A "reasonable person", or a more commonly used "rational agent", is an idealized notion that doesn't actually exist in a real world. Actual humans are not expected-utility-maximizers. See e.g.[1].

Also importantly, the scenario (evaluating the value of option-based compensation) is not like "guaranteed $1000 or a 10% chance of a $1 million" scenario you're describing. Rather, it's like "pay $50-100k/year in opportunity cost for entry to the lottery in which you can win some unknown prize that's almost surely below $5M, at even more unknown probability". Even an expected-utility-maximizer, a "reasonable person", cannot really make a reasonable calculation of the expected utility.

[1] - https://sci-hub.tw/https://www.sciencedirect.com/science/art...

In fact, that's exactly what it is, whenever you're taking stock options into account for compensation be sure to consider how big of an investment (in loss of salary) it is and whether the potential payout and the risk seem logical. If you think that making that big of an investment is too risky for your well being (even if, in the average, it'd pay out better over a lot of plays) then don't take it.

We exist for a limited amount of time and large games of chance like this (even if they have an expected return) are not irrational to decline.

Turning down an offer can be perfectly rational. I do not know why I am being accused of advocating for always taking options. All I'm claiming is that they aren't always worth zero, and assuming such is an irrational decision. And it's an entirely avoidable irrational decision that can be addressed by considering your own risk preferences, foregone salary, tax consequences, expected company outcomes, professional development, &c.

It's a nice bonus that _might_ pay something out. It's not a replacement for a proper salary.

That said, I can appreciate the desire to get skin in the game. Would love to see research on how necessary that is, though.

Actually, even then, i'd just take the cash comp instead and invest it into FAANG options. You can do that on almost any brokerage.

That's a strange assumption to make. If anything, I'd argue that people who think they are somehow smarter than others because they're an engineer/programmer/whatever are more likely to put too much faith in their intelligence and make financial mistakes.

> His advise is the rational approach

Being smart is orthogonal to being rational.

Only if you know 1. The Cap Table 2. Your founders' and boards' predilections for exits 3. Potential future rounds 4. Where the market will go

When you don't know these, you can still create a probability distribution, but price will likely be zero because the inputs have to have massive brackets for potential values.

>"Only if you know 1 The Cap Table

Are candidates or regular employees ever privy to the cap table? I have asked about it many times when a recruiter has tried to sell me on the joys of options in lieu of pay. Even after accepting a job I have routinely been rebuffed on getting a response to inquiries about the cap table.

Let's change it to make it slightly more realistic - on offer are options which have a 1% (at best) chance of being worth 1 million in 10 years or a guaranteed higher salary over 10 years worth 300k more. It's not quite so clear cut in that case, and depends greatly on the circumstances and judgement of the person making that call with very limited information.

I think it's more reasonable to assume they are worth 0, as the majority of options end up at 0, and the probability of making more through options than salary is nowhere near that in your example.

I also don’t think it’s really comparable to the lottery. It’s like playing the lottery if you could easily afford to have a 1-5% chance of winning... in which case it wouldn’t be such a bad idea to play for many people.

Different strokes for different folks and all that, but I do think it’s wrong to imply that it’s always wrong to take a calculated risk like this when given the opportunity.

Really? Roulette has odds of 37:1 for a single number which is about a 2.7% chance. Would you take $300k that you could otherwise earn in salary and place it all on a single number? The payout would be 10.5 million which far more than anyone I know expects to get from their stock options even with a pretty good outcome. You'd still be insane to walk into a casino in Vegas and make that bet.

- I could pay off the 300k over the next 8 years.

- The loss would be tax-deductible.

- I could somehow know for sure I'd have a job where I'd still net at least 120k per year during that period (after the loss).

- It would somehow grant me multiple years-worth of extremely valuable skills and experience, new friends and connections, and the chance to be intellectually challenged and satisfied.

I think that would definitely be the most popular roulette wheel in Vegas!

For a lot of good software engineers, it's more like:

Option A: $1.5mm (5 years total comp at FANG)

Option B: $0.5mm (5 years startup salary) + 0-10% chance of $0-20mm.

Given all the unknowns in B, I'd definitely take A.

I can't speak for Facebook, Google, but I did work at Amazon for about 5 years (and take this with a grain of salt because this was 2003 through 2008 on the ops side (supply chain specifically)). And you learn the Amazon way of building software. You use Amazon tools, frameworks, and style. And while some of that knowledge is definitely applicable to other jobs I've held, most of it is not. It is a little bit more now because of AWS (similarity between internal tools and AWS offerings).

So yeah...with Option B you might not hit the lottery. But the skills I learned from multiple attempts at Option B are more applicable in my opinion. And that's worth something.

Obviously speaking from my own experience, but this hits the nail on the head. The things I learned at startups were parlayed into jobs at the bigger companies later in life.

Also, on the original topic. I've been a part of three startups. One with trivial equity, one with options worth about 0.1% of the company, and finally one with options worth 1% of the company.

The second company is still going and is a lifestyle business, so those options were basically worthless since the owner may not sell for many, many years. The first and third companies were acquired, but at values that made the options worthless, so I got a long term capital loss for the first company and nothing for the third.

For the third, I was an executive, so I got a stock/cash package from the acquiring company for (very) low seven figures, but the stock itself was worth nothing.

So, I'm 3 for 3 on "successful" startups, but 0 for 3 on actually cashing in on any equity.

- Was it basically an acqui-hire?

- How much was it sold for?

- How much was raised totally?

- How much was the cumulative compensation package above the stock price given to key employees such as yourself?

Thanks

"I took the one [road] less travelled by, and that has made all the difference" ;-) It doesn't matter which way you go, years from now you'll end up thinking the decision was an important one.

When they have monthly expenses, or understand the power of compounding interest? A reasonable person would take the guaranteed.

----

Even if you make your example less hyperbolic (for an employee):

$100k vs $90k + a 5% chance of making $50k in 5 years.

Where, the higher and guaranteed salary also has 3% annual COLA (or further freedom to job switch) raises, has a 4% 401k match; The wise person would take the guaranteed income.

The reality is that in business as an employee you’re ability to project the odds is limited at best. You simply don’t have the information to make that calculation.

Obviously there’s a spectrum of risk, which is why most people don’t work for minimum wage plus options. But it’s pretty clear that in a world that hasn’t seen a tech recession in a long time, employees without the perspective of living through 2000 may not appreciate what can happen, and will happen again.

Money has diminishing returns and when you're potentially going to be below water when it comes to mortgage, food, utility, even the occasional vacation for sanity - then a smaller guaranteed sum can be more valuable than a larger expected sum.

However, some options grants are not transferable in that fashion.

The reasonable person can then calculate the range of payouts for each option as [$1k..$1k], ev $1k, for the cash option, and [$0..$1M], ev $100k, for the gambling option. Not all gamblers only use expected value as their only metric. Some people also use the minimum return. Those people would take the guaranteed $1k, in cash, and walk.

Even if the gambling option had a minimum payout of $1000, thus making it the strictly superior option on paper, just by those metrics, it might also only pay off 3 days from now, when the $1000 on the spot, could be used right now, possibly in some other psychologist's thought experiment on gambling behaviors.

If you look at early stage startups, I think it's pretty clear that the EV[startup options] < EV[invested market value salary delta]. This holds true over nearly all startups, and nearly all people who have the option of early stage options. There are outliers, sure - but to a 1st approximation you aren't in them.

So you have to fall back on "how much more fun/cool is this startup job than other things I can do". And realistically, getting rich off a startup isn't a rational plan for nearly all people. Asking yourself, "what are the odds I recoup most of the lost salary?" is a more like it. And for typical seed round start up, that break even is going to be a few percent, dilute as needed to look at different rounds.

Of course this doesn't help you choose between two different under market salaries with options, either...

So assuming the options are worthless is not all that unreasonable. Options are bonus, not part of the real compensation. Unless the company is already successful or your share in the company is large enough that it really is worth the risk.

But if in the most optimistic scenario your options end up being worth $1 million, but it's going to be years before they're worth that much, the chance they're going to end up worth that much is small, and in the mean time you're severely underpaid, then it's probably not such a good idea.

Can this reasonable person afford to pay this month's bills?

Many young startup employees I talk to are under the impression that they own .x% of the company because their options have vested. That is not true.

After exercising your options the company could shut down or it can be acquired with a valuation less than what your options and strike price were based on. In both of these cases you would be losing money.

From looking at tldroptions.io, it's just taking an empirical approach to guess the P(X) value.

But that easy thing leads to:

a. Having no basis to negotiate your options. (X% of $0 is always $0 regardless of X)

b. Your comp will always look like crap compared to a publicly traded company.

FAANG companies aren't paying that much because they get so much more value out of employees: they are paying that much more because that's how much extra they have to pay to convince people to take the jobs they are offering.

*I'm putting FANG into T1, the next tier down of liquid companies into T2, large pre-IPO companies into T3, and everyone else into T4 -- the interesting part obviously is that company salary tiers can and do obviously change if/as companies grow successfully.

I’m not against options, but if what you will make over the next X years based on liquid comp is not something you are totally OK walking away with as your total comp over that period then one is probably making a bad choice.

b) If you're at a pre-ipo company with options, your comp is crap compared to a publicly traded company. If you're counting your lottery tickets as real money, you're a fool. You can't even sell them on Sharespost for the valuation the company tells you.

It’s like saying lottery tickets are a bad investment idea. It’s true for far more people than it isn’t.

I'd bet if you picked a promising company (say Series B+ on the breakout list) your likelihood of a positive outcomes is >=10%.

Not high, but very different than lottery tickets.

Regardless, at least a lottery's odds are fixed. For a startup not only do you have a direct impact on the outcome, but there's near-infinite number of internal and external factors that can make a company fail, or, very rarely, succeed.

I think that's one of the big selling points on options: It's a lottery ticket but you are directly capable of affecting your odds. Theoretically if a group of 100 people all feel that way, they should be able to do some amazing things!

Don't be Jack from Jack and the Beanstalk -- don't trade your cow for magic beans if you need to eat. Only make the trade if you won't be worse off if those beans don't turn out to be magic.