A scrappy startup with a tiny budget and eagled-eyed investors can’t usually offer its early employees a salary to match bigger and more established businesses, nor the same stability and security. But without the right talent in place, that scrappy startup isn’t going anywhere.
So instead, startups incentivise their early employees with equity — a small percentage stake in the company. In an ideal world, the startup grows, the value of that stake increases and eventually, you — the early employee — reap the rewards of your efforts.
Liquifying shares can be very lucrative for early employees. Triin Hertmann was one of the first employees at fintech firm Wise (formerly TransferWise) — at its peak, the company was worth over $7bn. Hertmann was able to sell some of her shares six years ago, giving her "financial freedom for life“ and allowing her to bootstrap her own startup, Grünfin, a sustainable investment platform focused on impact portfolios.
However, options for cashing out are extremely limited and, for the most part, entirely out of your control.
There are two main avenues: an exit event (such as a public listing or acquisition) or the secondaries market. Here, we’ll explore both possibilities and explain how early employees can get their money out.
Acquiring your shares
When they join a startup, employees are most commonly awarded stock options, which give them the right to buy or sell shares in the company after a certain time period, at a fixed price set when the options were granted (a ’strike price’). If the valuation of the company has shot up, the strike price will be considerably lower than the amount the shares are worth at the time of a liquidity event.
Activating your right to turn stock options into shares is known as exercising your options. But before stock options can be exercised, they typically need to vest. This means employees are awarded the options gradually over an agreed period of employment. For example, if 25% of your stock options vest every year, you’ll need to stay at a company for four years to get your full allowance.
The most common alternative to stock options in Europe is restricted stock units (RSU). RSUs are a promise from your employer to award you shares at a future date once agreed vesting conditions are met. In Germany, employees are typically offered virtual stock options because of burdensome tax rules around traditional options. Though a law easing that burden was recently passed.
Unvested shares are essentially worthless. That said, some early employees can negotiate an accelerated vesting clause in their contracts, which means their options or shares automatically vest if the company reaches an exit event.
Mergers and acquisitions
Currently, mergers and acquisitions (M&A) are the most common exit events for most startups. Startup ownership platform Carta reports that over 10 times more companies exited through M&A than an initial public offering (IPO) between 2019 and 2023, according to its own data. And although 2022 saw a 64% drop in VC-backed startup exits via M&A, 50% of VCs think it is once again on the up.
M&A can occur as a cash deal, a share deal or a mix of the two. In a full cash deal, any employee with existing shares will be bought out and paid their value, as determined by the acquisition price. In an entirely share-based deal, employees don’t receive any cash but instead receive shares in the acquiring company. “In tech, most of the time it’s a mix of both,“ says Naël El Berkani, cofounder of equity management startup Easop.
Before joining Wise, Hertmann was an employee and stock option holder at Skype — which was acquired by eBay in 2005 for $2.6bn in cash and stock. Hertmann says when that happened, 100% of Skype’s shares were acquired, and employees who had exercised stock options had two choices: to receive proportionally more eBay shares plus some cash, or proportionally more cash plus some shares.
The step-by-step process for employees in an M&A scenario will differ from company to company, but by and large, the process will be handled for you, El Berkani says. There is no option for individual employees to negotiate the price of their shares; the board and the acquiring firm set all terms.
There may be other conditions which you need to meet before you're able to get all of the cash you're owed, such as staying with the company for an additional number of years.
It’s also important to know that in M&A situations, vesting acceleration clauses won’t always apply. Instead, your vesting schedule may transfer to the acquiring company, says Yoko Spirig, cofounder of equity management platform Ledgy. “Often, an acquirer will want to acquire the talent as well,“ she says — this can act as an incentive.
To access their money post-acquisition, employees may need to wait for another liquidity event — either an IPO or another acquisition. “It’s the same process with a bigger fish,“ says El Berkani.
IPOs in Europe are becoming few and far between. IPO activity across the continent is at its lowest level since 2009, according to the Association for Financial Markets in Europe, with many startups delaying their plans due to the current macroeconomic situation.
However, if a startup does have a public listing, employees will be able to buy and sell shares on the public stock market like any other shareholder or investor.
There’s no set way to sell shares. Most people do so via a brokerage — an intermediary between buyers and sellers of stock — with many offering selling options online or over the phone. Some will charge a commission; some are free — so it’s essential to do your homework first.
Often, the process will be organised by the company itself, Spirig says. "The company typically works with an investment bank to go through the IPO process, and you as an employee would usually be walked through how to exercise your stock options and transfer them into brokerage accounts via equity software,“ she explains. “Then you can simply start trading if you want.“
However, most employees will be subject to a lock-up period of 90-180 days before they can sell their shares.
Waiting for an IPO or M&A as an early employee can mean waiting a long time. But there is a third option.
The secondaries market allows shareholders to sell their private company stocks to other investors, and platforms such as Seedrs are becoming popular vehicles for these transactions. It’s even possible to sell unexercised stock options in this way, though this will depend on a startup’s share transfer policies.
Startups are increasingly looking towards the secondaries market to offer liquidity to early employees in lieu of M&A or an IPO. Two years ago, analysts and investors expected the European secondaries market to take off, as it’s already a trend in the US. But according to Easop’s El Berkani, it’s still far from common to see shares bought and sold this way.
“Yes it’s increasing, but due to the current market situation, it’s not as booming as we expected,“ he says.
Agreeing, Spirig adds: “To my knowledge, there are not a lot of services yet where employees can sell their shares independently of the company. That’s much bigger in the US.“
Employees who want to try and sell shares in this way will need to find a buyer who has the funds, can move quickly and is likely to be approved by the company. It’s this third step which is the most significant barrier to sales through secondaries markets, and it is an absolute legal necessity.
“Companies don’t want to see random shareholders coming to their cap table, so they might be reluctant to allow those sales,“ says Easop’s senior tax and legal counsel, Cyrille De Baerdemaeker.
More recently in Europe, however, there has been a move towards the market for venture secondaries — sales of stakes in VC funds have picked up this year in Europe.
The more likely scenario for employees is where a startup itself runs a secondaries sale, allowing employees to sell their shares back to the company or to new investors as part of a funding round. Spirig claims to have seen this growing in popularity among Ledgy’s customer base, especially among later-stage companies — and indeed, it’s something Ledgy itself offers its employees.
Outside of funding rounds, some startups may run a buyback programme yearly or on an ad hoc basis when they have the liquidity available and want to financially reward or assist employees. However, it will entirely depend on the financial security of the business and whether it has the cash to do so.
According to Spirig, employees will be notified by their company that they can sell their shares at a specified price and offered the opportunity to put themselves forward. Generally, you would only be able to sell some of your shares, as companies want to maintain the incentive for employees to stay.
Hertmann was able to sell some of her shares in Wise through a company buyback scheme, which took place as part of a new investment round.
“The company announced it was going to have a new funding round, with the possibility for option owners to join in and cash out some of their shares. The price was the same as for new investors,“ she says, adding that, as one of Wise’s first employees, she received a very healthy profit margin when she sold.
Suppose an IPO or acquisition still looks far off, and no secondaries scheme has been offered. In that case, De Baerdemaeker says there is no harm in asking the company directly if they would be willing to repurchase your shares — assuming you’ve been employed there for a few years.
However, if the company doesn’t have the cash available, there’s little they can do.
The final step
However you sell your shares, the last step is to pay the correct tax. Taxes are different in every country, and because of that, it’s not something your company will typically sort for you. You may therefore need to seek expert advice from an accountant.
“It’s really complicated. The company can give you some guidelines or suggest some consultants, but it’s really up to the employee,“ says Hertmann.
In a final word of advice, Ledgy’s Spirig reiterates that, for the most part, you are entirely dependent on your company if you want to get cash out of your equity.
“So it’s super important that before you sign up and receive your shares, you inform yourself as an employee and ask about that exit plan.“