Put down the Viking helmet and champagne, Facebook founders. There's actually a downside to that $15 billion valuation. Facebook plans to double its workforce from 350 to 700 in the next year, but that might be difficult, the Wall Street Journal argues. Why? Because the high valuation raises the value of stock options to the point where there's little potential upside for employees just signing on now. Owen Van Natta, Facebook's chief revenue officer, admits, it's a "real issue." Nah. Hate to disagree with another Owen, but my namesake is wrong here.
The first lesson: Never ask someone with a liberal-arts degree from UC-Santa Cruz a finance question.
Facebook has a simple answer: restricted stock units. Like stock options, restricted stock vests over time. But unlike options, the employees actually own the shares outright after they're vested, rather than having the right — the "option" — to buy the shares at a set price.
The problem, I suspect, is explaining the new pay scheme to potential hires, especially ones without a Wall Street background. Silicon Valley's entrepreneurial culture was built on stock options. When you say "options" to a new recruit, they don't think about complicated financial derivatives. They think "gold mine." When you start talking about "restricted stock," their eyes glaze over.
One financial type suggested I think of RSUs as options with a strike price of zero. I'm not sure that's quite right, since there are some differences in, for example, tax treatment. (Fidelity has a useful explainer.)
As long as Facebook is as generous with restricted stock as it is with options, employees won't see much of a difference. And at a $15 billion valuation — or even a lower one cooked up by a team of crack accountants — Facebook can afford to give away a lot of stock.
The problem is more one of motivation. Options have a downside: They can go underwater, which renders them worthless. That's a scenario employees are motivated to avoid. But with restricted stock, employees bear less risk. Say an employee gets 1,000 stock options with a strike price of $10. If the stock doubles to $20, they'll buy the shares at $10 and sell them for $20, clearing $10,000. If the stock only goes to $11, then they'll only make $1,000. That's a tenfold difference. If an employee gets 1,000 shares in restricted stock, they'll start off being worth $10,000, and doubling the stock price only doubles their take. Stock options encourage employees to go for the big score.
One could argue, though, that by locking in a $15 billion valuation, Facebook has already gone for the big score. The company is priced for perfection, and that valuation carries a lot of risk. Issuing options at Facebook's new value could very well kill its recruiting efforts. Facebook's founders and early investors have already made out like bandits — on paper, at least. It makes sense for new employees to bear a little less risk.
Besides, as my colleague Nicholas Carlson reminds me, we know the real incentive for working at Facebook. During lunch you get to find out who's looking you up or maybe upload explicit pictures to an unsuspecting user's profile. Beats a dental plan.
(Photo by spcbrass)