The Question: For pre-IPO companies who've migrated from options to RSU's, what was the key tipping point for making that decision and what was the most surprising thing to you along that journey?
Key Tips from Guild Members
Member 1: Biggest reason that tipped it to going to RSUs was high percentage of recruiting targets who required significant conversations about strike price/409a vs what reasonable exit expectation might be. Buttressed by a quick survey of high value employees who basically all indicated they preferred to receive X RSUs over 1.5X stock options. Black scholes/Volatility and 409a are two concepts most employees don’t appreciate the subtleties of. Biggest consideration we found is that providing liquidity to employees pre-IPO with RSUs gets complicated/impossible, whereas option holders are simple to provide liquidity to.
Member 2: Usually, the tipping point is closeness to IPO, when your 409A strike price gets very close to the cost of preferred, which makes it a less attractive recruiting tool. (Put differently, when the discount factor used as the final steps win 409A gets too low.) A normal conversion between RSUs and ISOs tend to land up in 2-3x territory (2-3 options per RSU) after you do the analysis using Black-Scholes. 1.5x sounds low to me, even though it’s probably easier to sell that level of conversion when going to RSUs. Good thought experiment is going the opposite way: How many more options would you have to give before the recipients thinks it equals the value of 1 RSU. (I assure you, the number is higher than 1.5x.) A typical workaround for the tax challenge inherent in granting RSUs in a pre-IPO environment, is to make their vesting subject to liquidity event (typically an IPO).
Member 3: I agree with #1. Especially if there is a big disconnect between where your 409a is and where you'd price a preferred round, explaining that delta to candidates is confusing and may lead to candidates valuing you at a discounted 409a (and thus you having to dole out more equity). The other nice thing about RSUs (if structured this way) is less pressure on employees who leave to pony up cash to cover strike + taxes (usually having to do so within 90 days of leaving -- certainly having to do so if ISOs). We made the switch a couple years ago and employees have generally preferred it. Assuming you're putting a Qualified Liquidity Event trigger on vesting (so that employees don't have tax bills as they hit the time based vesting milestones, pre liquidity), a key decision you'll have to make is what happens if an employee leaves. Do you allow them to still benefit from the RSUs if they're no longer at the company at the time of the QLE? We felt it was onerous on employees if you essentially make them forfeit the stock if the QLE hasn't occurred at the time of their departure, but some companies do it this way (i.e. you have to be at the company at the time of the liquidity event).
