Sell for half a billion and get nothing (2021) • Hacker News Board

Re: Sell for half a billion and get nothing (2021)

#241

Post by lpolovets » Tue, Mar 05, 2024, 3:21 PM UTC

I'll throw out a VC's perspective on liquidation prefs:

1) I think 1x is very fair and meant to protect investors from bad company behavior. If you didn't have 1x preference, this would be an easy way for an unscrupulous founder to cash out: raise $X for 20% of the company, no liquidation preference. The next day, sell the company and its assets ($X in cash) for, say, 0.9x. If there's no liquidation preference, the VC gets back 0.18x and the founder gets 0.72x, even though all that the founder did was sell the VC's cash at a discount the day after getting it.

2) >1x liquidation preferences are sometimes the founder's fault and sometimes the VC's fault. Sometimes it's an investor exploiting a position of leverage just to be more extractive. That sucks. But other times it's a founder intentionally exchanging worse terms for a higher/vanity valuation.

For example, let's say a founder raised a round at $500m, then the company didn't do as well as hoped, and now realistically the company is worth $250m. The founder wants to raise more to try to regain momentum.

A VC comes and says "ok, company is worth $250m, how about I put in $50m at a $250m valuation?"

Founder says "you know, I really don't want a down round. I think it would hurt morale, upset previous investors, be bad press, etc. What would it take for you to invest at a $500m+ valuation like last time?"

VC thinks and says "ok, how about $500m valuation, 3x liquidation preference?"

The founder can now pick between a $250m and a 1x pref, or $500m and a 3x pref. Many will pick #1, but many others will pick #2.

It's a rational VC offer -- if the company is worth $250m but wants to raise at $500m, then a liquidation preference can bridge that gap. The solution is kind of elegant, IMHO. But it can also lead to situations like the one described in the article above where a company has a good exit that gets swallowed up by the liquidation preference.

3) generally both sides have good lawyers (esp. at later stages of funding), so the liquidation preference decision is likely made knowingly.

Related to #3, if you're fundraising, please work with a good lawyer. There are a few firms that handle most tech startup financings, and they will have a much better understanding of terms and term benchmarks than everyone else. Gunderson, Goodwin, Cooley, Wilson Sonsini, and Latham Watkins are the firms I tend to see over and over.

Re: Sell for half a billion and get nothing (2021)

#242

Post by whiterknight » Tue, Mar 05, 2024, 3:23 PM UTC

koliber wrote: post #112

justinlloyd wrote: post #45

I am currently working with a start-up where the company is incapable of meeting its capex obligations. The founder raised a good amount of capital from investors a few years ago, and that provided a decent runway, but there's no traction, no KPIs, and whilst we've built some impressive technology, impressive technology does not bring in revenue. One of the problems (amongst many) is that the primary stakeholder has…

They are unlikely to show the full cap table. Consider asking for the most recent 409a valuation, the total shares outstanding, and the size and liquidation preference of the past rounds. That’s a smaller ask that will give you the most important info. Most likely you already know the answer. In a fantasy scenario, you could take the stock they’re offering and demand to have a more senior stake and a 5x liquidation p…

Why is cap table sensitive? When I look at a public company one of the most important things to know is how many shares there are.

Re: Sell for half a billion and get nothing (2021)

#243

Post by lukeschlather » Tue, Mar 05, 2024, 3:24 PM UTC

koliber wrote: post #112

justinlloyd wrote: post #45

I am currently working with a start-up where the company is incapable of meeting its capex obligations. The founder raised a good amount of capital from investors a few years ago, and that provided a decent runway, but there's no traction, no KPIs, and whilst we've built some impressive technology, impressive technology does not bring in revenue. One of the problems (amongst many) is that the primary stakeholder has…

They are unlikely to show the full cap table. Consider asking for the most recent 409a valuation, the total shares outstanding, and the size and liquidation preference of the past rounds. That’s a smaller ask that will give you the most important info. Most likely you already know the answer. In a fantasy scenario, you could take the stock they’re offering and demand to have a more senior stake and a 5x liquidation p…

They're likely asking for OP to forgive them $200k. Having the full cap table so you know it's a gift isn't a big ask, it's the bare minimum.

Re: Sell for half a billion and get nothing (2021)

#244

Post by renonce » Tue, Mar 05, 2024, 3:24 PM UTC

whiplash451 wrote: post #108

jv22222 wrote: post #62

> Lessons Learned: Build a Very Fundable Startup > Every founder should learn from this disastrous scenario the importance of building a very healthy, fundable startup. A healthy, vibrant startup draws more investors during fundraising. The competition gives founders the leverage to negotiate for more founder-friendly terms. Healthy startups get better valuations, better terms, and raise funds with much less effort.…

That's not super useful advice for founders who (really) need some investment from the get go. The lesson would rather be: don't raise so much at the seed stage. Google got started with a $100K grant. FanDuel raised $400M in four years [1] And it looks like one of the the FanDuel founders did it again [2] This is reckless and should be a massive red flag for new joiners. [1] https://en.wikipedia.org/wiki/FanDuel [2]…

> Founders and employees would be paid only if the acquisition exceeded $559M

I think the problem with the article is that it emphasized the absolute acquisition value and omitted the fact that the company raised $400M. Considering the amount they raised, $559M seems much more reasonable and not quite bad terms?

Re: Sell for half a billion and get nothing (2021)

#245

Post by robertlagrant » Tue, Mar 05, 2024, 3:31 PM UTC

lukeschlather wrote: post #240

vidarh wrote: post #225

Earlier quoted context omitted.

The last round was also 3 years prior, so the amortised yearly return was definitely not something their investors had any reason to cheer about. From their point of view this was a failed opportunity. People forget that VC funds also aren't great business for the partners without carry (you get a management fee that keeps the light on, but you make your profit largely from a proportion of returns of the fund above s…

The employees were sold a lie that their stock options were worth taking a lower salary. Every single developer effectively invested something resembling 10-30k and was totally wiped out, and if they worked there 3 years that's probably a quarter of their life savings. But the investor only demands a meager $200 million return on their $400 million investment before they recognize the workers' investments.

The employees chose to take that risk, knowing that options might not materialise. It's not guaranteed, and isn't advertised as such. If it is advertised as such, that's not the VC. That's the hiring manager.

Re: Sell for half a billion and get nothing (2021)

#246

Post by Alcatros552 » Tue, Mar 05, 2024, 3:34 PM UTC

this could have been easily solved by letting the investor know that this is happening and that they stop working for the startup immediately, this would have resulted in them pulling out the funding because nobody will put money in a company without the founders. You need to on the same level as the investors and lower your ethical and moral level to understand that for them this is a money game...

Re: Sell for half a billion and get nothing (2021)

#247

Post by hn_throwaway_99 » Tue, Mar 05, 2024, 3:36 PM UTC

whiterknight wrote: post #242

koliber wrote: post #112

Earlier quoted context omitted.

They are unlikely to show the full cap table. Consider asking for the most recent 409a valuation, the total shares outstanding, and the size and liquidation preference of the past rounds. That’s a smaller ask that will give you the most important info. Most likely you already know the answer. In a fantasy scenario, you could take the stock they’re offering and demand to have a more senior stake and a 5x liquidation p…

Why is cap table sensitive? When I look at a public company one of the most important things to know is how many shares there are.

The comment you replied to did say to request total shares outstanding.

The full cap table will show how much each individual investor owns, and there are valid reasons to want to keep that private.

Re: Sell for half a billion and get nothing (2021)

#248

Post by ramraj07 » Tue, Mar 05, 2024, 3:37 PM UTC

sb8244 wrote: post #199

jmward01 wrote: post #14

I have a friend that has given up on options. Even if he were to be #10 somewhere he would take any extra pay over any options. Stories like this show the wisdom of that. Are there really that many success stories for people other than for VCs and (maybe) founders out there anymore? Even if your options (eventually) get you 200k, how much did they cost you in years of lower pay. Even with a payout, considering intere…

I think it's worth it still. Depending a lot on the company: * Ask questions to founders if they raise on participating preferred (the worst). Don't take a job if they do or if they won't answer * Find a place with early exercise of options * Find a place with a healthy company culture. (I believe this correlates) I made a lot off of options, while having a good salary. I know others that did the same.

What does “raise on participating preferred” mean? How is it so hard for people like me who are good engineers to still not be at the bottom of all these terms lol.

Re: Sell for half a billion and get nothing (2021)

#249

Post by sb8244 » Tue, Mar 05, 2024, 3:50 PM UTC

ramraj07 wrote: post #248

sb8244 wrote: post #199

Earlier quoted context omitted.

I think it's worth it still. Depending a lot on the company: * Ask questions to founders if they raise on participating preferred (the worst). Don't take a job if they do or if they won't answer * Find a place with early exercise of options * Find a place with a healthy company culture. (I believe this correlates) I made a lot off of options, while having a good salary. I know others that did the same.

What does “raise on participating preferred” mean? How is it so hard for people like me who are good engineers to still not be at the bottom of all these terms lol.

I asked lots of questions to the founder of the company I was at. He was very nice in always answering me and helping me understand what's good / bad. I try to pass it on but I'm not sure how to proactively get the knowledge other than reading something like "All about VC fundraising" (fake post, I'm sure it exists) and hoping it's there.

Participating preferred = investor invests 50M on 1x participating preferred and company sells for 100M. The investor makes 50M + their % share of the company. Common stock makes % share of 50M.

They participate in the % sales ON TOP OF their preferred stocks liquidation preference (money in = money out before common stock value is considered)

Now here's where it gets nasty. 2x participating preferred = investor invests 50M and company sells for 100M. Investor makes 100M and common stock makes $0. Or if the company sold for 150M, investor makes 100M and participates in the % stock value from 50M.

It's a bit confusing, but the short is participating preferred is the absolute worst terms for common stock holders (founders included.)

Re: Sell for half a billion and get nothing (2021)

#250

Post by vidarh » Tue, Mar 05, 2024, 3:52 PM UTC

lukeschlather wrote: post #240

vidarh wrote: post #225

Earlier quoted context omitted.

The last round was also 3 years prior, so the amortised yearly return was definitely not something their investors had any reason to cheer about. From their point of view this was a failed opportunity. People forget that VC funds also aren't great business for the partners without carry (you get a management fee that keeps the light on, but you make your profit largely from a proportion of returns of the fund above s…

The employees were sold a lie that their stock options were worth taking a lower salary. Every single developer effectively invested something resembling 10-30k and was totally wiped out, and if they worked there 3 years that's probably a quarter of their life savings. But the investor only demands a meager $200 million return on their $400 million investment before they recognize the workers' investments.

Were they? Do you have inside info? I have done many startups, and in none apart from one did I accept a lower salary whether as regular staff or as a founder [EDIT: to be clear: after a funding round, as a full time employee; as a founder/co-founder I've of course done work for free on the side, but with according amount of stock]. In the one where I did, I forced in a clause in the investment agreement guaranteeing us a raise after the next round.

I know it can happen, and maybe it happened here. If so that's shitty, and people will have learnt a hard-earned lesson they shouldn't have to have had.

[Also in case anyone do face this argument: as a general rule don't unless you feel like a founder and your share holding gives you good reason to; e.g. even in one of the startups I got 7.5% of on joining I was paid above my previous salary - the one case mentioned above where I was "underpaid" for 6 months, I had 25% of the shares when the company was founded]

> But the investor only demands a meager $200 million return on their $400 million investment before they recognize the workers' investments.

"The investor" here are mostly VC funds that almost certainly lost money on the return they did get, as they in turn take investments on terms that leave them with a minority of the profit after clearing certain hurdles. Given the duration from the last round and the amount of the exit, it's highly unlikely that exit cleared the hurdle, and so this likely at best did nothing towards the VC fund managers profitability either. At best it will have offset even worse investments a little bit.

The investors putting money into those VC funds again, got some returns, but lower than they would have if they hadn't taken the risk in the first place and just put the money in an index fund. If you're going to account for lower salary as a loss, then the limited partners and the general partners in the VC fund also suffered a loss by not getting the return they would have if they didn't invest in this company.

That is the risk you take when you choose to make an investment - be it in cash, or labour. Don't take those risks if you're not prepared for them.

I'm all for lots more workers rights than most people on this site would have the stomach for. But this was not a successful company. This exit was a failure. There's no realistic scenario where staff would get much - if any - return from an exit on terms as bad as this one.