’t be afraid of the secondary market and shouldn’t prevent their employees from selling shares prematurely either, because it will show a misalignment with their employees. “You have to think about the culture you’re trying to build,” Hendricksen said. “The reality is, some people say, ‘Oh, well, if they get liquidity, they’ll just leave,’ and, well, what kind of culture do you have? If someone gets a couple $100,000 and they just leave, maybe they should.”
Staff retention isn’t the only reason startups should formalize their employee stock programs either. Unless shares are blocked from being sold, employees have the ability to offload shares anyway, and if you don’t have a formal program, companies won’t have as much visibility into whose hands they end up in, Hendricksen said.
Early liquidity, especially for long-time employees, the founding team or for folks in the C-suite, in particular, can also help prevent startups from being tempted to go for a premature exit if they feel they’ll lose talent if they don’t get access to that exit liquidity soon, Dramalioti-Taylor said.
Offering employee liquidity isn’t easy. However, it not only benefits employees, but also pays dividends to the startup. If there is an opportunity to offer liquidity, companies should take it.
“The market sees you and they want you, and then they just want something else. Liquidity can evaporate immediately, within a month sometimes,” Hendricksen said. “So when you do get opportunities as a founder, or to do something more programmatic for your employees, even if it takes some pushing internally, really pursue that. [Secondary buyers] may want you today, you may miss some milestones, and then, you know, maybe they’re onto something else.”