2009 put startup valuations on a diet, bootstrapping and revenue models were back in the spotlight; and Angel investors made a comeback.
Despite the fears and outcries from some, startup funding didn’t quite freeze into the nuclear winter many thought it would… To many founders’ relief, startups were still getting funded. But the weakened economy did serve as a crucial “intervention” moment for a tech ecosystem that before that had been living large with dreams of $1B exits for everyone.
So, as we all prepare for winter hibernation before bursting into the New Year, what should startups know as they prepare to take their products to market, and pitch decks to investors?
On December 3rd in San Francisco, and December 10 in Los Angeles, we’re bringing some of the most influential angels and VCs together for candid round table discussions with YOU.
Depending on your city, meet and talk with Brian Pokorny (SV Angels), Jeff Clavier (SoftTech VC), Aydin Senkut (Felicis Ventures), Mark Suster (GRP Partners), William Quigley (Clearstone Ventures)….
What we’ll talk about:
* Is investing back in an upswing yet? If so, what trends are VCs betting on?
* What milestones must be met by startups seeking funding next year to ensure investors take them seriously?
* With the resurgence of angel investment and smaller financing rounds rounds – are VCs still players?
* What will the new fundable trends be: Healthcare 2.0? Green tech? Or are mobile and cloud computing still “in” for 2010?
Ivan is a partner at Gunderson Dettmer’s Silicon Valley office, practicing in the Corporate and Securities Group. He has extensive experience working with startup and emerging growth companies through their entire lifecycle as well as representing venture capital, private equity and other investors. For more great resources, we recommend checking our these docs on DocStoc and VentureHacks.
The Series A Term Sheet: 5 Terms Founders Should Focus On
It turns out that a typical Series A Term Sheet for a private company venture capital financing can be as much as 4,000 words long. Given that for many people 140 characters is plenty these days, that is a lot of verbiage for even the most detail-oriented founder.
To try and make it easier to separate the “boilerplate” from the stuff that really matters, I’ve summarized below what I think are some of the terms that a founder needs to drill down on.
Everyone in the tech business is on information overload; the trick is to apply your limited bandwidth in the right places. Of course, as a lawyer, I would never suggest you skim the fine print. My point is that even after your lawyer, the entrepreneurs in your network, your mentors and whomever else you trust have read the fine print and given you their opinion, there are some key provisions that you have to understand and have your own opinion on.
The following comments are done in the order that the points generally appear in a Series A Term Sheet (and I’m skipping valuation on the theory that if you need math help from your lawyer you’re already in trouble):
Option Pool.
Sometimes tucked into a paragraph on “capitalization,” term sheets will generally define price per share as being based on a pre-money valuation of $X and a cap table that includes a “post-financing option pool of Y%.”
The idea is that if the pre-financing option pool isn’t deemed big enough, the investors worry about being diluted shortly after their investment by a pool increase. Accordingly, the desired pool size is factored into the negotiated valuation such that the founders and other pre-financing stockholders bear the dilution. Certainly you wouldn’t expect a new investor to jump into a company with no option pool and accept inevitable and instant dilution. Nor should founders adopt a giant pool and forever protect investors from dilution that is expected in a growing and healthy company.
The key is being thoughtful about finding the right middle ground – how robust is the team at the time of the investment? Is it an industry or region where equity is more or less important a driver of recruiting/retention? Is the hiring plan tailored to the operating plan? Does the team know up front that a major hire will be needed (e.g., is it obvious that the founder group is missing a CEO), etc.
Spending some time on these issues and coming up with an option pool budget helps you have a reasoned approach to pool size. If you can’t tie the pool discussion to the business plan, then it’s just an extension of the valuation discussion and, for the founder, a less effective way of addressing the issue.
Dividends.
There are generally two schools of thought on dividends – (1) they basically should never be declared in an early stage company and any retained earnings should be used for growth and (2) there should be an annual dividend that at least guarantees some modest return. A hybrid favored by some East Coast investors has dividends accumulate from the time the stock is purchased but provides for them to be paid only upon an exit event.
From a founder’s perspective, the second approach can have a real impact on economics. A typical dividend of that type might be 6 to 8% accruing annually – add that up over several rounds of financing and several years to an exit and it can be a major spiff on top of the liquidation preference. So from a term sheet standpoint, you better know what you’re getting!
School (1) generally includes the phrase “when, as and if declared” – the magic words to say there is no mandatory dividend – only a dividend preference for the Preferred if the Board declares a dividend. School (2) will say “cumulative” or “mandatory” and generally have more extensive verbiage around the accrual period, whether they are paid in cash or stock, and whether they are paid regularly or only at exit.
If you’re not sure what you’ve got you need to ask. And always be cognizant that a later investor will want the same terms so an innocent looking 5% on a $750K seed round could be a big deal down the road.
Liquidation Preference.
The basic concept of a liquidation preference is pretty simple – if you liquidate the company, the preferred stock gets money back before the common stock.
But, in the world of venture financings, a sale of the company or its assets is always deemed “a liquidation.” So we’re not just talking about preference over assets when something craters, this is also about how you divide the money when the company gets sold. Who gets their money first when there isn’t enough to go around and how fairly is it shared when there is lots to go around. The problem is that there are half a dozen ways to structure preferences and several of them have multiple names in the lingo – 1X/no participation; “double dip preferred,” “fully participating,” “participating preferred with a cap,” preference multiples with no participation, etc.
In later stages of investment, you also have to deal with “intramural” issues among investor over whether senior preferred should get paid ahead of junior preferred, etc. It’s a bit much to try and review in detail here, but suffice it to say that these provisions are THE major drivers of economics in an M&A exit, and you need to take care to understand exactly what is being proposed and the economic impact at various valuations.
Board Composition.
Virtually all venture capital financings require that the Company reserve one or more seats on the Board of Directors for the investor(s).
Following a Series A financing, a fairly common structure is an odd numbered board (to avoid deadlock) with an independent director as the “tiebreaker” between the directors designated by holders of preferred stock (the investors) and those designated by the holders of common stock (the founders).
In syndicated rounds with multiple investors, 5 is a very typical post-Series A board consisting of 2 investor seats, 2 common seats and an independent. For smaller rounds with a single investor, one might see a 3 person board with 1 investor seat, 1 common seat and an independent. One subtlety to be aware of from the founder perspective is whether a “common” seat is hard wired to the “then serving CEO.” The term sheet typically phrases this as something like this: “Holders of a majority of the Common Stock shall be entitled to elect _____ member(s), one of whom shall be the Company’s CEO.”
In other words, if the founder is no longer the CEO and is replaced, the board seat goes with the office – which can tilt the balance of a board away from the original founder group. Of course the pros and cons of that approach will often depend on the individual circumstances of any particular team or deal; what’s important for purposes of the term sheet is to understand the issue so you can make a knowledgeable decision. Similarly, the choice of the “independent director” can make a huge difference in the tilt of a Board and the choice should be made with care.
For more perspective on Board composition issues, see the following post at Venturehacks.
Founder Vesting.
Often the Series A term sheet will be used to negotiate founder vesting as part of the overall terms and conditions of the financing. With few notable exceptions, the primary value in a typical start up company is in the people and, not surprisingly, investors want to make sure those key people stick around.
As with everything in this business the basic concept is simple – stock owned by the founders is made subject to a repurchase right, exercisable by the Company if the founder quits or is terminated. The repurchase right “lapses” on a negotiated vesting schedule so that fewer and fewer shares are “at risk” over time.
Again, though, the devil is in the details. What percentage of the founders’ shares will be subject to the repurchase right? Over how many years? Will the vesting accelerate if there is a sale of the company? What about acceleration if the founder is terminated without cause? What sorts of things should constitute cause?
It’s a topic on which several hundred words could be written just walking through the lingo – “good reason,” “double trigger versus single trigger,” “constructive termination,” etc. So let me make just two high level points.
First, this is an area where founders often get their first taste of being a bit conflicted. From an individual perspective, a founder might wish to be as aggressive as the market will bear on vesting schedule, acceleration terms and other founder protections.
As a co-founder or CEO, however, one also has to consider the founder/co-founder dynamic as much as the founders/investors dynamic. I’ve often seen co-founders set up aggressively pro-founder vesting terms only to have a team member break up the band and walk away with a lot more equity than the remaining team would have liked. As a related second point, this is an area where it pays to try and strategize a few moves ahead to build consistency into equity terms on the team. Having a patchwork of different deals can create odd incentives or hurt morale if, as a result of different acceleration terms for example, a deal will produce widely different economics for employees at similar levels. In any event, a founder going into a Series A term sheet negotiation should understand his or her existing stock terms and exactly how the term sheet proposes to alter or amend those terms.
Some Final Disclaimers
Having said all of that, I will make a few final disclaimers. First, this entire discussion assumes a company on its first round of professional financing from a VC or angel investor accustomed to working with startups.
Occasionally startups will have an early engagement with a commercial or strategic partner that yields a financing and those deals can vary greatly from what we generally refer to as “market” terms from a venture capital investor. Also as alluded to above, there are additional degrees of complexity as you layer in additional rounds at different valuations. Reasonable VC’s and founders may of course have legitimate disagreements about how to balance these terms, the important thing is to be as informed and self reliant on the key terms as you can be.
Lastly, thanks to the team at Under the Radar for providing this forum and for all they do to support the startup ecosystem.
* Dave McClure (Founders Fund) walks through How to Pitch a VC at The Workshop
Yesterday, 120 startup founders joined VCs, seasoned VC-backed founders and startup attorneys for a one day deep dive into the in’s and out’s of getting funded at Microsoft’s downtown LA office.
From Dan Gould’s opening keynote (notable soundbite = “F@c% you, go away” when translating VC-isms) to Dave McClure’s How to Pitch a VC (slides below) and Kent Goldman’s disdain of “bling” (ie: startup advisers who lend their names but not their time); The Workshop presenters not only put on a good show, but also spent a lot of time answering startups’ questions.
Some of the great startups who attended include:
* Audio Micro
* RideAmigos
* CIE – Seek Your Own Proof
* Handbago
* Sweety High
* PhotoZen
* BakeSpace
* AdventureLink
* and more. Thanks to all who came!
Sessions Included:
* What to Do BEFORE Pitching a VC
* Determining Need vs. Greed (ie: what to raise?)
* Equity Structure (How to Divide the Pie)
* Term Sheet Negotiation (View the term sheets online HERE)
* Team, Board and Adviser Compensation
* …and more. More presentations and term sheets can be found on DocStoc.
On Tuesday night three of the most prominent angel and seed-stage investors gathered in a boardroom errr, make shift living room, in San Francisco to discuss the state of angel investing today, from recent deals to what it’ll take to lay down a term sheet in the future.
The investors in the spotlight included Aydin Senkut, Founder and President of Felicis Ventures; Jeff Clavier, Softtech VC and Rob Hayes, Partner at First Round Capital – who despite the economy this past year still continue to invest.
In fact, Jeff Clavier delivered two term sheets that day alone. Seems creativity loves constraints; and the tight economy has weeded out the “me-too” entrepreneur wanna-be’s and left a crop of compelling, driven founders standing.
Hayes got the conversation rolling with a general observation. “This economy sucks!” Despite the downturn, he said, the three panelists, who frequently invest together, have been active. Hayes had 6 investments in the last quarter, Senkut had five with three follow-ons, and Jeff, with a kiddish smile, noted he had none in the past 28 days, but had put down two term sheets that day.
The good news is that the downturn has made selection easier. A year ago, most pitches were uninteresting derivative ideas (me-too Twitter knock offs). “All that’s left is nut crazy ideas,” Hayes exclaimed with satisfaction. The only entrepreneurs left seeking capital were the ones who believed in their ideas, regardless of the economy.
So what are they looking for? All generally invest in consumer Internet companies and have recently emphasized on personalized medicine and cloud-based ideas. The three invested together in a bio-informatics company not long ago. Senkut, who was an early customer in 23andMe, was the most emphatic about health–not pharmaceuticals, but things like electronic health records–and education.
Hayes noted the founder’s character and history was key. He was struck by the bio-informatics CEO’s ability to synthesize complex problems into simple stories that the three could grasp–and believed that ability would help drive the company’s success.
Read more here.
See you at the next Strategy Series (hosted by Mayfield Fund) on October 14.
Angel investors are the new black. In a down market, many entrepreneurs are looking to angels for salvation. But they may be in for a rude awakening. Angels are not exempt from economic pressures, and their outlook, strategies, and requirements are changing….
Last Wednesday at our Dealmaker LA event, Silicon Valley and SoCal angel and seed-stage investors (both large check writers and small) came together with LA entrepreneurs to hash out the true value of angel financing – and what’s changed due to last year’s econo-clypse.
Speakers Included:
Jarl Mohn, Investor
The Lowdown: Former CEO of Liberty Digital, Created E! Entertainment Television & the Style Network (CEO), former EVP & GM of MTV & VH1, and private investor.
Rob Hayes, Partner, First Round Capital
The Lowdown: Partner at the famed First Round Capital, the Bay Area firm that has provided seed-stage investments to some of the most well known startups, from RockYou to Mint.
Thomas McInerney, Angel Investor, TGM
The Lowdown: Former CEO of Guba who is based in L.A. and now spends his time advising and investing in internet startups like Shopflick and The Experience Project.
Scott Sangster, President, OrganicStartup
The Lowdown: Former Disney exec who runs OrganicStartup, a firm that invests in, advises, and incubates seed-stage internet startups in Southern California.
Moderator: Dan Gould, VP Technology Fox Interactive Media
Check out the pictures from last week; and be sure to join us September 17 at Rustic Canyon Partners for a Strategy Series focused on the Startup Exit Ecosystem – who’s buying, who’s not – and why. More Info.
Our friend, Mark Suster (a partner at LA-based GRP Partners) is a successful entrepreneur and VC. I can always count on him for candid advice and feedback; a value he also provides to startups in SoCal and up here in the Valley. After being in a startup with an army of co-founders in my past life, I found Mark’s recent post quite compelling…
Founders, Ownership and Prenuptials
Yesterday I wrote a blog post (here) in which I urged people to not have too many founders.
Best case scenario in my mind is just 1, but at most I recommend 2.
I knew this topic would be controversial because when I tell people this in person it always elicits shock. To be clear – it’s not about being stingy with or hoarding equity – it’s about having a prenuptial agreement.
Let me give you some scenarios that do happen in real life:
You start a company 50/50 with a good friend. If it becomes the next YouTube, you always stay friends. 99.99% of companies do not become the next YouTube.
In fact, most go through tough times at some point. Or maybe it’s not a good friend but you’re a business guy and hooked up with a technical guy you know through the network and you think you’ll work well together or vice-versa.
If you’re not an overnight success or if you do struggle, what happens?
* What if one guy needs to pay bills and takes a full time job somewhere. Should he/she keep 50%?
* What if you have to make really tough calls on cutting costs, biz dev deals, fund raising and you violently disagree on direction? Who prevails?
* What if the person performs OK, but not great and you need to hire above him?
These situations are only compounded if you have 3 or more founders. I know that many people reading this will be in companies with 3+ founders and aren’t having any friction. That’s great. I have even invested in companies like this. I know conflict doesn’t always happen. It’s just that when it does, it usually comes after much time and expense.
Real world story:
A friend of mine used to work at Google. He started a company with 2 others. They agreed to all be co-founders.
Now, nearly 2 years of hard work have been put into the company (not to mention a lot of their savings) and they’ve had to have the discussion about who should be CEO. 2 of the 3 want the job. They each own 33%. There is no mechanism for deciding.
They agreed to let the VC’s decide once an investment comes in. That sucks because VCs will want to know that you have all the difficult stuff worked out before you come to them. You’re just giving the VC one more reason to potentially so “no.”
In many cases these things get worked out and I’m optimistic in my friend’s scenario. But… do you want to risk it AFTER you’ve sunk in years and hard-earned $$$?
Why does someone need to be CEO? In many businesses you end up needing to make tough decisions. Consensus does not always build.
In yesterday’s post; however, I didn’t advocate being greedy. To the contrary. I believe it’s very important to spread the equity. You should have a “partner” or 2 in the company. I believe you should treat them as partners. They should have access to all the same information. They should be involved deciding in all the difficult issues. They should have huge upside in the economic potential of your business.
But if you set up a company by yourself and give a large % in restricted stock or stock options to a partner, and for some reason you fall out of love, you have a pre-nuptial agreement in place.
If they stay 2 years and then leave – great. They only walk with half of their position. This could be achieved with simple vesting schemes, but there’s a rub… What if YOU decide that they need to leave? It’s far better in that case, as you’ll have some leverage that doesn’t end up torpedoing the company. 50/50 partnerships sometimes end with a bang.
There, I’ve said it. I know it’s controversial. But I still think it’s right for many a founder / entrepreneur. Yes, there are exceptions. No, it’s not the end of the world if you’re 50/50 or 33/33/33.
A friend and respected colleague, Bryce Benjamin (of TechCoast Angels) wrote to me after my last post. He was concerned that I had set the impression that founders should hoard their equity or that there were prescribed numbers to hand out. He authorized me to post his comments:
“We’re in sync on so many start-up/entrepreneur issues that I may have knee-jerked a bit too harshly on this one. But it is the “founding team” size and “percentage ownership” advice in this post that I feel you’re being too prescriptive about. After re-reading, I see you have qualified your comments, but one of the things readers really like about your blog is that you give specific, actionable advice in it and your qualifiers will be ignored just as I read right past them last night.
One of the mistakes I see entrepreneurs commonly making is too much focus on their ownership % and not enough recognition of the various core competencies and expertise they’ll actually need to create a successful biz. Generally a founder (or founding team) has strong core competencies in “a” discipline, but lacks the breadth needed to build the business. First time entrepreneurs, especially, tend to need more than one other “key” team member/partner to help them be successful. And to be able to attract the expertise/experience they require, they should be willing to give up pretty sizable chunks of the company. Experienced entrepreneurs who know the ropes won’t need the same kind of support and will be able to build a team by giving up less of the ownership.
In terms of %’s, my advice to entrepreneurs is to focus on value and fairness. I agree that “fairness” doesn’t always mean equal, but sometimes it does. Again, though, the key for the entrepreneur is to focus on what individual(s) is(are) essential to expanding the size of the pie and getting the right people, not specifically on the size of his or her piece.”
I agree 100%. I don’t advocate being stingy. I advocate, to steal Bryce’s words, “fairness and value.”
Many solo founders who’ve spent time with me would confirm that I often tell them, “you need to find a “co-founder” to work with if you want this to be successful. And you need to be prepared to part with 10, 20, 30% of your company or more to make this happen.”
Want an inside look into what VCs are doing and thinking? Wish you could get into their heads to know what they’re actually looking for so you can tailor your pitch “just so?”
Here’s your chance. Twitter provides a way to follow and communicate with many of the startup world’s top funders – and the social warmth it provides in being able to hear their insights and ask questions is terrific.
Larry Rubin posted a list of top VCs on Twitter. You can view his original post here. . Some of the VCs listed aren’t very active Twitterers, but many of them are. I’m also a bit baffled by the order of the list – it’s not sorted by # of followers, that’s for sure…
1. Guy Kawasaki, Garage Technology Ventures @guykawasaki
2. Fred Wilson, Union Square Ventures @fredwilson
3. David Hornik, August Capital @davidhornik
4. Brad Feld, Foundry Group @bfeld
5. Marc Andreesen, n/a @pmarcablog
6. Josh Kopelman, First Round Capital @joshk
7. Ed Sim, Dawntreader Ventures @edsim
8. Jeremy Liew, Lightspeed Ventures Partners @jeremysliew
9. Bill Gurley, Benchmark Capital @bgurley
10. Jeff Nolan, SAP Ventures @jeffnolan
11. Christopher Allen, Alacrity Ventures @ChristopherA
12. Seth Levine, Foundry Group @sether
13. Jeff Bussgang, Flybridge Capital Partners @bussgang
14. Mike Hirshland, Polaris Venture Partners @VCMike
15. Jeff Clavier, SoftTech VC @Jeff
16. Mendelson/Feld, Foundry Group @jasonmendelson @bfeld
17. Paul Kedrosky, Ventures West @pkedrosky
18. Jason Caplain, Southern Capitol Ventures @jcaplain
19. Nic Brisbourne, Esprit Capital Partners @brisbourne
20. Jason Mendelson, Foundry Group @jasonmendelson
21. Ryan McIntyre, Foundry Group @ryan_mcintyre
22. Howard Morgan, First Round Capital @HLMorgan
23. Raj Kapoor, Mayfield Fund @Rajil
24. Christine Herron, First Round Capital @christine
25. Fred Destin, Atlas Venture @fdestin
26. Saul Klein, Index Ventures @cape
27. Vineet Buch, BlueRun Ventures @VineetBuch
28. Andrew Parker, Union Square Ventures @andrewparker
29. Bijan Sabet, Spark Capital @bijan
30. Rob Finn, Edison Venture @robfinn
31. Marc Goldberg, Occam Capital @MarcGoldberg
32. Daniel Cohen, Israel Venture Partners @coheda
33. James Chen, CXO Ventures @cxo (not very active)
34. David Aronoff, Flybridge Capital Partners @dba
35. Max Bleyleben, Kennet Partners @mbleyleben
36. Jeremy Levine, Bessemer Venture Partners @jeremyl
37. Jason Ball, Qualcomm Ventures Europe @jasonball
38. Mark Peter Davis, DFJ Gotham Ventures @markpeterdavis
39. Rob Hayes, First Round Capital @robhayes
40. Michael Eisenberg, Benchmark Capital @mikeeisenberg
41. Chris Fralic, First Round Capital @chrisfralic
42. Sagi Rubin, Virgin Green Fund @sagirubin (not very active)
43. Richard Dale, Sigma Partners @rdale
44. John Ludwig, Ignition Partners @jhludwig
45. Dan Rua, Inflexion Partners @danrua
46. Steve Brotman, Silicon Alley Venture Partners @stevebrotman
47. Larry Cheng, Fidelity Ventures @larryvc
48. Martin Tobias, Ignition Partners @ministeroforder
49. Matt Winn, Chrysalis Ventures @mattwinn
50. Sarah Tavel, Bessemer Venture Partners @adventurista
51. Stewart Alsop, Alsop-Louie Partners @salsop
52. Rich Tong, Ignition Partners @richtong
53. George Zachary, Charles River Ventures @georgezachary
54. Rob Go, Spark Capital @robgo
55. Rachel Strate, EPIC Ventures @WasatchGirl
56. Sid Mohasseb, Tech Coast Angels @sidmohasseb
57. Mo Koyfman, Spark Capital @mokoyfman
58. Rob Day @cleantechvc
59. Marc Averitt, Okapi Venture Capital @OCVC
60. Michael Greeley, Flybridge Capital Partners @FlybridgeCap
61. Ted Driscoll, Claremont Creek Ventures @easydjr (not very active)
62. Santo Politi, Spark Capital @santopoliti
63. David Dufresne, Desjardins Venture Capital @DavidDufresne
64. Todd Klein, Legend Ventures @tdklein
65. Max Niederhofer, Atlas Venture @maxniederhofer
66. Vinit Nijhawan, Key Venture Partners @vinit44
67. Multiple Authors, Brightspark Ventures @MarkSkapinker @Sophiebspark @antman102
68. Rob Schultz, IllinoisVENTURES @crobtri
69. Ouriel Ohayon, Lightspeed Gemini Internet Lab @OurielOhayon
70. Brian Hirsch, Greenhill SAVP @hirschb
Who’s missing? Comment below and I’ll add to the list.
And, as always, you can follow us for startup tips, event updates and discounts @DealmakerMedia!
UPDATES – VC’s Who Were Missed on Larry’s List:
71. Kent Goldman, First Round Capital @kentgoldman
72. Larry Marcus, Walden Venture Capital @cyberlar
73. TechCoastAngles @techcoastangels
74. Bryce Roberts, OATV @bryce
75. Howard Lindzon, Knight’s Bridge Capital @howardlindzon
76. Sequoia Capital @Sequoia_Capital
77. True Ventures @trueventures
78. Founders Fund via Dave McClure @davemcclure
79. Mark Suster, GRP Partners (serial entrepreneur and go-to startup guy in LA) @msuster
Mark Suster, startup veteran and Partner at LA-based venture firm GRP Partners was on FOX News today talking about elevator pitches cocktail party pitches.
Essentially, Mark says you’re more likely to meet potential business partners and investors at networking events, so instead of feeling like the only pitching mound is a VC boardroom, be prepared to give a cocktail party pitch.
Similar to an elevator pitch, Mark outlined the following tips using a coffee company idea as an example… fitting since GRP was an early investor in Starbucks:
* Define the problem.
* Define the solution.
* Know the target market and be able to express the market opportunity.
* And….
* Energy and enthusiasm about your idea. If you don’t come off excited about the opportunity, how do you expect others to?
* Be human… Don’t hid behind buzz words and industry jargon. Being over technical can make a VC fear you’re over-compensating for something else (like a lack of solid business understanding).
* Say what you want… What’s your “ask?” Do you want introductions, investment dollars, advice? No one’s going to turn around and make offers to help you if they don’t know what you’re looking for (even in my experience, I can’t count the number of times I’ve had to say, “soooo… what do you want from me?”)
Eric Ries is the co-founder former CTO of IMVU, Entrepreneur in Residence at Kleiner Perkins, and author of the upcoming book, The Lean Startup (a methodology that helps startups learn and adapt faster than the competition). Below is an excerpt from a blog he posted today:
Some people, when they start to realize the power of using data to inform their decisions, become obsessed with optimization. I think this idea is particularly appealing to those of us from an engineering background. By reducing the decisions we have to make to a series of quantitative questions, we can avoid a lot of real-life messiness.
Unfortunately, most decisions that confront startups lack a definitive right answer. Sometimes an early negative result from an experiment is a harbinger of doom for that product, and means it should be abandoned. Other times, it’s just an indicator that further iteration is needed.
The only way to get good at these decisions is to practice making them, pay attention to what happens, compare it to what you thought would happen, and learn, learn, learn.
Bambi Francisco of Vator.tv interviewed one of Silicon Valley’s most respected and successful angel investors – Ron Conway. Check out the video and some highlights below:
- Ron is an investor in Facebook and Twitter, but uses neither. “I invest and add value, I don’t spend too much time using the services.”
- On the mobile sector: The iPhone will be generating tremendous revenue for app developers and Apple. This is a whole new economy fueled by a new set of entrepreneurs. iPhone alone is a multi-million dollar eco-system.
- “We try to rely on companies in the mobile space that don’t have to rely heavily on the carriers.”
- “Social gaming is a huge growth area.”
- “The future of the media industry is the innovation that’s happening in the web space today. WE are their future.”
- Invest in great teams: Ron “invests in the Entrepreneur first. Idea second.” When a founder starts a company, the idea will morph radically… he looks to the founder’s character and his chemistry with the entrepreneur – and the belief they CAN morph and grow their idea.
In talking to hundreds of startups each year, I know something like this is running through many first-time founders’ heads:
“Legal schmegal! I’ve got a company to build… I’m sure an all-nighter over the books is enough to clean them up before a VCs due diligence. I promised my co-founder he’ll be “fairly compensated” if we get acquired. So I’m good, right? I don’t need to spend my much-needed cash on a lawyer.”
Au Contraire, mes amis. You’re building a business. Working with a lawyer in your early stages can prevent a lot of sweat on your brow later down the road.
THE VALUE OF LOOPING IN A LAWYER:
Unsure about working with a lawyer when you’re first kicking off?
Here’s a few key reasons working with a lawyer can be incredibly valuable:
They help you get your share structure right and properly document it the way investors expect. Straight from the get-go. If you’ve ever had to go through a company re-structuring, or tried to clean up mistakes at the time of a financing or sale. it’s painful. Avoid it at all costs. A clean, well documented company makes for easy due diligence and faster (and less expensive!) deals.
They can help you make sure you actually own and continue to own the IP that makes your company work. Really good ones can help you develop licensing and partnering strategies you can use to get paid.
They have connections. Run away from any lawyer who promises to get you financed, but do look at firms to see who they’ve helped negotiate deals with. Is their Rolodex packed with potential investors or customers? Can they make a warm intro and get someone to focus on your business plan or get you candid feedback?
They can raise red flags and help you fix them up BEFORE the due diligence process.
STARTUP LEGAL ADVICE:
To help you out, I spoke with Ivan Gaviria, a partner at the Silicon Valley office of Gunderson Dettmer, a law firm that focuses primarily on entrepreneurs, emerging growth companies and venture capitalists. Now, Gunderson’s army isn’t your typical team of lawyers. We’ve worked with them on numerous occasions, and they are authentic, cool, business-savvy folks. They kind of people you want in your circle of real-life friends (not just your 500+ facebook friends).
Ivan laid out a number of tips and legal advice for startups. If you have further questions, let me know and I’ll be happy to connect you with Ivan or a member of his team.
TERM SHEET 101
Definition: A Term sheet is typically a non-binding commitment to do a deal based on the terms laid out in the term sheet.
Benefit: The deal isn’t binding until definitive agreements are signed, but the term sheet allows the parties to reach agreement on key deal points up front and (hopefully) makes for a more efficient and cost effective deal with lawyers working on fine points and not hashing out major business issues, says Ivan.
A Common Misconception About Valuation: Ivan says there’s a common misconception among startups that valuation is the most important item on the term sheet. The truth, he says, is that startups shouldn’t get too hung up on small differences in valuation and should focus on choosing the right partner. Especially in the early going, getting an active, engaged VC with domain expertise and with whom you have a good fit can make a huge difference in building a successful business and weathering the ups and downs that every start up will inevitably face.
What IS the Most Important Term? Don’t get bogged down with boilerplate terms such as registration rights that have little economic impact and are highly standardized. Focus on the liquidation preferences, says Ivan, and understand the fine print.
In the context of a venture financing, a “liquidation” is deemed to include a sale of the company (via merger or otherwise) or a sale of its assets, and the liquidation preferences govern how the proceeds of such a sale are distributed to the stockholders.
Do the preferred investors get their money back first – ahead of the common stock typically held by management? Twice their money? Three times? Do they get to take their money of the top and then participate in the distribution of the rest of the proceeds along with the common? When does an investor’s downside protection turn into a double dip? Seemingly minor tweaks in this section of the term sheet can have an enormous impact on how much a founder actually receives at the exit.
Ivan points out that with the current state of public capital markets, startups are finding more than ever that selling their company is the far more common path to liquidity than an IPO. That makes it all the more critical to understand and carefully negotiate liquidation preferences.
Many thanks to Ivan and the Gunderson Dettmer team. If you have questions or want to connect, let us know!
ABOUT GUNDERSON DETTMER: Gunderson Dettmer is a leading law firm for entrepreneurs, emerging growth companies and the venture capital firms that support them. With 125 lawyers in four offices – Silicon Valley, Boston, New York, and San Diego – we represent companies in every stage of development from incorporation through entry into public markets and beyond. We provide counsel on general corporate and securities law, mergers and acquisitions, venture capital services, intellectual property, strategic alliances, and tax matters. We combine our experience, industry relationships and expertise to provide practical, business-oriented advice tailored to the needs of the emerging growth company marketplace.
