What Do Share Options Mean For Me?
In the early years startups may not be making a profit as it costs money to grow and acquire the customers who will provide revenue in future years. This means there can be a shortage of funds to pay high salaries, pensions and other cash benefits such as a car allowance.
However, what it does mean is that startups can offer an advantage over larger and more established businesses; they can give equity and ownership in the company via stock options.
It isn’t hard to find many examples of staff who have become wealthy as employees rather than founders of successful startups. Type “startup billionaires” into Google and the results are dominated with senior executives, such as Sheryl Sandberg at Facebook or Steve Ballmer at Microsoft, who came into the business a few years after it was started to take a C-suite position that made them a billionaire.
However, it isn’t these examples we want to consider. It is the much smaller success stories that are more important. For example, every single Facebook employee from 2008, all 700 of them, are reported to now be millionaires. Smaller companies that are able to IPO or be acquired are also able to create a lot of wealth for staff who have stock options. You may leave with a few hundred thousand pounds, enough to put a deposit on a house or start a new business.
In other words, startups present a different way of earning money. In exchange for the lower salary and fewer workplace benefits you hope to get a bigger amount of wealth if the company is successful. However, if the startup is not successful you will not earn as much as the share options will be worth less.
How do share options work?
Share options give you, as an employee, the chance to buy shares in your company at a low price that is often close to zero. You will use these options at a time when you can buy the shares and then sell them to someone else, usually when the shares are worth a lot more money.
When a startup offers you these share options, it sets aside a number of shares, called the Share Option Pool, that will be purchased by staff at a later date. It is done like this as most governments in the world have created schemes so that employees can own shares without paying capital gains or income tax if they have worked for a company for long enough. This was done to encourage businesses to make sure their staff were aligned with the success of the company and share in the riches that a great company can generate.
Your company usually gives you a letter saying you have 100 share options. This means you can buy 100 shares for £0.01 each.
If you buy these shares then you will pay a total of £0.10 (yes, 10p) for 100 shares. This is how the scheme works.
Even at the point you are offered the share options the shares may be worth a lot more. Say they are worth £100 each if the company is doing well, you now own shares worth a total of £10,000 that you bought for just 10p.
Then start to imagine if you had 10,000 shares worth £100 each. You would be a millionaire. However, if the company starts to fail and the share value drops to £1 you’d only have £10,000.
Until somebody wants to buy the shares and you can sell them they are only worth the paper they are written on. It is only after a company lists on the stock market or another company makes an offer to buy the company, including your shares, does their value become reality. You may need to wait many years for this to happen.
What happens if I leave the company?
You will need to wait for the share options to vest before you are able to leave the company and still hold onto them. Once you have been given the share options there are rules about continuing to work for 2 or 3 years before they are actually yours. If you leave before then, you usually hand the share options back to the company.
Remember, these options are not completely free. You are also taking a lower salary, so you need to decide if the advantage of the shares is worthwhile. Not many startups make it to IPO so this is a trade-off between a lower risk career at a big company, and a higher risk career at a startup.
A larger company can offer higher salaries and they may also offer a reliable share option scheme. Employee benefits and training are likely to be superior. But the share schemes won’t make you a millionaire as the shares can’t increase in value as much as they can at a startup. However, they will be easier to sell at any time as they will already be traded on the stockmarket.