(This post is a tweet-thread slightly expanded here)

Some people have built wealth with stock options in startups, but it’s less than you think. Stock options are limited in subtle ways. This isn’t something I understood early in my career—and today, many still overvalue options in their compensation.

Five reasons Stock Options aren’t as valuable as you expect:

Vesting

Options are earned over time, not immediately.

You get zero options until you work for a year. After which, you get the first year all at once. There are no options for you if you quit or get fired in less than 12 months. After the first year, you get a new chunk of options each month.

You aren’t earning stock — you’re earning the right to buy stock.

A stock option is an option to buy shares at a pre-agreed price (called a strike price.)

If you don’t have enough cash to buy stock (and pay taxes, more on that later), you can’t get the stock.

Expiration

If you leave the company without purchasing your stock, you lose the chance. In most agreements, the stock automatically reverts back to the company within 90 days of your departure.

Taxes

When you buy your stock, you owe tax on the value of the stock you BUY, not what you PAY.

You may only have paid a $0.01 strike price, but what if it's at a $100 share price? You owe the gov’t 30% on the $100 in cash, no matter how uncertain or illiquid (unsellable) that stock is.

Even worse: When that tax money is paid, it’s gone, regardless of future stock price drops.

Savage, right? It's a very stupid policy.

The good news is IF you are going through an IPO or Acquisition, you can sell shares at $100, pay strike price and taxes all in one transaction—you don’t need cash if you are patient and have good timing.

If you work somewhere for four years and vest into all of your stock, you DO have the cash to buy your shares and cover taxes. If the company grew enough to make that stock valuable… you STILL don’t get any money until you can SELL the stock.

Illiquidity

Since startups are private, you can’t sell your stock without board permission. And even if you had board permission... who do you sell them to?

Really, you’re stuck waiting for IPO, Secondary Offering, or Acquisition.

Share Class

You get common shares, while investors get preferred shares.

This is an oversimplification of a complicated structure, but it’s worth knowing there are different kinds of shares, with different rights.

Preferred shareholders get paid first, sometimes multiples of their initial investment.

Bottom Line: If you own 1% (common stock) of a $10,000,000 company that sells, you may not get $100,000.

You might get $0.

To sum up, in order to make money at a startup via stock options, one of these has to happen:

You have a bunch of options, work for a long time (four or more years) AND stay until there is an opportunity to sell shares (IPO, Secondary Offering, or Acquisition).
You need to have a ton of cash on hand to buy shares and pay taxes, AND be confident enough the company will grow to spend that money, knowing it could still go to $0.

It’s a very thin line to walk successfully. Not a high percentage of people do, despite the stories.

Most people I know in startups give up valuable shares to change jobs.

Many also spend years stuck in companies or jobs they’re not happy at to keep their stock, waiting for a chance to sell.

Of course, all of this assumes your company is growing since your options were granted… otherwise you’re “underwater” — and the stock options are worthless.

Underwater stock options graphic from Carta

What lessons can you take from this?

Pick a place to work you will be happy for a long time. Be patient.

Vesting time is the constraint — get into a growing company and stay.
Don’t overvalue options in your compensation package. You also want a decent salary, benefits.
It’s safest for your happiness + financial health to assume stock options will be worth $0.
If a company isn’t open and honest about these terms, be wary.
Be picky about cos. The more certainty of outcome, the easier decisions get.

It’s hard, but it’s not impossible.

Stock option millionaires are all over the valley.

Play smart.

Stock Options are worth less than you think