Value of ESOPs in early stage startups?
Hello guys, I would want to know what is the benefit of getting ESOPs in an early stage startup? The startup has a great team and working on a promising product. I have been offered a package with somewhat lower fixed component and somewhat higher ESOPs. Need insightful pointers here. TIA :)
The ESOP is a bit of a blind bet.
It's paper money that can get you a windfall if all goes to plan and execution, solution, pricing, market readiness amongst other things, all line up over the next few years.
I wouldn't take a pay cut in lieu of ESOPs. Keep the real money real and the paper money as an outside bet.
FlimsyTap88
Stealth
a year ago
You need to put real money to have skin in the game. I wouldn’t hire anyone who isn’t willing to stake his own money (inform of paycut) at my startup in exchange of equity. It’s a filter for hiring motivated talent.
Thats like asking a girl to give up on her friends if she wants to be with you.
Think about it.
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After reading numerous threads on ESOPs on Grapevine - I am convinced that most of the commenters don’t understand the use case of ESOPs at an early stage startup.
Employees are offered stock-based component because the startup can’t afford to offer competitive market salaries.
It’s an early stage bet - you’re taking the risk because you (most likely) like what the company is building + you’re hopefully getting a role that allows you to battle test and accelerate your skillsets.
If I were you, I’d ask what does the appraisal policy look like? How do they feel about appraisals in general considering you’re willing to take lower cash comp in the beginning but at some point you’ll need to prioritise cash.
Inquire about their ESOP policy to understand how thoroughly have they thought about it? What’s the exercise price? What’s the exercise period? (esp how lenient and employee friendly is it?). What does the vesting schedule look like?
There is a possibility, although small, that esops can lead to outsized returns (million dollar outcome). Try to understand the kind of investors that have already backed the company - usually you can tell a lot about the company’s overall pedigree from how they construct their cap table (the kind of investors they partner with).
NeatFrame72
Stealth
a year ago
Accel is one of the early investors
Well that’s a plus. There’s a tier-1 investor and while that doesn’t guarantee success, at least it’s a positive indicator of the founders’ capability of raising capital from credible investors.
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Brutallyhonest
Stealth
a year ago
If company has potential to get acquisition or buy back it’s a gold rush
NeatFrame72
Stealth
a year ago
Makes sense. It's a good company with great team and good product with traction
Brutallyhonest
Stealth
a year ago
Wait for it! The idea to join start up is wealth creation. Only long term thinkers will earn the fruits of it.
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You should treat those ESOPs as a lottery and consider them to be worth 0 for all practical purposes. You need to figure out for yourself if you are comfortable with that.
Zomato started in 2008. It was only in 2021 when the first liquidity event happened. Cred started recently, they have been having liquidity events almost every year. You cannot know in advance unless you're really close to the founders and know what their plan is.
FindingHorses
Stealth
a year ago
Frankly it's a blind bet. I personally would not get my salary decreased for esops at a early stage company specially
If u plan to stay long term then go ahead. Otherwise I would capitalize on fixed.
Demon
Stealth
a year ago
The probability of a startup doing well so that esops mean anything at the stage you are talking of is less than 1/1000.
So think of possible maximum valuation of startup × your current equity percent diluted to about 1/4 of what it actually is × 1/1000 and see if that number is good. If this number is much higher than your opportunity cost (salary difference in the 5 years the equity vests), it would be a good deal. Has 2 assumptions, that startup doesn't go into profitability and gives you good salary and the current salary they are offering you is good enough to survive.
Idontknowwhattodo
Stealth
a year ago
What's your YOE and background? And what is the ESOP value vs Paycut you are taking?
Here's an approach to valuing the start-ups.
Imagine the company you're planning to join is worth $30M (240 CR.) post-money. They've raised VC funding at seed or Series A, so the investors own 20% and the founders + ESOP pool is 80%.
Take an exit event scenario in 3-5 years. The company could be worth $150M (5x) or $300M (10x). This would typically need at least one more round of funding, possibly two. So, the company again gives up 20-30% of the company. So, the founders + ESOP pool is 60% and the investors are 40%.
If you got 50L as your ESOPs while joining,
-- They're worth 50L x 5 minus dilution of 20-30%. So, 1.75 - 2 CR. That's a 4x return in 3-5 years, which is difficult to replicate in any public market instrument.
The value only goes up if the valuation goes up.
If this is life changing money for you, it makes a lot of sense to go for ESOPs.
However, it comes with heavy risk. ~80% of VC investments don't return their capital to investors and these investments are picked from 100s of company pitches.
That's the trade-off. Do you believe this company will be in the 20% that return their capital and ideally the 5% that multiply wealth?
@NeatFrame72 few things to remember about esops, before even considering them.
1. What is the current price of share and what is the strike price at which they are offered. Because differential of both is what you are getting and not the actual ESOP amount.
2. What is the expiry date of exercise for vested ESOP in following cases. i. When you are with the company. ii. Once you leave the company.
Only once you have clarity on these 2 points it is worth evaluating how good the idea or team is and future potential of startup.
ESOPs are useful only if you are thinking of staying long term, like many years
Also, it involves your sentiment to be positive about the company, means you are thinking that company will do good business and will grow
Depends on the startup.
Ask them what's the exit strategy and tentative timelines, How many raising rounds have happened till now and how many times the company has bought back the ESOPs and lot size.
To be honest , the way founders or hiring team glorify esops , those are not that worth because the probabikity of success is very very low.
So be wise while making a decision. If you believe in the idea and feel that you can take higher risk with that amount , go for it but if you are expecting them to be flourished in next 3-5 years the chances are very low. So decide wisely
Consider only real money. Esops are not worth it - just look at number of startups and how many buybacks ever happened. Avg employee lifetime is 2-3 yrs. Thus, ypu would hardly materialise anything and won't be eligible for buybacks and very likely that company would never go ipo. So, you get nothing out of it
Depends on your priorities. Do you need real, hard cash in hand now or potential wealth creation opportunities 5-10 years later? Maybe little bit of both? Negotiate accordingly. There's nothing wrong in asking for 100% of your comp in cash.
Flysky
Stealth
a year ago
In simple terms 90% of the times ESOPs are useless. The remaining 10% they could be a way to make 100x on your small investment.
Of course there are risks.
ThoseFarrow
Stealth
a year ago
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