Negotiating Stock Option Packages

By Michael Chaffers
Monster Contributing Writer

The best source of information about what is going on the workplace is you, our members. Over the past few months many of you have asked about negotiating stock options. Here are some recent questions with your responses and some of my thoughts.

Our members want to know:

"Are there any general formulas to consider when negotiating for stock options and bonuses (i.e., percent of salary, level of position in the company, etc.)? What if you are going to be the CEO?"

"I have been offered a VP job with an Internet start-up company. Is it normal for the base and bonus amounts to be less than what is available at competitors because this is a start-up? Is there any information or benchmarks on what fully diluted percentage of ownership this type of position should have at IPO and what is a reasonable reduced salary?"

Our members say:

"It is important to note when the company will be issuing an IPO, too. If this is part of the bargaining process, I think the options would be worth much more if they were planning an IPO within the year (meaning that it is already in process). If you have to wait years before they even go public, I would put much less weight on them."

"Based upon the number of stock options they offered me and their expected share price at the time they would begin vesting for me, the cut in salary is more than worth it for me. In fact, even if the shares stay at their launch price, I would still make money on the initial percentage vesting compared to what I was originally asking for in salary. So I decided to take the risk and go for it."

"Many companies try to use stock options as golden handcuffs to get you to stay longer than you normally would with the company."

"My opinion and experience has been to take the money in the hand. Invest it in the market and let the money grow. Over four years (typical life span of vesting for stock options) in an aggressive fund, you see how that money can grow (not to mention the extra salary each year), at much less risk than rolling the dice on your company’s stock performance."

"Obviously, for founders and very early on, stock options can be a huge payoff. But they are the only ones getting large chunks of shares. Most employees get nominal amounts of stock, and it’s rare (percentage-wise) that they will strike it rich with options."

"If you really want to project the value of your stock options, open up a spreadsheet and calculate the value of the income you’re giving up -- assuming you invested that cash in the stock market. Estimate its likely return over the amount of time that you are waiting for your options to vest. Compare that figure to the options the company is offering and what you can expect to make off those options when they vest."

Negotiation Coach’s Response:

Stock options have become wildly popular in recent years, both as a means for start-up companies to attract talent and for individual workers to claim some of the value created by those companies. Therefore, it is increasingly common for compensation offers to include both a base salary -- usually less than what established firms pay -- along with stock options.

Unfortunately, unlike base salaries, there is little market data about typical stock option packages for different positions. So what can you do to ensure you have a good deal?

First, realize that while negotiating stock option offers can be difficult, they should be approached with the same strategies and care that you use to negotiate any other deal. Focus on your interests, think creatively and make sure that you can justify any offer you accept as reasonable and appropriate given what others of similar skills make in the market.

Second, because there is so little available data, coming up with useful formulas or benchmarks is very difficult. So instead of relying on the Web, use your personal contacts. If you know attorneys, venture capitalists, accountants or journalists who are familiar with your industry, chances are they know typical compensation packages. As a general rule, the top employees of a company, especially the CEO, are typically offered significantly higher percentages of the company (perhaps 2% to 4% for the most valued officers, and maybe up to 10% for CEOs). VPs can expect somewhat less (0.5% to 2%), and everyone else gets even less.

Third, while all options have some potential value, their value to you depends on a series of factors. Some of these factors have to do with the terms of the option, and are therefore negotiable. These negotiable factors include the vesting schedule of the option, restrictions on exercising the options once they have vested and the strike (or exercise) price. Typically, stock option packages fully vest after four years and a certain percentage vest every 12 months.

Non-negotiable factors have to do with the value of the company -- such as the company’s most recent valuation, whether that valuation has increased in recent financings, how close it is to going public, the quality of its investors and the value of its underlying technology.

Fourth, ask someone to help you value the options so that you can compare them to salary you are foregoing. Remember that stock options do not pay your bills or feed your family. Since you are often asked to forgo hard cash for them, you really need to figure out if this is a reasonable trade-off for you -- given your appetite for risk and your financial situation. The CFO, HR directors and any executive recruiters you are using can be quite helpful in these deliberations. Do not hesitate to ask them to help you understand the value of the offer. Generally speaking, while you will likely receive more options if you are hired before the company attracts venture capital funding, your options are worth more the closer the company is to going public.

Fifth, putting aside the lure of stock options, ask yourself how well this job will satisfy your other interests? If the stock turns out to be worthless, will you still gain valuable experience, make a reasonable amount and receive the benefits that matter to you? Since most companies do not strike it big, most employees do not get wealthy from their options. They are an important piece of your compensation, but in most cases should not be the most important piece.

Sixth, if you disagree about the stock options offered to you, think of creative ways to bridge the differences. If the numbers being offered feel too low, you can always look for ways to receive more based on performance, tenure or other factors (think of a bonus paid in stock options, not cash). If the terms of the stock options upset you, consider a provision that automatically changes the offensive term once you achieve a certain milestone -- title, tenure or performance-related achievement.