I’m sure the majority of us would like to win the lottery someday. Whenever the Mega Millions or Power Ball lotteries reach several hundred million, there is usually a corresponding rush of “what would you do if you won” news pieces. Most people give a normal “Pay off my mortgage, buy that sweet car I’ve always wanted….and quit my job.” (And then there is THIS GUY).
The odds are more in favor of you getting hit by space junk than winning the lottery.
There are much easier and more reliable ways to get early-retirement-level money. (DISCLAIMER: I am not a professional financial adviser – do not take this as financial advice.)
For some people in the workforce, part of their compensation package includes some form of equity, or an ownership stake in the company. There are several methods of obtaining equity in your company. We’ll break them down for you.
Companies that have “gone public” are ones that are traded on a stock market. Companies issue shares of ownership in a company that are then bought and sold by investors. Employees at publicly traded companies have several pathways to getting shares in their company:
Stock grants are shares that are given to an employee that vest over a specific time frame. Vesting means gaining the ability to sell the shares. For example, if you are given 100 shares of stock that vest over a four-year period, you can sell 25 shares after the first year, 25 more after the second year, 25 after the third year, and 25 after the fourth year. Usually if you leave a company, you leave behind any shares that are no longer vested. There can be different vesting schedules, such as 50% after the first year, or 100% after four. Some companies have much longer vesting schedules, like eight to ten years. You do not have to sell your vested shares, but if you did, it will usually do at the price of a company share on the stock market that day. Companies do this to incentivize employees, especially executives, into doing a good job and staying with the company.
Stock options are shares of stock that employees are given the option to buy at a set price. If the stock price increases before this can be a big windfall for the employee, and if the price falls below the option price, they can be worthless. Companies often give the employee (usually through a third party, like a brokerage firm) to pocket the difference in the option price and sell price without having to come up with the money to buy the shares. The third party will assess a fee to do this. We’ll talk more about stock options later in this post.
Employee Stock Purchase Plans:
An Employee Stock Purchase Plan (ESPP) is a way for employees to shares in their company, usually at a discount to the market price. Employees usually take a payroll deduction for a set time limit (ex: six months) and at the end of the time period the company purchases shares for the employee with the accumulated money. The discounts in price can be 10-15%. The ESPP might be in addition to other retirement plans like a pension or 401k.
401K Matching & Bonuses:
Sometimes companies will contribute matching 401K contributions or performance bonuses in company stock into the employees’ retirement funds. These contributions are treated differently than regular options by the IRS. There may or may not be restrictions on converting the stock into other retirement vehicles like mutual funds.
Restricted stock usually has restrictions on when an employee can sell them. It could be after a set time, if the company is sold, or some other event in the future. These are also common in the next category of company.
Non-Public Company, Part I: The Pre-IPO:
I’m not sure how to accurately define this type of company, but for the sake of argument these would be investor-backed companies that intend to go public in the future. They could be a spin-off or divestiture from a bigger corporation, or a start-up.
These types of companies can issue both stock options and restricted stock. Restrictions could be that employees are not allowed to sell stock until six months after an IPO, or they will immediately vest if the company is acquired. Often employees are given stock in lieu of cash compensation, especially in the early days of a start-up when cash is limited.
The risk-reward ratio for a Pre-IPO company can be substantial. The opportunity to become immensely wealthy in a short amount of time is a big lure for talent. But it is a lot like the gold rush. A handful of people strike it rich, and many end up empty-handed. Start-ups can be risky ventures and many fail. You might be working for below-market salary for years, hoping that the company goes public and your shares are now worth millions. There is a significant risk they can fold, and the shares are worthless.
In start-up hubs like Silicon Valley, Pre-IPO companies can have a recruiting advantage vs. Post-IPO companies, as employees will gravitate to a company where they still have a chance to strike it rich.
Non-Public Companies Part II: Privately Held
The other type of non-public company is privately held and with no immediate plans to go public. These could be owned by an individual, a family, a group of investors, a private equity, or the employees themselves.
There are several thousand employee-owned companies in the United States, including Publix and New Belgium Brewing. They are organized around an Employee Stock Ownership Plan (ESOP). An ESOP is a way for a company founder to sell the company to the employees, over time or all at once. In most ESOP plans, the employees receive shares from the company over time. They are usually treated like a retirement account or pension and can be rolled over into an IRA when the employee leaves or retires.
Sweat equity is a blanket term that means the employee(s) work to grow the value of a company, in lieu of a direct financial investment. The Pre-IPO employees working for stock options is an example. Or employees buying the company from the founder over time. We are also starting to see more creative sweat equity arrangements, where an executive comes onboard a privately held company as President or CEO and ownership is transferred to that individual over time. It can be a vehicle for an owner to exit a business over time or step back into a silent partner role.
Any of the equity vehicles we have discussed can be a way for an individual to increase their personal wealth and are very attractive for many professionals. If they are going to give their best to build and grow a company, knowing they have a direct stake in the success of the company.
As a professional, equity should be part of the consideration in your compensation package. If it is part of your compensation, pay attention to the fine print. We often work with executives that have a vague understanding on the equity part of their compensation. This can result in them leaving substantial cash on the table if they resign, are let go, or the company gets acquired.
Also, we encourage you to get professional financial guidance (or do your own research) into the risks of having a significant portion of your compensation and investment portfolio (retirement or otherwise) in your company stock. As ENRON employees found out back in the day, or WeWork employees are finding out now, it is not without risk.
If you are being recruited to specifically to help the company grow in value, equity should be a consideration. Getting an equity share - even in a privately held company - as part of (or sometimes in lieu of) direct compensation can offer huge upsides. It can be a way of putting money where your mouth is. Likewise, if your current company is struggling, offering to take a cut in salary in exchange for equity can pay dividends if they can turn things around.
We appreciate you reading. Helping professionals guide their career success part of what we do every day.
The Rivet Group is an executive search and consulting company working with companies and professionals across the US. If you are ready for a new job, looking to hire for your team, or need help in our other expertise areas, we'd like to hear from you. We can be contacted at www.rivetgroupllc.com.