Think about Equity

When I was younger I thought the way to get money was by working for a salary. If you wanted to get a lot of money, you did it by getting a high salary.

That’s still the way most people make money, and probably even the way most people make a lot of money.

But there’s another way to make money that I didn't know about when I was young, and that's becoming increasingly common. It's called equity. Equity is especially common as a way to make large amounts of money. A lot of people who get rich these days do it via equity, not salary.

I usually write for an audience of potential or actual startup founders. They understand what equity is, at least compared to the general public. But this post is not for startup founders. Here, I want to introduce the idea of equity to people like I was in my 20s—to the people who don't consciously realize there’s another way to make money besides salary.

Equity means stock. In addition to salary, some jobs also give you a slice of the company you work for.

If someone had told 25-year-old me about that, my reaction would have been, "Can you do that?" And the answer is, usually not. If you go to work for a big established company, they won't give you part of it. And if you go to work for Joe's Diner, Joe won't either.

On the other hand, if you start your own company, you can obviously have part of it. This is how the very richest people—the Zuckerbergs and the Bezoses—make money from equity. They own part of the company they started, and as the company grows in value, their fortune does too.

It used to be extremely rare for people to start companies that grew big. It has always been common for people to start companies that start small and stay small—hair salons, cafes, and so on. What’s changed in the last few decades is that it's increasingly possible for individuals to start companies that start small and grow big. And I don't mean just Facebooks and Amazons. There are thousands of companies smaller than Facebook and Amazon that have made their founders rich.

Starting a startup has gone from extremely rare to just rare. It will probably never be more than that. Starting a startup is very hard. It’s definitely not for everyone.

But you don't have to start a startup to get equity in it. Startups give their employees equity, too. How much equity you get in a company depends on how early you join it. The fifth employee will get much more than the hundredth.

On the other hand, the hundredth employee is taking less risk than the fifth. By the time a startup has a hundred employees, you have a better idea of its chances for success than when it has just five.

So making money from startup equity is not an all or nothing thing. You can go for a large amount of very risky stock (and a large amount of work) by starting the company, or a smaller amount of less risky stock by joining it later.

And now we're in territory that matters to a lot of people. Founding a startup is not for everyone, but anyone who’s reasonably smart and willing to work sufficiently hard can be an early employee of one.

I was one of those people. When I was 25, I worked as hard as people work at startups, and all I got for it was salary and a small bonus. If I'd known about equity, I would have seriously considered trying to work for a company where I'd get some.

Once you start looking at the world from the point of view of equity rather than just salary, everything changes. Deciding where to work becomes a lot harder. If you're only working for salary, you know exactly how much you'll be making. But startup equity is only valuable if the company succeeds. How can you tell if a startup is going to succeed? The truth is, it's not easy.  It's investors' full time job to try to predict that, and even they have a hard time doing it well.

But it's not impossible for potential employees to predict how well a startup will do. People in Silicon Valley, where startups are common, have several tricks for doing it. In some ways they have an advantage over investors. For example, one way to predict how well a startup will do is to be one of their users. There were thousands of undergrads who knew Facebook was a big deal before any investor did. And many of them made a lot of money from equity by going to work for it.

Another way to predict which startups will succeed is to look at where your peers are going.  Have several of the smartest people in your graduating class ended up at the same startup? That's probably a company worth investigating.

I'm not going to try to explain all the techniques you can use to predict how well a startup will do. My point is just that such techniques do exist. You're not just flipping a coin. If you work hard at figuring out where to work, you can do a lot better than random.

I don't want to give you the impression that going to work for a startup is guaranteed to make you rich. Far from it. Most startups fail. So you should never consider equity in a startup as more than a bet that might turn out well. On the other hand, it's a bet that you can make fairly cleverly, if you work at it, and when it turns out well, it can turn out very, very well.

So the world has now, I hope, gotten more complicated. You now know there's another way to make money besides salary. You can get it by starting a startup or by going to work for one. And deciding which startup to work for is not like deciding what big company to work for, where you go for the big names, because the equity with the most upside is that of startups so small that most people have never heard of them.

There are a lot of new things to think about here. Thinking about them will be worthwhile.