Deal Terms
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Quick Answer
The right to purchase company shares at a fixed price (the strike price) granted to employees and service providers as part of equity compensation.
Stock options give employees the right to buy company shares at a fixed price — the strike or exercise price — typically set at the fair market value on the grant date (the 409A valuation for private companies). Options don't grant ownership immediately; they vest over time according to a vesting schedule, commonly four years with a one-year cliff.
There are two primary types: Incentive Stock Options (ISOs), which are only available to employees and have favorable tax treatment if held long enough, and Non-Qualified Stock Options (NSOs or NQSOs), which can be granted to anyone but are taxed as ordinary income upon exercise. Options must be exercised — meaning the employee pays the strike price — typically within 90 days of leaving the company, or they expire.
In Practice
An engineer joins a startup with a grant of 10,000 options at a $1 strike price. After four years of vesting, they exercise all options, paying $10,000. If the company later exits at $20/share, those shares are worth $200,000 — a $190,000 gain.
What good looks like
Why It Matters
Stock options are the primary way startups attract and retain talent without paying market salaries. Understanding vesting schedules, strike prices, and the 90-day exercise window is critical for employees evaluating startup offers. Many employees forfeit options by leaving before the cliff or failing to exercise within the window.
VC Beast Take
The option pool shuffle remains one of the most misunderstood aspects of startup financing. VCs effectively dilute founders by forcing option pool expansions pre-money, yet employees celebrate getting 'equity' without understanding their position in the cap table. The trend toward smaller option pools and more RSU grants at later-stage companies reflects the reality that options are often economic fiction.
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What happens to my equity if I leave my startup?
If you leave before fully vesting, you forfeit unvested shares. Vested shares are typically yours to keep, but you may have a limited window (90 days in most option agreements) to exercise them before they expire.
What is a 409A valuation?
A 409A valuation is an independent appraisal of a startup's fair market value for common stock, required by the IRS to set legal strike prices for employee stock options.
What is a 409A valuation?
A 409A is an independent appraisal of a private company's fair market value (FMV). It's required by the IRS to set the exercise price of employee stock options — options must be priced at or above FMV to avoid tax penalties.
What is a cap table and why does it matter?
A cap table (capitalization table) is a spreadsheet showing who owns what percentage of a company, including all shareholders, option holders, and warrant holders.
Stock options give employees the right to buy company shares at a fixed price — the strike or exercise price — typically set at the fair market value on the grant date (the 409A valuation for private companies).
Understanding Stock Options is critical for founders navigating the fundraising process. It directly impacts deal terms, valuation, and the relationship between founders and investors.
Stock Options falls under the deal-terms category in venture capital. This area covers concepts related to the financial and legal terms that define investment agreements.
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