Private Company Underwater Equity: The Cost of Inaction

"Doing nothing is still a decision"

The Hidden Cost of Underwater Equity in Private Companies

When private companies talk about underwater equity, the conversation typically centers on whether to act. Reprice or not. Exchange or wait. Reset vesting or leave everything as is.

What gets discussed far less—and often far too late—is the reality that choosing not to act is itself a strategic decision, with real and measurable consequences.

In periods of valuation volatility, inaction can feel prudent. It avoids difficult conversations, investor scrutiny, and heightened employee expectations. And on the surface, the decision to “wait and see” can appear neutral.

It rarely is.

In practice, inaction quietly reshapes compensation philosophy, culture, and retention dynamics often in ways leadership never intended and may not immediately see.

This article explores why inaction is not neutral, how its impact differs across stages of private companies, and why companies should evaluate the cost of doing nothing with the same rigor they apply to repricing or exchange decisions.

There has been no shortage of guidance on how private companies can reprice or exchange underwater stock options. Resources such as NASPP’s blog series on private company option exchanges, which clearly outline the mechanics, costs, and governance considerations companies must understand before acting.

• Private Company Option Exchanges Guide: Overview & Costs
• Private Company Stock Option Repricing: A Legal Guide  
• Private Company Option Exchanges: A Practical How-To Guide

But once companies understand how repricing works—and what is legally permissible—a different, and often more consequential, question emerges:

What happens if a company chooses to do nothing?

The Myth of Neutrality

When equity goes underwater, companies often default to a holding pattern:

• “Let’s see how the next valuation looks.”
• “The market may rebound.”
• “We don’t want to set a precedent.”
• “Employees understand the long-term nature of equity.”

Each of these statements may be reasonable in isolation. But collectively, they reinforce a false assumption: that leaving underwater equity untouched preserves the status quo.

It does not.

In reality, underwater options stop functioning as incentives long before they expire. Employees don’t mentally discount underwater equity by 20% or 40%. They mentally discount it to zero. Once that happens, equity no longer motivates retention, performance, or ownership behavior; it becomes background noise.

At that point, the company has already made a decision. It has decided that equity will temporarily stop doing the job it was designed to do.

The Silent Shift in Compensation Strategy

One of the least visible consequences of inaction is a quiet rebalancing of total rewards.

When equity loses perceived value:

• Employees anchor more heavily on cash compensation
• Retention conversations increasingly revolve around salary and bonuses
• Counteroffers skew toward cash rather than long-term incentives

Over time, the company effectively drifts away from an equity-led compensation philosophy without ever formally deciding to do so.

This shift is rarely intentional. Leadership may believe they are holding the line on equity discipline, when in fact they are allowing cash compensation pressure to build unchecked. The cost shows up gradually: higher burn, compressed pay bands, and fewer levers to reward long-term value creation.

Ironically, many companies end up paying more for talent by doing nothing than they would have through a disciplined repricing or exchange.

The Equity Divide Between New Hires and Long-Tenured Employees  

Another hidden cost of inaction is internal inequity.

As companies continue to hire after a valuation reset, new employees receive equity grants priced at—or near—current fair market value. Meanwhile, long-tenured employees hold options granted at significantly higher strike prices.

The result is a widening equity gap:

• Two employees in similar roles
• Similar responsibilities
• Similar performance
• Radically different equity upside

Over time, this dynamic erodes trust. Long-tenured employees begin to feel penalized for loyalty. New hires quietly recognize the imbalance, even if it’s never discussed openly.

This isn’t just a morale issue; it’s a retention risk. Companies that delay action often see attrition cluster among experienced, high-context employees who are hardest to replace.

How Inaction Signals Risk to Employees and Candidates  

One of the most common objections to repricing is signaling:

“What will employees or investors think if we do this?”

But inaction sends signals too, just subtler ones.

To employees, doing nothing can signal:

• Leadership is disconnected from on-the-ground reality
• Equity is theoretical, not practical
• Difficult issues are avoided rather than addressed

To candidates, it can signal:

• Equity may look good on paper but doesn’t hold up in practice
• Long-term incentives are unpredictable
• The company may lack flexibility in turbulent markets

Ironically, silence often creates more speculation than transparency ever would. Employees talk. They compare notes. They draw conclusions often without the full context leadership assumes they have.

Early-Stage vs. Late-Stage Companies: Different Risks, Same Reality

The cost of inaction shows up differently depending on company stage, but it shows up regardless.

Early-stage company's risk:

• Losing key builders just as product-market fit emerges
• Over-indexing on cash when equity should be the differentiator
• Undermining ownership culture before it’s fully formed

Late-stage private companies face:

• Misalignment ahead of liquidity or secondary events
• Employee disappointment when “valuable” options expire worthless
• A more complex cleanup later, when scrutiny is higher and flexibility is lower

In both cases, waiting rarely makes the problem smaller. It usually makes it more emotionally charged and operationally complex.

The Compounding Effect of Delay

Perhaps the most underestimated cost of inaction is time.

The longer underwater equity sits untouched:

• The less credible it becomes as a motivator
• The harder it is to re-engage employees later
• The more employees mentally “write it off”

By the time leadership decides to act, some of the intended retention benefit may already be lost. The program may still help but it is working uphill against disengagement that has been quietly compounding for months or years.

In this sense, inaction doesn’t just defer a decision. It changes the starting point when action finally happens.

Reframing the Leadership Conversation on Repricing Decisions

Leadership is right to approach repricing thoughtfully. It raises legitimate concerns around precedent, governance, and alignment with investors. But the framing of the decision matters.

The real question is not:

“Should we reprice?”

It is: “Which risks are we willing to accept and which are we actively choosing?”

Those risks include:

• Gradual erosion of equity’s motivational value
• Increased reliance on cash compensation
• Retention risk concentrated among high-impact employees
• Cultural drift away from ownership

When evaluated through that lens, doing nothing is no longer the “safe” option. It is simply one option among many—with its own costs, tradeoffs, and consequences.

Choosing Risk Whether You Act or Not

Choosing not to reprice or exchange underwater equity may be the right decision in some circumstances. But it should be recognized for what it is: a strategic choice, not a neutral holding pattern.

Companies often spend significant time evaluating the risks of action, dilution, accounting expense, precedent, investor reaction. Far less time is spent evaluating the risks of delay. Yet inaction carries its own consequences: erosion of equity’s motivational value, growing reliance on cash compensation, widening internal equity gaps, and cultural drift away from ownership.

The question, then, is not simply whether to act. It is whether the organization is comfortable owning the outcomes of waiting and whether those outcomes align with its compensation philosophy, talent strategy, and long-term goals.

Before closing the conversation, it’s worth pausing on a few questions that often determine whether “waiting” is a conscious strategy or simply the absence of one.

Key Questions About Delaying Action on Underwater Equity

• Is “waiting” a deliberate, time-bound decision or simply our default posture?
• What problem are we actually trying to avoid by not acting?
• If we had to explain this choice to employees in one sentence, what would we say?
• Would we make the same decision if cash were not an available retention lever?
• At what point does delay become more expensive than action?