Your net worth is 80% startup equity — now what?

It’s common for founders, executives, and early employees of venture-backed startups to have much of their net worth tied up in private equity. On paper, you might be worth millions, but 80% of your net worth lives on a cap table. This means that, in reality, your liquidity is limited and your concentration risk is high. 

So, what should startup executives do? Here, we’ll explain the “equity rich, cash poor” dilemma and guide you through how to approach equity diversification and equity monetization. These strategies will help you manage risk, liquidity, and long-term planning.

The conundrum that startup founders and executives may experience is being “equity rich, cash poor.” Essentially, that means you’re wealthy on paper, but have insufficient liquidity. 

A confluence of factors causes this situation: Startup equity is illiquid because it isn’t easy to sell company shares. Company valuations can fluctuate based on industry trends, market conditions, or profitability. What’s more, you may have an exit timeline for an acquisition or initial public offering (IPO), but it can be a moving target. On top of that, you have your own personal finance goals and commitments, such as taking care of your family or buying a home. 

As an example, consider a tech founder with 50% to 70% of their net worth tied to their company’s private stock. If their startup does well, the payoff can be significant. But, if it’s unsuccessful, the founder’s finances are negatively affected. So, the core issue is that the founder has a high concentration risk, given that most of their wealth is heavily dependent on the company’s performance.

Diversification reduces risk without eliminating upside. Even  founders who are confident about their personal financial strategy may experience market downturns that could rattle them and make them second-guess their approach. Shifts in industry regulation that are beyond your control can have a big impact on your portfolio, especially if it’s not diversified. For instance, a new policy could impact compliance costs or revenue streams. Competitive threats, such as new innovations or technologies, could quickly alter market share. 

If you’re hoping your startup will get acquired, so you can liquidate your shares, the process isn’t always straightforward. Deals may fall through during negotiations, and the acquiring company may decide to walk away. That’s why equity diversification can be an important strategy for founders seeking financial security. 

To start diversifying, consider converting some of your startup equity into other investments, such as stocks, bonds, or alternative investments. Having a diversified portfolio can help to reduce the impact from market volatility and lower the risk of underperforming assets over the long term.

Example: A comparison of two founders

In this example, one founder has $5 million in equity and $200,000 in savings. So, 96% ($200,000 ÷ $5,200,000) of their net worth is anchored in a single company, which is very risky. 

The other founder also has $5 million in equity and $200,000 in savings. But they sell 30% of their shares in a secondary sale, and invest the proceeds. Now, they hold $3.5 million in startup equity and have about $1.5 million in diversified assets, along with their savings. Thus, they retain upside if the company grows, but still increase their personal financial stability. 

Equity monetization is an effective way for founders to access liquidity. This process allows you to convert illiquid equity into cash, without relying on an acquisition or an IPO. Let’s review some ways to structure liquidity planning.

1. Secondary sales

Later-stage startups can sell a portion of their shares to investors during funding rounds. Investor alignment and board approval are required. 

2. Tender offers

Company-organized liquidity events are moments when a company creates an opportunity for shareholders to sell some of their shares and turn them into cash. You may decide to allow employees to sell vested shares (shares they fully own and have earned the right to keep) to approved buyers, typically before an IPO or acquisition. 

3. IPO liquidity

When a company goes public, its shares may be sold on a public exchange, such as the NASDAQ, after lock-up periods. However, there may be volatility in the share price. 

4. Recapitalizations

Restructuring capital during a financing event or through private equity allows founders or existing shareholders to sell a small portion of their shares to new investors. This provides partial liquidity, allowing founders to retain the majority of their stake. 

5. Borrowing against equity

Cash-strapped founders could opt for equity-backed loans instead of selling their shares. The downside is that it’s risky if the company’s valuation drops.

Keep in mind that each of these options carries tax implications, signaling considerations, and timing risks. Do your research to fully understand the pros and cons of each option before making a decision. 

Creating a solid equity monetization strategy will help you decrease risk and preserve long-term upside. Here’s a five-step approach that startup executives can follow. 

Step 1: Define your personal baseline security number 

Figure out the amount of liquidity that would help you to achieve your personal goals, such as buying a home, providing for your loved ones, and saving for retirement. 

Step 2: Identify your concentration threshold

Calculate the percentage of your net worth that’s attached to your startup equity. From there, you can make a plan to steadily reduce your risk exposure. 

Step 3: Model downside scenarios

Stress-test different scenarios, such as a decline in your company's valuation or a delayed exit strategy. Scenario modeling can help shed light on how much diversification you may need.

Step 4: Plan staged liquidity events tied to company milestones

For a flexible and incremental approach, consider planning your liquidity events to coincide with company milestones. You can set up staged sales tied to funding rounds or tender offers, for example. 

Step 5: Align monetization with tax strategy

Consider working with a tax advisor when you’re planning to exercise options or during capital-gains holding periods.They can help you navigate these processes and make a plan to reduce your tax burden. 

It’s normal for founders to struggle to sell their stake because it can feel like a loss of belief in the company. Rest assured, de-risking your personal finances is a smart move, and it doesn’t mean you doubt your startup’s potential. 

When it comes to finances, founders should understand how taxes and timing strategies can help or hinder them, especially during liquidity events. Here’s a high-level overview of several factors to be aware of.

Long-term vs. short-term capital gains

If you sell shares that you’ve owned for less than a year, you’re subject to pay up to 37% in capital gains taxes. However, if you’ve held your shares for more than a year, you’ll likely be taxed at a lower rate (0%, 15%, or 20%, depending on your income).

Qualified Small Business Stock (QSBS) implications

Founders may be eligible to exclude $10 million to $15 million of federal capital gains tax on shares held in the startup for at least five years. 

Alternative Minimum Tax (AMT) considerations

High-income earners are required to pay their fair share in taxes. For example, if you exercise incentive stock options (ISOs), the spread between the exercise price and the fair market value (FMV) could count as AMT income. 

State tax differences

Each state has its own rules for income, sales, and capital gains taxes. If you operate in a high-tax state, you should be prepared for a potentially hefty tax bill. 

If you need guidance, consult a tax advisor. Receiving professional tax advice from a certified public accountant (CPA) can help you to appropriately prepare for equity sales. 

When you assemble a diversified investment portfolio, it’ll be unique to your personal financial goals. How you choose to allocate your money should align with your values. Every founder’s portfolio will look different. 

To give you an idea of what diversification can look like, here are a few examples: 

• Broad market index exposure, such as the S&P 500
• Fixed income, such as government or corporate bonds
• Real estate, including real estate investment trusts (REITs), rental or commercial property
• Alternative investments, such as private credit or commodities
• Holding a meaningful stake in your company that isn’t overwhelmingly tied to your net worth

Remember, it’ll take time to sell some of your stake in the company and diversify your investments. You’ll never know which markets or industries will perform well in any given year. As such, having a well-balanced portfolio will help you weather any ups and downs, rather than having a single company defining your financial future. 

Selling shares comes with emotional ups and downs. Having your identity tied to your company valuation is also a common feeling, so you might feel guilty about prioritizing your own liquidity. Selling your equity could also bring up legitimate concerns for the people around you. For instance, when you sell part of your stake, some people might interpret that choice as a signal that you lack confidence in the company. . But financial security can actually improve your decision making, since your personal financial goals won’t depend on the company's results. Simply put, diversification allows you to operate from a place of stability, rather than anxiety. 

What is equity diversification?

Equity diversification involves converting a portion of your startup equity into other investments, such as stocks, bonds, real estate, or alternative investments. Diversification helps reduce risk and balance your portfolio.

How do founders monetize startup equity?

Founders of venture-backed companies can monetize their startup equity by having secondary sales, tender offers, an IPO, recapitalizations, or equity-backed loans. These options provide liquidity without requiring an exit strategy.

When should you diversify private company stock?

Startup founders have opportunities to diversify at various points, such as through tender offers or funding rounds. It’s important to consider the potential tax implications, company milestones, and timing risks. 

What does “cash poor, equity rich” mean?

The popular phrase “cash poor, equity rich” references founders whose net worth is anchored to their company’s shares. These founders may find themselves cash-strapped, even though on paper they’re net worth is in the millions.

How much startup equity should you sell?

Selling 10% to 20% of holdings per round is a common strategy among founders. This can help reduce concentration risk and preserve your ownership in the company. 

What is an equity monetization strategy?

An equity monetization strategy helps founders convert their shares into liquid assets, while protecting their long-term upside, typically through staged sales.