Downside upside

It’s not often that you see companies brag about being worth less. And it’s not exactly what you’d think of as a morale booster. But that’s more or less what Instacart intended when it told employees it had lowered its valuation. The grocery delivery company said it was dropping the company’s 409A valuation — an internal measure — from $39 billion to $24 billion, and adjusting its grants of restricted stock units accordingly.

This seemingly small accounting change is actually pretty significant in the startup world, and points to how private equity compensation at highly valued startups is looking more and more like what employees get at public companies.

Don’t call it a down round. Employees may worry if a 409A price drops, but it doesn’t necessarily affect their equity the way raising new money at a lower valuation would.

• The 409A price is an internal accounting measure used to price employee equity which is typically updated at least annually. It’s different from the price that investors pay for preferred shares, which is typically cited as the “valuation” in news reports.
• One issue that wasn’t clear in some of the coverage of this: For tax reasons, 409A prices are updated at least once a year, and more often if there’s a material change. And like a public stock price, 409A prices can swing up and down. After a long bull market, many startup employees were stunned to see that stocks can crash. “409A valuations change all the time,” said Vieje Piauwasdy, senior director of equity strategy at Secfi, which offers financing to startup employees for exercising options and other needs. “So when COVID hit in 2020, we saw [all] those 409As go down.”
• A similar thing has happened since November’s tech downdraft. So Instacart’s 409A was going down regardless of what the company wanted to do. Instacart’s business is a mix of delivery, ads and software; some reasonable public comparisons include DoorDash, Meta and Shopify, whose shares are all way down.

Instacart’s trying to get ahead of a falling market. Since it can’t do anything about its 409A price, and its IPO seems to be delayed, it’s doing the next best thing.

• Tying its RSU price to the 409A price going forward was a proactive move, since Instacart was preparing to release annual refresher RSUs to existing employees.
• These RSUs are given annually to existing employees and will now be granted at the new $24 billion price. (The new price will also be used for RSUs for new employees.) Employees will essentially now be getting shares that are closer to their estimated value in the public markets.
  
• The company is telling employees that this is a benefit for them since they’re effectively getting more shares at the lower price, according to a person familiar with the company’s internal messaging.
  
• Unlike high-priced options that can become worthless if the share price drops, older RSUs granted at the $39 billion valuation still have some value. But the new RSUs offer more upside.
  

New employees like a lower price. It’s a big recruiting tool in a wildy competitive job market.

• It also helps explain why Instacart went public with the price change. One reason companies started giving out RSUs in the first place was the perception that their shares were too high to see big gains on options, whose strike prices are set by the 409A valuation.
• Instacart has been issuing RSUs for some time now, but the lower valuation could help early employees who hold stock options — especially since it now looks like they might have to wait longer for an IPO. “It just got a whole lot cheaper for employees to actually exercise their options and go long shares,” Piauwasdy said. Exercising options costs money up front but means that gains may be taxed at the lower long-term rate.

Overheard

Seed valuations haven’t changed much despite the recent macro uncertainty, according to Semil Shah: “Perhaps obvious in retrospect: With Q1 ending, from my vantage point @ pre/seed, I saw *zero* change to investment climate & market from January 1 to today. In fact, the quality of tech founders starting new things feels like it's improving upon itself.”

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