Here’s a must read for startup employees and employers alike: On Forbes.com, Personal Capital CEO Bill Harris explains the critical knowledge gap about stock options in Silicon Valley.
There’s a fissure that runs through Silicon Valley – and I don’t mean the San Andreas fault. The gap that I’m talking about is between tech companies and their employees. Tech companies bestow their most precious commodity – their stock – upon employees in the form of stock options. But most employees don’t fully appreciate these incentives, because they don’t know what they’re worth.
Forget complex valuation methods like Black-Scholes – most employees do not even “understand the basic economics of stock options,” say Stanford professor David Larcker and Wharton’s Richard Lambert in one study. In a different survey, employees with stock options reported that:
- 39% knew “little” or “nothing” about their options
- 52% knew “little” or “nothing” about the tax implications of exercising
The tax implications can be severe. In the 2000 tech bubble, many unfortunate tech workers exercised stock options on the way up, incurring a tax liability of, let’s say, 35% of the value of the options when exercised. But they didn’t sell. When the bubble burst, their shares were quickly worth less (or, in some cases worthless), but they still owed the tax on gains they never realized.
Some companies offer some stock option data for their employees online. Some employees build a spreadsheet to calculate the value of their options. But the majority of employees don’t do anything at all, and have nothing more that a vague notion of what their options are worth today, or could be worth in the future.
And stock options are once again playing a big role in compensation among tech firms. Venture financing is up – $28.4 billion poured into the Valley in 2011, almost twice the level of two years before. This funding went into 3,700 different companies, almost all of which were issuers of stock options.