Last year was a painful one for startups and their employees. Venture capitalists tightened their investments, thousands of people lost their jobs and company valuations stalled or fell amid a protracted bear market.
An estimated 24% of startups on the Secfi platform reduced their fair market valuations in 2022, according to an internal analysis. For people working at those startups, that means some (in some cases, all) of their employee stock options spent 2022 underwater.
Separately, a Secfi analysis of 1,502 funding rounds at late-stage startups since March 2021 finds that startups are raising more flat rounds and down rounds than before.
A number of startups that raised money in 2022 did not disclose their post-money valuations, suggesting that the true number of startups that lowered their valuations in the past 12 months could be even higher than publicly reported.
Employee stock options are a meaningful factor in startup compensation, and underwater stock options have the potential to negatively impact hiring and retention across the startup ecosystem.
Looking ahead, the data suggests that 2023 will continue to be challenging for late-stage startups.
Underwater stock options
An analysis of more than 4,300 stock option grants uploaded to the Secfi platform in 2022 shows that nearly one of every four startups reduced their fair market valuations at some point during the year.
The highest-profile example of this phenomenon was Klarna, which raised venture capital in mid-2021 at a $45.6 billion valuation but was forced to raise a new round of funding in mid-2022 at a $6.7 billion valuation — an 85% decline. Other large companies that cut their valuations (without raising funding) include Instacart and Checkout.com.
Stock options are a high-risk, high-reward form of compensation and remain one of the most compelling drivers of startup employment and retention.
An analysis by Carta of employment data from 2018 suggested that the average startup employee works for just two years at a company before jumping to their next opportunity. Underwater stock options are a problem for people who joined a startup in 2020 or 2021, as they’re now finding that their shares are worth less than when they were hired.
The average startup employee in Silicon Valley received 12% to 14% of the value of their salary in the form of stock options, per Carta. In other words, a startup worker who earns a $150,000 annual salary could expect to earn an average of $21,000 worth of stock options as part of their total compensation package.
When a startup is successful, stock options rise in value — in some cases, by many multiples. Stock options make up 86% of the total net worth of the average startup employee, according to financial data that employees voluntarily shared with Secfi.
Underwater stock options can impact employee retention, as employees instead look to other startups with a stronger valuation growth. As a result, startup leaders who want to retain their employees may need to consider cash and retention bonuses, higher salaries or a stock option repricing program.
The average cost to exercise stock options remains high
Despite economic headwinds, the cost to exercise stock options remains high.
In 2022, the average Secfi client required $846,000 to exercise their stock options and pay associated taxes. Like in previous years, taxes continue to make up the majority of the total cost to exercise.
Image Credits: Secfi
High costs remain a major reason why startup employees fail to exercise their stock options.
Inside Secfi’s 2022 state of stock options equity report by Ram Iyer originally published on TechCrunch
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