Negotiating Severance at Startups (A Startup Stock Attorney’s Perspective)
Mary Russell is a startup stock attorney who counsels individuals on their startup equity including restricted stock, stock options and RSUs.
I write a blog for startup professionals who are evaluating startup equity at the offer letter stage. I’ve noticed that some people read these posts and try to apply them to their severance negotiations and separation agreements. They seem to think: “If I could have gotten these favorable terms on the way in, I should be able to get them on the way out.”
Well, maybe. I do sometimes work with individuals who are re-negotiating their equity rights on the way out of the company and trying to hold onto their vested and/or unvested equity. But the logic and leverage of severance / separation negotiations are completely different than those at the offer letter stage.
Startup Offer Letter Leverage
At the offer letter stage, the dynamic is simple: The startup wants you to do the job. They are willing to offer you enough cash and equity, and favorable enough equity terms, to get you to do the job. If you ask for more than they think that the next person who could do the job well would ask for, they will have to say no. Otherwise, the startup will say yes (if you press hard enough).
Startup Severance Agreement Leverage
At the severance agreement stage, the power dynamic is more complex. Maybe the startup wants something from you, such as:
To think well of the company and/or its executives so they feel like good people.
To think and speak well of the company and/or its executives so they can maintain good relationships with other people (like co-workers, customers, etc.)
To think and speak well of the company so they can continue to be successful in recruiting other key hires
To stay quiet about things you know about that they wouldn’t want out in the world (either in public or private)
To stay with the company for a period of transition
To affirmatively say certain things or manage relationships or projects in your remaining time at the company or on your way out
To sign IP assignments, non-competes, or non-disclosure agreements or other key documents you did not sign on the way into the company
To leave (if you’re unhappy) to protect the company from bad-fit employees and executives.
To sign a release of claims so they do not have any risk of any ongoing threat of litigation from you
But what if the startup doesn’t want anything from you at the time of separation? The startup may not care about any of the above, or may not care enough to make a valuable severance offer to secure it. The offer letter stage leverage is gone, so the territory is new.
The startup may simply want to take back your vested and/or unvested equity so that their existing equity holders will enjoy reverse dilution. Frankly, if they added clawbacks, short post-termination option exercise periods, or other forfeiture terms to the original equity grant, they probably meant to enforce them.
This last point often shocks startup professionals. They get attached to their equity - both vested and unvested - and consider it their “right” to keep it (regardless of the fine print of the grants or whether they have met their vesting requirements). Or they think they are entitled to cash out their shares, especially if individual executives or investors, or existing employees, are able to cash out. Or they think: “Why would it hurt them to give it to me?”
Well … all equity decisions are made by the board of directors of a company. This board of directors likely includes representatives of the venture capital firms who fund the company. These representatives have a responsibility to their funds - and the investors in their funds! - to maximize the value of their investments.
So, if a startup is offering an employee or executive favorable a favorable severance package on the way out of a company, those terms have to be in the company’s interests and in line with the goal of maximizing the value of the investors’ investments. It’s not at all obvious that improving a departing employee or executive’s equity terms as part of their separation or severance negotiations is in the best interests of the company. It may be, but that’s not an obvious case to make.
Offer Letter Startup Equity Negotiations
In contrast, favorable terms at the offer letter stage are there for the obvious purpose of recruiting and retaining talent. It’s up to the founders to make that case to the startup’s board, such as:
We need to offer some type of vesting acceleration to recruit this executive.
We need to offer an extended post-termination exercise period on all options to recruit the best employees.
We can’t add the dreaded “clawbacks for vested shares” to our employee equity grants or we will be shunned as anti-employee and fail to recruit the talent we need.
Sometimes founders are able to convince a board to offer these favorable equity terms to new hires. Sometimes not. As you can see, every one of these terms would cut from the payouts to investors in an acquisition or post-IPO because they keep shares in the hands of employees and executives.
Severance Agreement Startup Equity Negotiations
So why would a startup offer these favorable equity terms in a separation agreement?
[Pause].
[I’m adding a teacher’s pause here to let you think about it. I used to teach 7th grade and kept some of these annoying teacher habits.]
Why would a startup offer accelerated vesting, an option exercise extension or a waiver of clawbacks in a separation agreement?
[Pause.]
Maybe a startup has a favorable standard exit package that they offer to all departing employees or executives, such as 6 months salary continuation and an extended option exercise period. If so, it’s likely offered so the startup can be seen as employee-friendly and maintain a good relationship / reputation for ongoing recruitment and retention purposes.
But if they do not, what would make them offer this - or something more favorable - to you?
[Pause.]
It’s not obvious, right?
I’m not trying to discourage startup professionals from expecting and asking for favorable terms. Individuals do sometimes get astonishingly generous startup separation packages not included in their original offer letters, such as accelerated vesting, long salary continuation periods, bonus payouts, early liquidity opportunities, and variations to their standard option exercise period worth millions of dollars.
But these extra-favorable terms are usually based on one of two extremes:
The founders’ or other leaders’ desire to do right by someone who helped build the company, based on a “boys club” mentality (regardless of the sex or gender of the person). The departing employee or executive is considered on the “inside” and so they want to do right by them as part of the relationship. Venture capitalists know this is part of the “deal” in this world and may have that in mind as well.
The company’s concern about the costs or other downsides of possible litigation of legal claims. This is best understood by speaking to an employment attorney who understands the value of equity and regularly litigates or resolves employment disputes.
Both of these depend on the individual understanding their leverage and being willing to press their leverage.
So, when I’m considering someone’s separation / severance negotiations, here’s my thought process:
What is this person’s leverage?
Does this person actually understand their leverage and its limitations?
Are they willing to press this leverage (or, push their luck, as my mother would say)?
Good luck.
Mary Russell is a startup stock attorney who counsels individuals on their startup equity including restricted stock, stock options and RSUs.
