Ask HN: Is it just me or do a lot of people not know how stock options work?

[stockoptionsta]

I work in a startup in San Francisco. We're profitable & growing, about 30 people now. I'm one of the first engineers so I have a good chunk of stock options.

A lot of times when I talk to my friends (mostly engineers, mostly in their middle 20s) about stock options they don't even know the basics.

A few examples from my life:

* A coworker left the company right before the end of his first year. He had ISOs, and it wouldn't be that expensive to buy them, but he still decided to leave right before the 1 year cliff date to go work in another company.

* A friend of mine did not sign his stock options paperwork when his employer gave it to him more than 1 year ago. I guess he was just lazy, didn't want to sign something he did not fully understand. I don't know all the details but I assume if he signs it now he loses 1 year of vesting, the grant price will be higher — just not the greatest decision / attitude imo.

* Another friend left the company where she had stock options, 6 months later she found out that the company was sold. She remembered about the stock options and asked me for advice. She did not know much about the topic so I told her roughly what her options were, told her about the 90-day rule. I later found out that she ended up getting some money from her past employer.

I know that there's a conversation [1][2] about changing some of the technicalities around stock options, but I think there might be an even bigger problem — many employees don't understand the basics of stock options, hence they don't value equity as much as employers / investors do.

Or is it just me and my friends?

1. http://blog.samaltman.com/employee-equity

2. http://blog.triplebyte.com/fixing-the-inequity-of-startup-equity

[mikestew]

many employees don't understand the basics of stock options, hence they don't value equity as much as employers / investors do

The fact that I know the basics of stock options is precisely the reason I don't value equity as much as employers or investors do. I can count on two fingers the number of companies whose stock options put money in my pocket, and one of them is Microsoft. I would need many hands to count the number of ways a company can screw me out of a payday on options.

Point is, for the vast majority of people knowing or not knowing the first thing about stock options won't make a lick of difference in their bottom line. What people need to know about options: sign the paperwork when it's given to you, and on the outside chance the options end up being worth anything your coworkers will give you some half-assed advice, which is one's trigger to go talk to a financial advisor.

Otherwise, spend your mental energy on how to increase your 401K contribution. That's guaranteed to involve real money that you can benefit from, and you should bone up on maximizing the potential.

[vmarsy]

big companies like Microsoft/Google/etc don't even offer most of their employees stock options, but instead they offer RSU (Restricted Stocks Units). Those are easier to understand, there's no exercising decision to be made, you just need to know your vesting dates. The biggest decision is : Do you want to sell your stocks before or after the 1 year Long term capital gain wait, but that decision is common to all stocks.

[tptacek]

Which, in turn, sets up a vicious cycle, because employers know that employees don't value equity as much as a cash-equivalent benefit, and respond rationally to that incentive by reducing equity grants. (This is a positive claim, not a normative one).

[planteen]

Keep in mind when you say "stock options," it can mean different things. The first thing that comes to my mind when you say "stock options" is options trading on publicly traded companies. That is buying and/or selling contracts of puts and/or calls.

The second is "stock options" at private companies as compensation, which is what you are referring to. There are many variations on how this works.

I've seen companies, as a bonus, grant what amounts to a call option that can't traded and only exercised at some point in the future. This may be free or you might have to pay for it.

I was once given stock as a bonus at a startup, making me an owner. Being an owner didn't pay me any sort of dividend, but it massively complicated my income taxes by giving me a K-1 in May (after April 15th). Additionally, I owed tax on my percentage of ownership, which was really a pain. The other gotcha but I wasn't allowed to be an owner unless I worked there. So when I quit, I got cashed out at "fair market value," which was a B.S. number they made up and gave me a couple thousand dollars. I also got diluted by half while I was an "owner." The experience made me very leery of ownership. Now I just look for salary.

[stockoptionsta]

You're right, I thought it would be clear from the context that I'm talking about employee stock options.

It seems like your experience with stock kind of proves my point and reveals the employee side of this problem — because you didn't fully understand how all these things work, and no one explained it to you — you had much different expectations.

And now, instead of incentivizing you to stay, you employer leaves you frustrated and basically incentivizes you to leave.

[DaiPlusPlus]

So is that why companies issue options instead of direct equity because it spares the employees the hassle of dealing with actual ownership issues (K-1s, additional taxes, etc)?

The problem with looking at just salary is that salaries all tend to cap out (in my area, Seattle, you'll be hard pressed to find anything above $160k, when you get to that point compensation really starts to skew in favour of equity - especially as RSUs or Options - sometimes an order of magnitude greater than salary (e.g. "Partner"-level rank at Microsoft is easily $1m/yr in RSUs, but only about $200k/yr in salary.

[calcsam]

No, this is not just a problem you're having.

I was an early engineer at Zenefits and found myself holding stock options seminars to explain this stuff to the rest of the engineers.

I built optionvalue.io as a calculator to help people answer some basic questions about what their stock is worth, and I'm building it out more to answer questions (eg, tax implications and exercise windows).

I've talked to grellas and some other folks with a long, long history dealing with this stuff. There seems to be some consensus that:

(1) People now are more educated about stock options than they've ever been.

(2) That's a pretty low bar.

[JonFish85]

"I was an early engineer at Zenefits and found myself holding stock options seminars to explain this stuff to the rest of the engineers."

This is a tricky position to be in, considering that in this sort of situation, you're generally explaining to people a small subset of the ways that they can get screwed. As much as it might seem nice to see people spending lots of time trying to figure out what their stock options are worth, it's not worth the time or effort. By the time you have it figured out, it's changed. And the future is so unknown. If everything goes great and the company hits all of its targets, stock options will be worth something. If there's a bump in the road, you're toast.

[gjem97]

That's a really nice tool, well thought-out, and the calculations it does are spot on. However, I think it's based on one pretty big assumption: that the shares that investors buy are the same as the shares that you would get through your ISOs. They typically are not the same, with the investors getting preferred shares that are superior to your common shares. Furthermore, terms like liquidation preferences and "participation" can make the preferred shares much much more valuable in many types of liquidity events. So in all, I worry that this tool does more harm than good. Even given all the information you solicit from the user it is still very hard to say what the options/shares are worth. Typical errors in the estimate could be an order of magnitude or more.

[qwrusz]

Just checked your option value calculator. I understand you're still building it out but wanted to say nice work so far!

Something like this that's easy and clear could be really useful. Like some of the "estimate tax refund" calculators online, while details of the US tax code can be information overload, going through guided steps on an estimate calculator a person can learn a ton of key info. Cheers and GL.

[probably_wrong]

When it comes to stock options, HN has taught me two things:

1. They are worthless, as >90% startups fail and you won't be getting anything in that case.

2. If they are not worthless, you might not be able to afford paying for them anyway [1].

Add to that how difficult it is to get a simple, clear answer to the question "how do I invest my money?". So yes, I wouldn't be surprised if most people didn't know how stock options work.

[1] https://news.ycombinator.com/item?id=10811570

[patio11]

I feel like I've matured on this question over the years, so to caveat #1:

90% of options are worth nothing if you count by companies granting, but probably 90% of options are worth something if you count by people receiving grants.

How does that work? Because companies which grow and become worth something hire a metric ton of people and give all of them options. If you're of the opinion that most engineers in San Francisco work for a seed stage startup, you're just straight up not correct. It only seems that way because of availability bias.

Thus the reason for this comment: it's very, very dangerous to get people in our industry thinking "options are ipso-facto worthless" when our industry builds packages for substantially all engineers where they're a material portion of one's compensation. You can find all-cash offers out there, particularly from non-tech employers of engineers, but the standard in our industry is cash plus a substantial equity component, and (as someone in the industry) you really, really need to have a deeper understanding of equity than "all equity is worth zero."

Though the capitalist in me says "If one really thinks that all equity is worth zero, you will find many people willing to take yours off your hands at pennies on the dollar once that becomes feasible for your company."

[logfromblammo]

Even though anecdotally, I have made some money on option grants, I now see them as a symptom of cargo-cult management practices.

A few weeks ago, a co-worker asked me for advice about a new (to us) employee stock purchase plan, and I basically said, "don't shit where you eat."

Messing around with your employer's stock isn't a wonderful idea. Most people should just be blindly investing x% of their income in a robot-managed index fund. Fewer people should also be investing in only those businesses they understand well enough to independently analyze. And if I were in any position to really analyze the financials of my employer, well, now I'm subject to insider trading gotchas.

But as a peon-level employee of a company, I am always in the very first group of people to be lied to whenever anything goes wrong. Everything is fine. Continue working as usual. Don't worry about office shutdowns and massive layoffs. I'd always tend to overvalue my employer's stock (or frantically shotgun resumes to other potential employers).

For the purposes of incentivizing better productivity, the company could be adding cash bonuses to my paycheck. It's very simple, and great for my morale (barring memberships in the Jelly-of-the-Month Club, Sparky). My current company has done it a few times. When you hide the "extra free money" behind a stock-shuffling scheme, it makes me think you're up to something sneaky.

Also, I don't consider it wise to be heavily invested in the company that is my primary source of ordinary income.

Think of it this way: would/could you buy the option/stock on the open market if the company wasn't offering it up in the conference room? I wouldn't. Only if I were already 100% financially secure otherwise would I ever invest in my employer directly. And guess what? 100% financially secure means that I can quit, right now, and not have an employer, freeing me to invest in whatever damned-fool thing I want.

If you're taking financial advice from random people on the Internet, the only place you should be investing is robot-managed index funds, and not doing anything on the side until after you have already maxed out your 401(k) contributions.

So I basically value options as "this company would rather generate massive amounts of additional paperwork and hassle than just give me an equivalent value in cash bonuses."

[smallnamespace]

Easier said than done, but you if there's any likelihood at all of success, you should make damn sure you have cash on hand to exercise.

Otherwise, you are literally losing a winning lottery ticket for want of pocket change.

[xutopia]

Then you have limbo... worth a lot on paper but no liquidity events planned.

[jartelt]

Some employers don't help either. My wife just received an offer from a pretty well funded company (Series B >$20M) and all they would tell her about the options package was number of shares and vesting schedule. When she asked to how many shares are in the company (to calculate her potential ownership %) she wasn't given an answer. When she asked for a rough estimate of the current value of those shares if vested, they basically just said "trust us, this is a good package." That experience reinforced my belief that you should assume the equity is worth $0 and not factor in the stock grant when evaluating an offer (unless you are at the company super early).

[moonka]

There are 2 things which people are very financially illiterate about these days. Stock Options, and how income taxes work. You've covered the former, with the later I've seen confusion with how progressive tax brackets work, how deductions work, etc. All you can do is to make sure you understand it, and be careful of the advice you get from others.

[tom_b]

I was taken aback when I realized just how few people understand the United States progressive tax system and how income tax brackets work. That misunderstanding is so pervasive (in my experience) that I can't even imagine people having a general understanding of how deductions work at all.

[neom]

There seems to be a general rule of thumb among investors and founders I've talked to that the vast majority of options won't vest or will go unpurchased, and as a result it seems many have tried to keep things as opaque as they can. As a CEO and Founder I find this incredibly troubling and I believe it's contributing to why so few folks value sweat equity anymore. I've written a few thoughts on this before for anyone interested: https://medium.com/busyness-time/part-i-how-were-building-st...

[chimeracoder]

To add to all of this, most people really don't understand the tax implications of options (whether they're ISOs, NSOs, or not options at all but instead are RSUs).

It's hard to explain those without looking at a person's individual situation (the company, the initial value, the current valuation, and the person's tax bracket), which is why there's not a lot of talk about them. But the taxation can very easily be the tipping point between "definitely worth it to exercise" and "definitely not worth it to exercise", so it's really important to understand them.

[AnimalMuppet]

True. But it's also important to not view taxes as the thing in deciding what to do.

I had options that I could exercise (at a big, publicly-traded company, so I didn't have the startup, no-liquidity issues to worry about). My options were worth quite a bit of money. I had already exercised enough to put me at the edge of the next incremental tax bracket. On about December 15, I was looking at it, and thought it was a really tempting price, but... taxes. I decided to wait for January.

Three days later, our company made an offer on another company. The stock market didn't like it. Our stock went down. I lost more than the taxes would have been.

Moral: When money is growing on trees, pick it.

Disclaimer: That isn't always good advice. If the price had continued to go up, it would have been really bad advice. But too much focus on taxes is also bad advice.

[danpalmer]

We give basic details in our offer letters, are open about all the details, have an employee focused scheme (i.e. 10-year exercise window), and when we do the grant paperwork for new employees (we do it in batches because of all the government stuff involved, we're in the UK), we give those employees a talk on how it all works, set expectations, etc.

I think we're fairly good at this, and most people I've spoken to in the company know enough about it to not hit any of the issues above - i.e. their vesting schedule, strike price, exercise window, etc.

[Jugurtha]

Pardon my ignorance, but I did a search on this thread for the word "lawyer" and there was no match.

My stupid question: Doesn't San Francisco have good lawyers who are specialized in this stuff? I mean, a lawyer who's getting paid by you, not by the company.

I'm not advocating complete ignorance of the matter, but there are people who know the ins and outs of this and are aware of most of the missteps through which they can guide you.

My point is that having a lawyer also serves as a deterrent and sends a signal you're not to be hustled. It also tells you about the people you're dealing with: the company not liking it should set off your spidey sense.

I mean, the first thing someone who's hustling would do is to be offended you're taking precautions because it hurt his feelings that you don't "trust him". It's not that you don't trust him.

These things are just like prenups. People's feeling about them stems from the assumption that at the time they're activated, they'd be feeling the same for each other as they are now, which is not true. By the time a prenup is activated, people usually hate each other, and a prenup serves to protect you from the future version of them, and them from the future version of you. The versions that hate each other. There's a reason billionaires have the cheapest divorces, and artists/athletes have the most expensive ones.

[praneshp]

Add me to your example list, I knew nothing till recently (now I know a non-zero amount, still close to zero). I was talking to Docker earlier this year, and really appreciated the recruiter spending about 30 minutes (and told me several times to do additional research) just explaining how options work.

On another note, this recruiter at Docker was hands down the best recruiter I've worked with. 45 minute initial phone conversation to explain the product and roadmap before even scheduling the first phone screen.

[metaphorm]

let me augment this with a real world example of why knowing about stock options is important for those cases where you need to understand why _not_ to exercise.

recently I left a company after 3 years, with a decent chunk of options in my comp. the company is not publicly traded, is still deep in the red, is still trying to raise more rounds of venture capital (thus increasing dilution), and has no exit in sight for the foreseeable future.

My cost to exercise my options at their strike price would have been just over $8000 bucks, and then there would be additional taxes on top of that for whatever the face value of the purchased shares would be. These are illiquid assets, mind you, so the face value would be taxed, but there were no buyers, so it's just an outright loss.

I left those options unexercised. I certainly didn't feel like donating $8000 bucks to my former boss' checking account and then paying extra taxes on it all for the privilege of sitting on illiquid assets for an indeterminate number of years (with a high probability of the stock never being worth anything at all).

Understanding the structure and fees and taxes of the options is very important specifically so you don't go and throw good money after bad in situations like this.

[JamesVI]

https://github.com/jlevy/og-equity-compensation

[dshuang]

I know it may seem like a long read, but I highly recommend taking the time to look the document over if you have/will have stock options from your company. The part about early exercising covers a calculated risk that can potentially save you thousands if not hundreds of thousands in taxes if your company does well.

[ChuckMcM]

In answer to your question, the answer is "Yes, many if not a majority, of tech employees are clueless about stock options." I've thought about the reasons for that, and mostly they are around actual use.

Every startup, and nearly every company, that I've worked at had "the talk" about stock options, they went over ISO, NSO, and RSO. They talk about taxes and gains and tax law. They talk about vesting and cliffs and blackouts and strike prices. They dump a ton of data on your head.

And the problem is they are dumping it onto people who have absolutely no way to connect what they are saying to their own personal existence, and so they forget all of it. It is human nature, a brain defense, what have you that when you are given information that you only barely understand and has no immediate relevance to your situation, you promptly flush it out of your brain.

That all changes once the options are actually worth money and can be exercised and sold.

Once options have value they become relevant and generally a co-worker or someone more clued in will do something like buy a new car "using their options" or even just a new bike or TV. And that will trigger the questions, "Hey I think I have options maybe I should figure out if they are worth money." Sometimes this happens when you are being laid off or fired and you are given 90 days to exercise your options or lose them.

At that time, the information you develop about options will stick in your head because you needed it to accomplish some task, which ideally rewarded you with some extra cash that you didn't know you had access to. Later in the year this action will trigger you learning a lot more about the tax code than you wanted to know :-).

[pawelwentpawel]

Can anybody share some info on how taking stock options in a US company differs from a UK one? A lot of the reading applies to US market. I'm wondering if any of the advice is not transferrable.

Also, I believe that this is a good read - https://blog.alexmaccaw.com/an-engineers-guide-to-stock-opti...

[djs55]

In the past I worked for a UK company from the UK which was owned by a US parent, where employees in the UK were granted options in the US company under the HMRC Enterprise Management Incentives (EMI) scheme: https://www.gov.uk/tax-employee-share-schemes/enterprise-man... . I think without the scheme if I had exercised an option (whether to hold onto the share or to sell immediately) then I would have owed income tax on the difference between the strike price and the current value i.e. the discount my employer effectively gave me. I think I would have owed the tax even if I was forbidden to sell the stock (e.g. if the company had stayed private). With EMI there was no income tax on exercise and I only owed capital gains tax when I eventually sold the stock.

[walshemj]

Probably not as the UKs tax treatment Is much much more employee friendly.

If an approved share save scheme hits big as BT.A did 18 months ago you can make £150k Tax free as one of my friends did.

[kafkaesq]

I think there might be an even bigger problem — many employees don't understand the basics of stock options, hence they don't value equity as much as employers / investors do.

That, and for the fact that their holdings percentage-wise are, in the vast majority of cases, typically negligible. Or even if they might potentially, in theory, be worth something, almost no one has time to investigate the company's business fundamentals to a sufficient degree to determine what chance they actually have of panning out, and hence, whether it's even remotely worth the risk.

Anyway, it's definitely not just you, it's a lot of people. The HN search engine (hn.algolia.com) is really quite good; in addition to the links others will be posting here, try some targeted keyword searches, and to read as many articles as you can on the subject. While they may not be all tailored to your specific situation, gradually the general subject will become less opaque.

[hkmurakami]

I worked at a pre IPO company a few years ago and it was an exception to find people who understood how things worked. Hell, even I missed some details back then, and it was only after I put in hours of research that I developed a decent grasp of the tradeoffs and deadlines. I still don't really know how to do AMT though.

There are a couple of startups that make it a point to early through what their equity means with new hires. But this puts power into the hands of employers since some will be well meaning and some will mislead.

It's unfortunate that we don't have a "yo-yo" knowledge with a easy to remember URL we can point to. Plenty of great articles out there, including by prominent VCs. But it requires a lot of digging.

[JonFish85]

>It's unfortunate that we don't have a "yo-yo" knowledge with a easy to remember URL we can point to. Plenty of great articles out there, including by prominent VCs. But it requires a lot of digging.

This seems impossible; stock options just aren't simple. There is no way for most employees to get enough information in a reasonable amount of time to make an accurate estimate of their stock options' worth.

Employees probably aren't privy to bank loan terms (e.g. converted to preferred shares in certain conditions, over time). They aren't privy to the preferred share terms (past, current or future). In the case that an employee has to purchase their shares prior to a liquidity event, they have no way to know what the future holds in terms of dilution.

It's an exercise in futility. Even if you make logical guesses, guesses are worth very little. If the economy tanks, and suddenly there's a cash crunch, your best guess may not apply. Even if things go WELL (but not smashingly well), you can get screwed by weird preference issues, dilutions or other shenanigans that weren't public knowledge that kick in.

An option to buy stock puts you last in line for money. If everyone else gets paid (vendors, banks, VCs and founders), you'll get a share of what's left (after a lock-up period). There's no good way to know what that's worth.

[Mz]

I will suggest it is probably not just you and your friends. I am more financially savvy than most people I meet and I really don't know much at all about stock options. I imagine I would try to find out if it were being offered as part of my compensation package, but I think stock options are a fairly sophisticated financial concept and most people will not really understand them.

I say this as someone who worked in insurance, which is a financial services industry subject to federal financial regulations, such as Gramm-Leach-Bliley. So, it is not just my opinion that I know more about finance than average, I also have relevant training. And I only have a vague, hand-wavy idea of what you are talking about.

[hesdeadjim]

it wouldn't be that expensive to buy them

I hope you are taking into consideration the capital gains tax when it comes to the difference between strike price and the current fair market value of the stock. If a company is growing fast or takes on money, this can change alot in even a year.

The IRS doesn't care that you may not be able to actually recognize that gain because you cannot actually sell the stock, it's considered a gain nonetheless and you will owe tax on it.

I have been in a situation where the FMV of my stock changed by 10x in the span of a year and by the time I could have actually bought any stock the tax bill would have bankrupted me.

[stockoptionsta]

You're talking about AMT, right?

You're right, there are situations when people can't exercise their options simply because of the high tax bill.

In this particular case, with the company I'm talking about I am fairly certain (simply because I'm doing the same calculations for myself) that if he exercised his options it would not trigger AMT.

[pfarnsworth]

This has always been the case. I've been in Silicon Valley for ~20 years, and even back during the dotcom days, most employees didn't know much about stocks, let alone stock options. Given the fact that it's such an important part of Silicon Valley life, you would think that people would educate themselves more, but it hasn't happened in 20+ years. It's just human nature, and some people don't care, or think it's too complicated and ignore it.

[marssaxman]

One could also see this as a large-scale demonstration that employees, in general, disagree with your assertion that stock is an important value of Silicon Valley life. It's important to founders/CXX types and venture capitalists, sure, but so far as I can see it is rarely useful for everyday workers to pay attention to their stock packages, because they are usually worthless, and opportunities to make a decision that has a meaningful impact on their value are very rare.