How much stock options should i get

This provided a key strategic advantage to smaller companies with shallower pockets, who could save their cash and simply issue more and more options, all the while not recording a penny of the transaction as an expense.

Warren Buffet postulated on the state of affairs in his letter to shareholders: "Though options, if properly structured, can be an appropriate, and even ideal, way to compensate and motivate top managers, they are more often wildly capricious in their distribution of rewards, inefficient as motivators and inordinately expensive for shareholders.

Despite having a good run, the "lottery" eventually ended—and abruptly. The technology-fueled bubble in the stock market burst and millions of options that were once profitable had become worthless, or " underwater. The costs that stock options can pose to shareholders are a matter of much debate. According to the FASB, no specific method of valuing options grants is being forced on companies, primarily because no "best method" has been determined.

Stock options granted to employees have key differences from those sold on the exchanges, such as vesting periods and lack of transferability only the employee can ever use them. In their statement along with the resolution, the FASB will allow for any valuation method, so long as it incorporates the key variables that make up the most commonly used methods, such as Black Scholes and binomial models.

The key variables are:. Corporations are allowed to use their own discretion when choosing a valuation model, but it must also be agreed upon by their auditors. Still, there can be surprisingly large differences in ending valuations depending on the method used and the assumptions in place, especially the volatility assumptions. Because both companies and investors are entering new territory here, valuations and methods are bound to change over time.

What is known is what has already occurred, and that is that many companies have reduced, adjusted or eliminated their existing stock options programs altogether. Faced with the prospect of having to include estimated costs at the time of granting, many firms have chosen to change fast. The chart below highlights this trend.

Figure 1. Source: Reuters Fundamentals. The slope of the graph is exaggerated because of depressed earnings during the bear market of and , but the trend is still undeniable, not to mention dramatic. We are now seeing new models of compensation and incentive-pay to managers and other employees through restricted stock awards, operational target bonuses and other creative methods.

It's just in the beginning phases, so we can expect to see both tweaking and true innovation with time. Some industries will be more affected than others, most notably the tech industry, and Nasdaq stocks will show a higher aggregate reduction than NYSE stocks.

Figure 2. Trends like this could cause some sector rotation toward industries where the percentage of net income "in danger" is lower, as investors sort out which businesses will be hurt the most in the short term. It is crucial to note that since , stock options expensing has been contained in SEC Form Q and K reports—they were buried in the footnotes, but they were there.

As a review for those who might have forgotten, every option that is converted into a share by an employee dilutes the percentage of ownership of every other shareholder in the company. Many companies that issue large numbers of options also have stock repurchase programs to help offset dilution , but that means they're paying cash to buy back stock that has been given out for free to employees—these types of stock repurchases should be looked at as a compensation cost to employees, rather than an outpouring of love for the average shareholders from flush corporate coffers.

The hardest proponents of efficient market theory will say that investors needn't worry about this accounting change ; since the figures have already been in the footnotes, the argument goes, stock markets will have already incorporated this information into share prices. As with the industries above, individual stock results will be highly skewed, as can be shown in the following examples:.

Figure 3. They have the extra advantage of two or three years to design new compensation structures that satisfy both employees and the FASB. It is important to understand that while most companies were not recording any expenses for their option grants, they were receiving a handy benefit on their income statements in the form of valuable tax deductions.

When employees exercised their options, the intrinsic value market price minus grant price at the time of exercise was claimed as a tax deduction by the company. These tax deductions were being recorded as operating cash flow ; these deductions will still be allowed, but will now be counted as a financing cash flow instead of operating cash flow.

This should make investors wary; not only is GAAP EPS going to be lower for many companies, operating cash flow will be falling as well. Just how much? Like with the earnings examples above, some companies will be hurt much more than others.

Venture capital VC firms nearly always get preferred shares when they invest in companies. The value of your options continues to get more confusing and uncertain! To decide you have to make a trade off between certain cash now and potential cash later. Some people get worried about how it looks if they take the higher salary and lower options package, but that should not be a concern. In my view, your focus should be on whether the salary is enough on its own to satisfy you. If you have strong conviction the company is going to be a huge success and can manage the lower salary, you may be more inclined to take the package with higher options.

There is a risk-reward trade-off to be made:. I recommend considerations outside of the potential value of options when weighing up different offers. Perhaps the startup will give you a faster pace of learning, and this is important to you. Or perhaps salary growth is crucial and this is going to be more likely at a scale-up. The company should be able to give you advice, or you can seek advice from an accountant. Linked to tax is knowing when to exercise your options.

This essentially made the options contract worthless to anyone not wanting to stay at the company for a very long time! Our product is the smartest way to search for entry-level jobs at startups in London. Find your next role at a fast-growing company by visiting our website. If you need any help with how to think about your options offer, or anything else to do with your next move, email me at theo otta. Why is it important to understand options?

What is an option? The exercise price--also known as a strike price--is the price per share you would need to pay to buy the stock in the future. It will usually be at a significant discount to the stock price of the most recent financing, especially for early-stage companies. Typically, the more mature a company gets, the smaller the discount is. This is the number of years before the option expires. It's often 10 years.

For the purpose of this valuation, I would just use the vesting period--four years in most cases, but you should confirm with the company. T he interest rate has a very minimal impact on this calculation. Just use 2. This has the biggest impact on the calculation. It's correlated to the stage of the company: A big, stable company with predictable cash flows like Walmart might have annual volatility of 20 percent, while a riskier company like Sears might be more like 75 percent or higher.

For a very early-stage company that has only done a seed round, I would use percent. For a company that has done its Series A and has good momentum, use percent. After Series B, use 80 percent. For later rounds when a company is doing well, 60 percent. You might need to interpolate depending on the risk and the stage.