YC Startup Talks: Understanding Equity with Jordan Gonen, CEO & Co-founder of Compound

[Music] Well, thank you so much for the kind introduction. Um, it's really great to meet everyone. Um, I'm Jordan, I'm one of Compound's founders, and today I'm going to start by talking to you all about my hatred of personal finance. Um, I helped start Compound a few years ago because I didn't understand my personal finances. I was trying to work on a startup at the time, and all of these personal finance machinations kept getting in the way of my life. Um, and in particular, I hated all of this jargon, all of these acronyms that were associated with my equity compensation.

Um, so like any enterprising ambitious person, um, I mapped it all out and I was incredibly annoyed by the complication associated with trying to figure out how this equity thing worked. Um, I actually wrote a blog post about it and posted it on Hacker News. Um, and it went viral. Um, and thousands and really hundreds of thousands of people read the essay. Um, and thousands of people, uh, emailed me and said, "Hey Jordan, I have all of these complicated boring adult tasks, can you please help me?" Right? So there I was, the former software engineer who quickly became an expert at all things equity compensation, and I was helping people with their most complicated boring adult tasks.

Um, so at a time, I kind of asked myself, I said, "Why are these people trusting me with their most important information?" Right? Uh, surely there'd be someone better, uh, that has solved this before. And it turned out that most of the people who can, you know, help you with your finances tend to look a bit like this. Um, you know, they take you golfing, um, they kind of, uh, specialize in selling kind of public investment funds. But I wanted, you know, someone who knew the details, someone who could get into the weeds and explain things to me in a language that I could understand. As a former software engineer, I wanted kind of a wealth management product specifically designed for people who work in the technology world, and that's what we built at Compound.

Um, we're an all-in-one financial management solution for startup founders, employees, investors. We work with thousands of clients who are at all the top companies, and our mission is to help people not have to worry about their finances and instead focus on what they really care about in life, which may be building great companies or their families or any of their personal interests.

Um, and today, we're going to talk about one of my new favorite topics that I've spent the past three years of my life becoming one of the world's foremost experts in, which is startup equity compensation. Um, and I like to be really transparent about it. Um, my real goals for this conversation are first and foremost to get you to care about your equity.

Um, it's a, there's confusing terms, it's not particularly fun, but I promise you that if you can pay attention for the next, you know, 30 minutes or so, you will leave with an increased odds of achieving your goals in the future. So that's number one: making sure you can care about this. Two is I want to make sure that you're not scared by the key terms, so I'm going to go over a few terms. I'm not going to get into everything, but make sure that you understand the key terms.

And then three, and perhaps most importantly, is I'm not just going to scare you and say good luck. I'm going to make sure you have opportunities to kind of move forward from here. Um, I'm gearing this towards people who are not necessarily experts in the subject yet, um, but they are kind of just introducing themselves to equity, um, and are curious smart people and they want to understand how it works.

So you may have a job offer, you may have recently joined a private startup, you may have been working at one for a while and Investopedia doesn't really solve all your problems. You know, this talk is really for you. I'm more than happy to answer any questions specifically, so feel free to leave them in the chat and Max, who's also on the team at Compound, uh, will surface those to me. If there's anything I don't get to here, uh, we've written these amazing guides that go into a lot of weeds, so you can read for a very long time about them, or you can email me, um, and I'll give my email at the end, and I'm happy to help you kind of dive into that, um, uh, with our company.

So, um, mission one: get you to care about it. Well, first of all, you've taken the first step; you're on this call. Um, here's a quote from someone that we helped a bit ago, you know, really saving people millions of dollars, or, you know, hundreds of thousands of dollars, or tens of thousands of dollars, a material portion of their net worth by making sure, uh, they understand their equity.

So again, you're on the call. Hopefully, you're motivated by it. You can save 20 to 40 percent of the value of your work by thinking about the taxes, right? So just doing that alone, you're coming to the party. This stuff is important. It's not fun, it's adult stuff, but we're going to make it as easy as possible for you. So I hope at this point you somewhat care about it. But now I'm going to do something a little tricky: I'm going to tell you tax lawyers don't rule the world.

So there are things you can do, but I have to give the disclaimer before we have fun with all the acronyms that tax lawyers don't rule the world. The single most important thing you can do, NYC is a great place to look for this, but the single most important thing you can do is pick the right place to spend your time, right? And I want everyone here to think about themselves like an investor of their time, and they want a return. And the return can be money, but it can also be fun and learning and impact and prestige and networking, all these different things.

And the most important thing you can do to get the best return on investment is make sure you're picking that right company, right? Because unlike a venture capital firm, right? You don't get to diversify across dozens or hundreds of startups, right? You get to pick one or two or five over the course of your career. So I really, really think it's important to invest in underwriting your company by looking at the people and the team and whatnot, because equity at the end of the day, right, is just like an investment, right? You can invest your time anywhere, you can also invest your money anywhere, and equity is just one of those places.

So, um, with that, I know it's a bit of a long preamble. With that, uh, we're going to dive into equity. Um, and you may have read some about it before. When I first heard about equity, I saw a lot of these sort of images. It's this like weird amorphous thing. Some people say it may be a lottery ticket. Some people say that, you know, it's worth nothing. Um, you can impact it, but you also can't really complain to your friends about it because no one really feels sorry for you that you got these lottery tickets that you could potentially impact.

So it's this weird thing that you don't know how to necessarily represent on your balance sheet or, you know, really digest that night when you're thinking about your personal wealth. And the best part is most startups, as nice as they are, you know, when they give you your offer letter, you get something like this. It's like 1,000 options, right? And I'm like, what does this mean? Right? I'm like, I got 1,000 options in some startup that I hope is going to be successful, but what does this mean?

And, um, the reality is the startups are not evil people; they probably actually don't understand how this stuff works that well either. So really, it is up to you, and it's your responsibility to figure out some of the key information associated with your equity, right? And I say this with a great deal of confidence, and we'll send this out, but it is your responsibility to do this. Oftentimes, people are like, "Oh, am I going to be offending them? Am I rude to them?" No, no. This is an asset that you are acquiring, and it is your right to figure out this information.

Um, and you should work hard to figure this out, figure out this information over time. So we're going to cover a lot of the key details, we'll go through a few examples, um, but like I said, if you want me to dive into particular areas, feel free to ask, um, and we'll be able to dive in from there.

So the first, uh, uh, thing to start with is what type of equity you may have exposure to. As you work at startups, it's very likely that you'll get multiple types of equity over time. The two broad buckets to start with, though, are grants and stock options. So grants, often called restricted stock units or RSUs, are often given to people at later stage companies, companies with more than 100 employees. Broadly, options, uh, or stock options, they're not shares, right? So grants give you the shares of the company; stock options give you the right to purchase shares in your company, right?

So grants give you the shares directly; stock options give you the right to purchase the shares. And, um, for both granted stock options, uh, but we'll focus primarily on stock options for the next few slides, um, you actually don't receive all the equity right when you join your company, right? So instead, to incentivize you to stay at your company, you will be provided what's called a vesting schedule.

And the vesting schedule says exactly over what time period you're able to purchase your shares, right? So at what point in the in your stay at the company, um, can you purchase your equity? Um, and generally it says something like a one-year cliff meaning you have to wait a year before you can buy anything, and then it will vest over some period of time, right? And that's what's called the vesting schedule.

Now, okay, you've got an option. It gives you the right to purchase the thing. You can do it over some period of time. The natural question for me is like, well, what can I purchase it at? And that is what's called the strike price. So the strike price is generally stipulated at the time you were issued your equity, right? It's not when you signed your offer letter; it's actually when you're issued your equity. And that strike price, here we go, it gets fun now.

The strike price is equal to the 409A valuation at the time you joined the company, right? Because private companies don't have a public valuation, so they do something called a 409A valuation every year around every financing event where they hire some law firm or accounting firm to audit their financial history and come up with the valuation. And, um, it is a, uh, the strike price in negotiable term or is it legally bounded to the 409A.

Um, it is, uh, they have to issue it at the 409A valuation. Now, the 409A is something that they do, like I said, on a regular basis, um, but, uh, it can go up or down over the company's life cycle. So there's no guarantee that it will continue going up over time. And to draw this out, just to really reinforce this, when you join your company, you're given your option at the strike price; the strike price stays static over time, but hopefully the 409A and the valuation for the company continue to rise.

Of course, this is not guaranteed, and it's probably very likely that your company doesn't go up into the right forever. Um, and there's a world where your option becomes valueless. But in the positive state for the world, um, you begin to have a difference between the strike price and your latest valuation, and this difference is known as the bargain element. And this difference is what enables you to eventually buy low and sell high, which means that the option has value. But it's not as straightforward because, A, your company might not succeed, so when you buy your option low, there's a chance that it's actually not worth anything, and your investment goes to zero.

So it's a risky investment. Two, when you buy your option or exercise your option, they call it, or buy your shares, when you do that, you may have to hold on to the equity for a long period of time because even if the company one day succeeds, it's very likely that it will take many, many years before it is now called liquid or you're able to sell it. So that's the second hard part. And then the third hard part where it gets especially fun, um, is there are tax implications for exercising your stock options.

So when you make a decision like this, right, the company is illiquid, so you're paying money at the strike price to exercise your options; you may also owe taxes before you have any liquidity, and that is where there can be a lot of confusion, um, because the taxes depend on the type of equity you own. And within stock options, there's different types of stock options, which we can go into, uh, and within grants, um, there's different types of vesting events that could occur and the taxes occur, uh, depending on the timing and type of exercises that you're doing.

So when you're exercising, you want to think about exactly when you're exercising and timing it in a way that you're able to cover the tax obligations as well. So there's two main reasons or incentives for exercising your options earlier rather than later. The first is, going back to that bargain element, that difference between the strike price and the 409A that we talked about; the smaller that gap is, the less you'll probably owe in taxes, right?

So if you wait to exercise your options and the company does really, really well, right, and you, um, didn't exercise your options, well, now you're in a great spot, right? Your company is doing super, super well, and you are now holding options that are worth a lot more money, but you will now have to pay taxes on that entire spread, right? So it becomes more costly to exercise your options. That's the first challenge around exercising.

Now, you may not be able, and we'll dive into what happens if you were to not exercise your options if you were to leave your company, but it puts you in a tricky position. The second reason to exercise your options is that, uh, you're taxed at both the exercise event, so when you decide to exercise, but also the sale event. And the way you're taxed depends on the difference between the time you exercise and the time you sell. So if you are more than one year between exercising and selling, and there's some more nuance, but broadly let's speak, um, then you will get long-term capital gains in the United States for that asset. But if you are less than one year between exercising and selling, you will only get short-term capital gains, um, or ordinary income taxes.

So there's about a 15 to 13 difference between those two, depending on the given tax year that you may incur based off of the timing of your exercise. I know this is a little bit complicated; uh, we'll get into more details in a second. Now you may be thinking, "Okay, so I'm thinking about exercising. I just got an offer. What could my equity be worth in the future?" Now, the reality is it's impossible to predict exactly what your equity will be worth in the future, and if any founder or, you know, hiring manager is telling you they know exactly what the future value will be, they are not evil people necessarily, but they are not telling the truth entirely because the reality is, is no one knows.

Um, there are different ways to approximate what things may be worth, but at the end of the day we're looking at some fairly simple math, and we're guessing exactly what the valuation could be in the future. Um, what I recommend doing is trying to think about A, are there any competitors or public competitors or comps of the company that you're looking at, and then B, what goes well in the success case and how much value does that have? Um, and then C, what happens if the company does poorly, like very poorly, and what's the outcome in that regard for you?

One of the numbers you're going to want to look at to avoid this whole “I own 1,000 options in this amorphous thing I don't really understand” is trying to get to what's called the fully diluted shares outstanding. That's the total number of shares across investors, warrants, grants, employees that the company has. And that way, if you can get that number, you can then divide the number of options or number of grants you have by that number to get roughly your percentage ownership of the company.

Without that, you won't be able to know exactly what potential value you may have, right? So you need to understand the denominator in order for the numerator to really make sense as you think about the value of your equity. Now, another thing that trips people up often is that there's this term called dilution. So every time your company raises more money, right, they issue more shares to the world because they're welcoming in new investors. Your percentage ownership will go lower, right? Because the denominator is increasing and your numerator's staying the same.

So oftentimes, people get upset about this. They're like, "Oh no! Like we're, you know, we're diluting ourselves. My equity is less," but my reaction to that is often one that which you should pay attention to really is the total value, not just the percentage ownership you have because it's very likely that the reason your founders and your team are raising more money is because they're increasing the value of your equity overall.

Um, and as a result, you shouldn't look at dilution as this like terrible thing. Often it's a vehicle for increasing the value of the equity that you hold. So I did want to make a defense of the startup for one second. Okay, we're almost there. So the next thing I wanted to briefly touch on, um, was a topic called the post-termination exercise window. And again, this is a concept that if you're getting an offer right now, or you work at a startup, figure out what your post-termination exercise window is.

Termination is kind of a scary word, but, uh, if you find yourself in your company parting ways, either you quit or you're let go or various other reasons, you only have a limited amount of time to exercise your options. That's because you have something called a post-termination exercise window. So let's imagine you've been working at a company for three years and you decide to leave for whatever reason and you haven't exercised any of your options yet. All of your vested options mean the options you've earned, uh, you will have up until the post-termination exercise window to exercise them before they expire, right?

So the standard window is 90 days, but some companies extend their exercise window beyond 90 days to something like three years or five years, something much longer. There are some tax implications to extending the window, and we can talk about that if anyone's interested, but you should be aware of that because it buys you a lot more optionality if you have more time to decide whether or not you want to exercise your options, right? And many times people are in positions where they're at their company and they want to leave, but they can't afford to exercise their stock options, and as a result, they're doing a job that they don't like for many, many years, and it's a very sad thing for the world and very much wasted potential. So look out for this and really ask your company why they chose whatever they chose and factor that into your overall decision-making.

Jordan, what happens if a company doesn't disclose information such as the number of fully diluted shares outstanding? That was a question we got from the audience.

Yeah, thanks for that, and I saw the other ones too, so we'll dive into it. So, um, the reality is there's no law yet, uh, that they legally have to do this. Um, generally, my approach in any negotiation like this is to really, um, first of all, list out your own priorities, right? This is one input across many potential inputs for your job, and I don't want you to put yourself in a position where you're over-negotiating one item when you really need a job. So that, you know, next month, you can afford rent.

So first of all, always start with your own priorities. But then second, my approach would be one of very much curiosity: why wouldn't they tell you the fully diluted shares outstanding, right? And I would genuinely ask the hiring manager what is the reason. Right? And, um, uh, of all the things we mentioned, I would say fully diluted shares outstanding is not the top of the list. So we can go through kind of where to prioritize and what to kind of stick on, but I would say that a lot of times, these hiring managers and founders are just listening to their lawyers, um, but they don't actually spend the time to really understand the implications of sharing this information or asking about this information or etc.

So my suggested strategy in that regard is to really come at it with curiosity and try to understand it. Maybe they have a really good reason. I don't know the really good reason, having talked to many, many lawyers in many companies about this, but perhaps there is one out there and I'd be curious as well. Um, one of the other questions, Max, that I think was there was about the tax implications of the longer window.

Um, so, uh, one thing we didn't cover is there are two types of stock options. Uh, there are more, but the two primary ones are called incentive stock options (ISOs) and non-qualified stock options (NSOs). And we have some great, uh, essays on this that also make it really clear, but, um, they have different tax implications. So ISOs, when you exercise them, they don't owe ordinary income tax; they owe something called the alternative minimum tax (AMT). It's a different type of tax calculation.

And NSOs, when you exercise them, they owe ordinary income tax. So there are different types of tax applications. When you get an extended exercise window, let's say it's three years. So the standard is 90 days. Let's say your company is like I'm amazing, we're going to make it three years for you. After 90 days, your ISOs will automatically convert into NSOs or they'll automatically be treated as NSOs. So on day 93, you decide to exercise your options; they will no longer be treated as ISOs; they will only be treated as NSOs. Not necessarily a bad thing, depends on your overall situation, but it's a difference in tax treatment.

Hopefully, that makes some sense. And then, Jordan, in terms of each company, do they have various termination windows where one company has 90 days, another company has 10 years?

Yeah, so there are companies. Um, there's a great list on the internet, and we're working on one as well to promote companies that do offer extended exercise windows. Um, but, uh, it does vary. It is a per-company decision. Um, and I think as a trend, we are seeing more companies offer extended exercise windows. Um, but, uh, to defend the company, it does require a lot more operational support, right? Because you have all of your ex-employees now that you're communicating with and you're having to maintain their equity records.

So there's a little bit of work there, but this is just an example of where you should think about incentives between the candidate or the employee and the company. They're not always perfectly aligned. Awesome, I'm gonna keep going, but then Max, if you could round up any questions; feel free to, um, we'll dive into those. We'll have a lot of time for this.

Um, so I wanted to be clear, you know, these are what I believe the most important topics, you know, to to get from your employer, especially during the offer stage, but even if you haven't been working at the company. Again, my suggestion is to take this in a very much a curiosity approach in that these are not bad people, right? This isn't like you against them. Although there is some of that as a negotiation, this is far more like, "Hey, I'm trying to figure out my financial situation. I talked to Jordan; he told me I needed this information." You know, blame me or blame someone in your life and he told me I needed this information in order for me to do my taxes.

Right? When you go buy a house, they let you inspect the house, right? But I want to do this. Um, and, uh, it's important to kind of get that information. Now, again, I'm going to underline tax lawyers don't rule the world. The most important thing you can do, in my view, is work on the company that makes you the most excited for whatever reason that is. But that is really important.

Now, I understand that y'all are not like signing up to be finance PhDs or running your own personal treasury department. Shameless plug for us, but we've automated all this so we can model all of your taxes for free. We have like a free net worth dashboard modeling tool, etc. Um, it's important to kind of weigh the pros and cons because the reality is there's no right answer.

So our goal, and I think whatever advisor you work with, the goal should really be to help you figure out what can go well, but then also what can go really wrong. And as we're seeing nowadays, the reality is that startups don't always go up into the right and they have to make hard decisions and that not everything is going to be fairytale and with companies forever.

So it's important to be critical. Um, what I want to remind people around is that you are an investor, right? So VCs hire, you know, analysts for however good the analysts are; they hire analysts to underwrite companies they invest in, right? And they make hundreds of investments potentially a year, right? You don't have any analysts, right? And you also only get to invest in one company at a time for the most part.

Um, so treat this like an investment decision. You can very well join a company and not exercise your options. I may ask you why not, and if it's because you don't believe in the company, perhaps we can help you find a better company. Um, but the reality is, is that it is a risky investment decision, and you should consider it a risky investment decision because you can put your money in crypto. You can put your money in the market. You can put it in cash. You can invest in yourself. Like there's a lot of ways to allocate your resources. This is one of many investment decisions you can make.

So I encourage you to do this kind of global optimization across your finances. So this is my presentation. Um, happy to dive into any questions now. Please do challenge me on the law. I love reading the tax code. Uh, turns out there actually is a tax code, kinda like, you know, engineering code. There is a tax code; you can read it yourself; it's free on the internet.

Um, so there's a lot of information there for anyone who wants to check it out. Um, and if you sign up for Compound, you put the YC event, we'll expedite you off the waitlist as well. They made me say that. All right, now let's, uh, dive into some questions if there aren't.

Yeah, I have a handful of questions. Jordan, um, is the equity amount ever something you would negotiate? How do you think about, um, generally approaching a negotiation and finding the right amount based on your job and role?

Awesome question! So everything is negotiable, uh, in life I've learned. Um, you don't want to take that too far, but equity is definitely a negotiable piece. Um, it depends on the company that you're negotiating against, let's say, or with.

Um, but generally speaking, uh, you will be able to negotiate. I would say the approach I would take if you're trying to get a job at Compound, and we are hiring, but if you're trying to get a job at Compound, um, is I would go to Jordan myself, and I'd say, you know, "What, man? I really believe in your company. Like I'm so optimistic in the long term. I want to, you know, really, really invest in the long term of Compound. I need more equity upside, right? I need more exposure to the kind of, I want to be at the IPO day so that I'm on the stage with you; let's get some equity together."

And, and realizing that equity is a risky thing, right? And realizing that, but I think taking the approach of the long-term view and pushing in that direction is what I, I've found works quite well, uh, for people.

In terms of how to understand if your offers fair, how would you, what information would you use today to do that?

Yeah, so there's not a great resource, um, because, and this is the big because, the, uh, each company is different, right? And, um, in a lot of ways you're making it, you have an investment opportunity in that company. So I tend to advise people to test the market for themselves, right? Because you are a constant, but all the companies are different. So go figure out how much you're worth across various companies, and that's one way to have a market assessment for your own personal finances.

Um, this is a problem I want to deeply solve, though, and give you all more leverage. So, uh, if you have ID, I have some ideas, but there's not a great resource today for individuals to be able to figure out exactly what they could be worth on the market.

I would, one thing I would say, though, a lot of people never do this, but I would highly encourage it, is if you asked, uh, the employer and you said, "Hey, like how did you come up with my offer," right? So most startups have no idea. Second of all, if they say, "Well, we use this compensation benchmarking thing, and I'm like, you know, you're the 75th percentile," my response is like, "Yo, I'm not 75th percentile. I have one life, I'm trying my hardest, like I'm 99 percent higher," some version of that.

Um, but you know, I really think like really bet on yourself and, uh, try to kind of figure out exactly their methodology because at the end of the day, I'll tell you this: you don't win; for a lot of these startups, you don't win by being grossly overpaid in an incredibly unfair way so that they can't hire any more talent, right? So you don't want that either because this equity is only valuable if the company is successful, right? You want to find a fair compromise that works for both sides so that both people are excited because what would happen if you negotiate for way, way, way too much equity?

Um, well, maybe you're going to underperform and they're going to let you go because you're this massive piece on their balance sheet, right? Or maybe they're not able to hire the people they need to help make your equity successful. So it really needs to be a two-way negotiation where both sides win.

And then just focusing on the questions that are a little bit broader before diving into the specific questions. Could you explain a little bit more about RSUs versus options and in which circumstance maybe options would be better than RSUs?

Great question! So there's not a better, um, there are differences from a tax perspective and from a liquidity perspective. So for restricted stock units (RSUs), um, you don't have to exercise them, so that is a benefit, but, uh, you, and this is where it gets a little complicated, you have something called a double trigger RSU. So instead of paying taxes as the RSUs vest, right? Because you're earning an asset, you'd think you'd owe taxes on that asset as the vest. Instead, they use something called a double trigger. So they delay the taxes you owe on the vesting for the RSU until a liquidity date in the future, right? That's called double trigger RSU vesting.

The problem with that is that you are not allowed to participate in any, and this is another question I think, in any liquidity events or company sponsored tender offers if you have double trigger RSUs. So the options give you more optionality to acquire shares outright that aren't, you know, covered with this weird double trigger tax treatment, but RSUs aren't.

The other thing is that stock options are generally given to people earlier on in the company's lifecycle so they tend to give you kind of more exposure to the company, but RSUs and options are not really like a negotiable thing. Companies aren't like one-off giving options to people and then one-off giving RSUs to people. It's far more of a company-wide administrative change to move between options and RSU, so you shouldn't really be able to negotiate it unless you're like also an advisor to the company or some version of that.

And then in terms of seeking liquidity before an IPO, how can employees today think about selling maybe to investors in an upcoming round or navigate that process?

Great question! So, you know, one of the downsides of working at a private company is that there's not a liquid public market for your shares, right? So some companies offer regular liquidity events. SpaceX is one company that's known for that, um, and they, they will buy back your shares on a regular basis. So every quarter or, you know, a couple times a year.

Now, the problem with that is that they dictate the price, right? So it may not be a price that you want to sell for and it's only, you know, a couple times a year. So you have to really make a decision every so often. Most private startups don't do this, um, and they don't do it not because they're bad people, they don't do it because there's not a market for them. It turns out that these are risky startup investments, and most of the time these companies fail, right?

So there's not always going to be a liquid market for all of these different options. Now, that being said, there are brokers and exchanges that specialize in secondary markets. Um, you could explore them; you'll probably get LinkedIn messages from people trying to buy your equity as your company gets harder. We do offer a service where we help people navigate those different options so they get the best price and they don't have to talk to 10 brokers, but, um, I encourage you to like explore what's out there if you are looking for liquidity in your company.

Happy to chat about that with you. Um, I will say, uh, each company has its own rules around if you're allowed to sell, when you're allowed to sell, how much you're allowed to sell. So it does depend on the company that you work at as well, um, because they do control the asset.

And then is the 409A and other information publicly available, or do you need to ask the startup for that information, or is it even in a cap table management software?

Great question! So, um, when you join the company, there's think about the timeline between getting an offer to signing the offer to joining the company to your options being issued to you. That time period could be like multiple months, right? So in your offer letter, it's actually not going to tell you the strike price often depending on the size of the company because the strike price, remember, is the is according to the latest 409A evaluation.

So a lot of startups, what they do is they batch their options; they issue them like around every board meeting because every time they issue options, they need to get it ratified by the board. So every quarter or whatnot, they are issuing options and they're using the latest 409A valuation at that time.

So what I recommend people do is when you're when you're, um, when you are getting an offer, you don't, you can't ask for the like what the evaluation is going to be for the shares because they don't know, right? They don't know when the next board meeting is. Maybe they don't know exactly when you're gonna get your strike price. What they can tell you, though, is what the latest strike price is, so like what the last 409A evaluation was; and you can also ask them, it's this is kind of, you know, where you're gonna bring out your winking face or some version of that, but you can ask them, "Do you expect another 409A evaluation to be happening soon, or are you fundraising anytime soon?"

Remember, every year they have to do a 409A evaluation legally, and anytime there's a fundraising event, they also will do a 409A evaluation. So the reason you want to do this – and this is where sometimes people get quite upset – is imagine you sign the offer, the company raises a monster around tomorrow, um, and then you join the company and your strike price is way higher, or you've been diluted a lot. So the actual percentage of ownership you have is a lot higher. So you don't actually get, you know, what you were promised, and that's honestly an opportunity for leverage and negotiation for you.

Um, but uh, it does happen pretty often, and it's no one's fault; it's just a lack of clarity sometimes in the communication. And then, Jordan, I'm just going to call on a couple of people who wanted to ask the questions live. Uh, Luis, I think you have one question about Compound generally?

Yeah, I was just curious to hear kind of the story behind it, how it got started, what the vision is, what the plan is moving forward. Um, I can give context as to why I'm asking, but just keep it general, right? Yeah, I'd just love to hear more about it.

Yeah, well, I'm materially self-promotional, so we've written all about it; we can share you the link there. Um, but our goal is really just to build the thing we've always wanted. I probably come off a little selfish. I just hate talking to like people who golf all the time when I'm helping with my finances, so our goal is to like help people, um, with their finances, um, really specifically all these startup specific needs. So things like exercising options, investing your money away from an IPO, um, borrowing money, all of that sort of stuff.

But happy to tell you more about it; we've written about it at length as well, and I just passed along a link. Um, as well, and Jack, I think you have one more question?

Yeah, thank you so much. Um, and thanks for the presentation; both of you has been really helpful. Um, my question is just digging a bit more into the, you know, companies which allow you to sell your options pre-IPO. I'm kind of curious, um, how common is it for a company to go all the way to IPO without allowing liquidity for for all their normal employees? Because I hear of, uh, sometimes companies will allow it, but only for very early people or execs. I hear all sorts of different things about, um, just how common it is to allow that, and I have talked with other friends at later stage startups who say, "Yeah, it's very normal that they just allow you to sell once you're at some certain stage in the development." So if you could speak a bit about the norms or, uh, just how common this is, uh, that'd be really great to know.

Yeah, great question. Thanks, Jack. And one kind of nuance there, you actually can't sell options, right? So you could only sell options that you've exercised. The reason this matters, I know I'm nitpicking, I am that type of person. The reason this matters is because if you are in a situation where you can sell but you haven't exercised any of your options, you will then be forced to exercise and sell your options at the same time.

It's what they call it a public company, a cashless exercise. This isn't terrible, but what ends up happening is if you remember the delta between the time you exercise and the time you sell is less than one year, right? So you owe ordinary income tax, which is not as good of a tax treatment at the time of exercise. So anyways, that is just one kind of nuance to point out.

Um, as far as how common it is, well, I'll tell you if you ask a Series A founder and you say, "Yo," don't say yo, but if you say, "Hey, are you going to, um, issue equity to liquidity to our employees?" most of the time I think they have no idea what they're talking about because they run a Series A company and they've never been at Series D.

So you could, you can kind of get an idea for their philosophy, but they may not understand the implications of giving out liquidity in the coming years. So I would, if you're interested in that stage company, it's very hard for them to predict the future because they don't really know the nuance around it.

I will say, generally speaking, as companies grow to Series D, E, and beyond, and obviously those are somewhat arbitrary benchmarks, but, um, we are seeing more and more of them offer liquidity. There are more and more startups helping startups offer liquidity, um, but the nuance check that you point out is why do people only offer it to early employees?

The reason is because if you join a startup and then you sell most of your equity one year in, then the purpose of the equity compensation, right? The incentive stock options which are to incentivize you to stay at your company don't really work as well. So whether or not it's fair we can kind of debate, but that's what the startup believes is, "Hey, like we still want to have an incentive for you to stay."

So even when they do offer liquidity programs, it's generally speaking only for something like five to twenty percent of your company of your equity. It's not going to be your whole tranche, and I think I saw a question earlier. You can, um, you can exercise one percent of your options; you can exercise all of them. You don't need to, uh, you don't need to do, you, you can do whatever tranche you want. You can do a certain percentage every month. We can help you kind of model out like what if you do them monthly as they invest, you know, there's a lot of different, uh, things you can do.

One of the questions that I think I see there, um, is around early exercising. Um, so we're about to enter extra fun land for people. Uh, early exercising is a concept where your company is a really important one. Your company, when when you join, they give you the ability to purchase all of your stock options to exercise all of your stock options before they vest, right? So if you're interested in stock options, you can buy all of your shares before they vest, and in the perfect world, right, when you, if you do this up front then your options will be issued at the strike price, right?

And you will have a 409A evaluation, the latest 409A evaluation, and if you do this all up front, right, and I can go back to this chart, right? So if you do this all up front and you're here, right, that bargain element is going to be what? It's going to be zero, right? Because the 409A, the strike price are the exact same. So what that allows you to do is file something called an 83(b) election where you go to the government, you say, "Hey, I love you government, I am going to pre-pay all my taxes up front for my exercising and my options." Now you don't tell them, but hey, there's no taxes owed, so it's, you know, it's a good deal for you; but, um, you pre-pay all the taxes up front of which is zero or it's less than what it will be in the future and you are locking in that bargain element.

So early exercising allows you to do that so you have that preferential tax treatment so you won't owe any taxes potentially at the time of exercise. Now the nuance here is if you were to leave your company. So let's say you're at your company for three years; you early exercise, meaning you bought all four years up front, but you leave after year three. The company will buy back your shares from you at the price you exercise them for, so they will just purchase them back for you unless they went bankrupt, in which case you're out of luck, but they will buy them back from you.

Does that kind of make sense? Hopefully, any other questions, Max? I know we have a few minutes. Um, let's see. Is there any things that you've seen that are the most important takeaways or I would say like both ends of the spectrum like the things someone absolutely should know and the biggest optimizations? For example, we got the question, like what's the most unique way you've seen someone use their equity?

Yeah, I'm kinda boring! You have a lot of opportunities to innovate in your life, right? And you have super powers. You may be an engineer, designer, marketer, business person, that's where you innovate. This boring stuff, don't innovate. Right? Just do the boring things for the most part. Like you're going to take plenty of risk with yourself. So yes, you can maybe save by setting up like a Grantor Retained Annuity Trust and like moving to Delaware. And nothing against Delaware, but like you could do all of these different things.

But my encouragement to people is just in general, keep it simple. There's like people out there in the world that dedicated their lives for some reason to being experts at these things; they're weird, they're like me. And you should try to find the ones you trust, whoever they are. So ask them lots of questions, be kind of annoying to them, and then delegate things to them and then check their work and kind of work with them over time. That would be my bias.

As far as something more applied that's not a cop-out answer, my encouragement to folks is really, first of all, care about it. Second of all, get the key terms you need, plug them into some sort of calculator, build it yourself, use ours, whatever. Um, and then be left with what's the best-case scenario, what's the worst-case scenario, and make sure you build a strategy where you're happy in both of those worlds. Too often I see people say, "Oh hey, I'm about to exercise all these options." But even if the company becomes the next Airbnb, YC didn't pay me to say that, but even if they become the next Airbnb, um, you know, I'm still not happy. Then it's like, "Well, what are you doing with your time?"

Um, so I really encourage people to look at both kind of ends of the spectrum over time. Then a couple more questions came in, but on a high level, could you talk quickly about stock option financing and options to acquire liquidity to exercise your options?

Yeah, so one of the scenarios here is that you may not have the money. So you may be like, "Okay, Jordan, I'd love to exercise everything, like of course, it's better from a tax perspective." There's all these things we didn't talk about. All of them Max will send some essays like there's something called QSBS, the Qualified Small Business Stock Tax Exemption. You save 10 million dollars in tax-free capital gains, which is like great if it applies to you, and there's some nuance around it. But you may be like, "Great, but Jordan, I have no money." And I'm like, "Then, don't exercise your options!"

The only other thing you can do is go get a loan from someone to exercise. The cheapest is if your family for some reason has an extra, you know, hundreds of thousand dollars laying around, first introduce them to me, and then you can, you know, get a loan from them. Um, but secondly, um, there are like funds out there that will give you a loan to exercise your options. They're called non-recourse loans or private financing contracts. They are tricky.

So my encouragement would be to talk to someone who can help you navigate them again, plug first off, we help you do that, but find a lawyer who specializes in this sort of stuff. They are very tricky contracts, they can sometimes be very expensive, uh, the actual loans and not worth it, um, so I would highly, I'd be skeptical going into any of those. But they can work especially if your options are about to expire.

Then if you're at a company and you've been working there for a year and there could be an upcoming fundraising event, how do you think about dilution getting a refresher grant?

Yeah, so dilution, like I said, is a thing that happens. Um, it's not all bad. People are always like, "Oh my God, I was diluted," and I'm like, "Well, your company just made more about, you know, more valuation, higher prices, etc." So it's not all bad.

Um, in general, my view is you should totally negotiate and try to get more equity and more exposure over time. You can definitely show your math and say, "Hey, you know, I was diluted X." Remember that the founder that you're talking to was also diluted the exact same proportion as you, so they do feel a little bit of the pain even though they own more of the overall company.

Um, but yeah, some companies have a refresher grant program, so if you're looking at later stage businesses, they employ people whose full-time job it is is to think about compensation practices. My suggestion for all of you is to become friends with those people when you join the company and become friends with the finance people as well because they're going to know when the next 409A is going to be, they're going to know how the leveling program works, they're going to know exactly how refreshers work over time.

So these are all things you can do to kind of figure that out, if that makes sense. I have a question that is not directly related to equity, but it could be. Uh, what roles are you hiring for and how can someone get a job at Compound?

There you go, so we are hiring, um, across the board right now. We are hiring software engineers especially. Um, I'd say, uh, send us an email; you can send me an email directly at jordan@withcompound.com, and I'll funnel you to the right people just to make it easy. Also, happy to just be useful to anyone if they're looking for a job; can also connect them, um, but to others. Um, but the thing we really care about with people is we really care about quality and craft.

Um, and the thing we always talk about is, there are certain types of people when they go to a restaurant, like they notice the fork is like super heavy and they comment on it. Those are the types of people who work at Compound. Like they care about the forks. Uh, at rest, you know, our terms of service page is really pretty, not by accident. So that's what we're looking for; we care deeply about writing and quality and going to the weed, so, um, that's a little bit about Compound. Then Robert, I think you have a question?

Yeah, sure. I was just curious about the norms around creating a compensation package for co-founders. So say you offer 15 percent of the company, is there a vesting period? Any advice would be great.

Awesome question! So I think YC has actually some great content on like co-founder relationships in general. They talk a little bit about kind of splitting equity across people. There's definitely different philosophies around it. I won't opine; there's no best one. I would definitely think, though, you know, how do you and your co-founder kind of overlay with each other?

I would say, um, as far as vesting, though, the biggest thing, right, the purpose of compensation, remember, a business is a ball of risk. There's all these different things you can do to de-risk it over time. You can raise money, you can like build a product, you can talk to your customer, all these different things. One of the things you can do is incentivize your team appropriately, right?

So that's the purpose of compensation. And when you design your compensation program, my view is keep it simple. You don't need to reinvent the wheel necessarily, but you want to incentivize people to build a long-term enduring business. We're learning a lot right now that short-term optimizations don't earn you a lot of brownie points for, you know, the public or the private markets over the long term.

So what can you do to incentivize, uh, you know, over the long term? For most startups, that's just a four-year investing period. So that's kind of standard for people. I know companies that do longer than that, but they're different. Um, and for co-founders, that's included. Now as a co-founder, um, you can go to your board and say, "Hey, you know, I've been working on this for four years, all my equity vested, like I am beholden to the board and to the company. Like should we incentivize me to work harder or not with compensation?"

And they can issue you more equity as well, um, and that can happen at any time in the company's life cycle. Uh, there's a chance your co-founder and you split, and there's, you know, more equity in the pool. There's a chance that you, you know, buy out your investors over time. There's many different outcomes you could have.

But my view is especially early on, it's like you don't want to do something too innovative. I mean, I'm not restricting innovation, but you don't want to necessarily take unknown risks. So definitely think again about the best case scenario and the worst case scenario with any decision that you make.

And then, Emmanuel, I think you have one question saying that you have options that are fully vested. Um, how do you think about managing that potentially with an upcoming liquidity event and then maybe like diversifying or selling them?

Uh, yeah, so in that version of the world, the question, um, you know, once there is a liquid event, maybe an IPO, maybe an acquisition, you know, maybe there's a tender offer, you will have all of this other money or the potential to have all this other money and it's not clear what you should do with that money, right? It may be actually more money than you've ever seen in your life, right?

It may be so much money that you will buy a house in Tahoe and like another house in Tahoe as well and then you'll be like, "Well, what do I do with the rest of this money?" So that version of the world can very well happen. There's not a lot of empathy for those people, but I have it. So it is a weird position to be in in the world. My suggestion is to go back and really write a memo to yourself listing how you want to use your money to make your life better or others' lives better.

So literally write a memo to yourself before you diversify saying, "I am going to sell equity in my startup because of X, Y, and Z," and then go execute on that. I think people have a very hard time calibrating risk. Oftentimes, they say, "Well, if I sell 90 percent of my company equity now that we've gone public, I'm super conservative," right? I think about that and I say, "Well, no, no, you're super optimistic in your company. You think the 10 percent that you left on the table is going to be worth so much in the future that you're not even going to think about the 90 that you just sold and took off the table in that kind of really best case scenario."

But in the worst case scenario, again, you've kind of built a reservoir for yourself. So again, I'd go back and I'd say, "Let's figure out the cash flow model, the tax implications for the best and worst-case scenario," and try to work backwards from there.

I think there's a few more questions that could be starting to get a little bit more specific. Um, when you're thinking about negotiating and sharing equity compensation, do you compare yourself to people in similar positions at your company, maybe at other companies?

Yeah, and, and this is the question from Paul, Max, the last one.

Yeah, exactly. Awesome! Yeah, so, and then I think maybe implicit here is like can you form a union against your company to kind of negotiate people? I would say like, you know, I don't see it commonly. Maybe there's a startup idea in there somewhere. But, um, I think in general, like you are the real point of leverage, right? They want you! If you've got an offer for a company, you have leverage, right?

And they want you because you are awesome. So I would, I would generally start there. I think, um, what I would go back to is like being default optimistic, right? These are about to be your employer, right? And you're about to make them hopefully really wealthy in the future and they're going to help you make, be really wealthy in the future, so I wouldn't necessarily start in like an antagonistic step.

We're all trying to like get to the end result at the end of the day. I think, um, obviously I'm biased, I'm a founder, and Max is on the team, so I'm not ready for any unions, uh, to form quite yet. But, uh, I would say that, um, in general, if you ask them very candidly, I'd love to understand your compensation philosophy, right?

And you really ask them to share, like figure out like are they doing a good job of that? Like do they care about the weight of the fork in this regard? They may say, "No, no, we're prioritizing our sales and our customers, all the other things," but remember the founder has two jobs, right? Build a product but also build a company.

And if they don't think about the compensation philosophy of the company, sure they're not evil people and maybe that's the right kind of balance to make, but also it does say something about what they're prioritizing, and that can be for better or worse. And you could say, and we had someone do this to me early on, "Jordan, our competition philosophy is not good enough, but I'm a smart person; I'm trying my hardest. I'm going to solve it for you, right?"

So you can actually be the champion of these things at your company, and then you can say, "Hey, Jordan, come give a talk at my company. You know, we're gonna, we're gonna go increase all of our odds of success." So that's another path you could take.

If we have a break in the questions, uh, I just want to quickly ask, first of all, thank you everyone for coming. Thank you especially to the Compound team for being here. Jordan and Max, we would like to ask that if you like the event, please share this link with your friends so that they know about other events that are happening, and there's also a link to Compound's manual on the event page.

So that that's a great resource! Even if your friends can attend this event, they'll be able to learn from that guide. Remember, you will make all of your friends really rich! Like it's the best deal ever, right? It's like free to make other people, you know, money and less stress, so it's pretty awesome. We want to build like Y Combinator for people, right? Great. And head over to withcompound.com. We will help you, I promise. Um, and yeah, lots to go.