Dilution(blog.ycombinator.com)
blog.ycombinator.com
Dilution
https://blog.ycombinator.com/dilution/
125 comments
Am I the only one who cringes when entrepreneur uses the amount of raised money to introduce/describe himself?
"...during my career I have raised $100 million..."
Yeah? And how much value did you create?
"...during my career I have raised $100 million..."
Yeah? And how much value did you create?
As a former serial startup employee (I used to be young an optimistic) I cannot count the money I earned doing crunch and being underpaid ...
Because I have none of it.
Because I have none of it.
Great post, I love it!
I definitely have an opiniosn.
I've raised money, couldn't raise money, have had friends that couldn't, have ended up having friends slogging through to become millionaires without any vc, and even turned down rounds hoping to get more.
Now when I look back and think "how would I do this now?" I come to two conclusions.
1. If I want to own an idea as a business owner over the long term, then I don't care about investors. This is my Basecamp spidey sense and convictions. My happy path.
2. My idea is great, I need some money. However.... Nowadays I'm thinking along the lines of "long term (hopefully,, but I suspect that most people don't care bs long term"", which is not SV or wall st friendly. I am seriously looking at non-profit.
Uggggh!
I've been through #1 a gazillion times and now, since I have a family and a diff outlook on life, I'm looking longer term.
But, how does the 'family dude' perspective conflict with the Uber perspective?
Growth is the altar that we all kneel to. The Iron Throne. But, it doesn't have to be this way. Granted, we all have Maslow's needs and that varies based on a number of factors (geographic, personal, etc). But in the end, what is our purpose?
Are we here to sustain sexual harassment via star pupils at Uber so they that their 'CEO' can grow? (At the expense of human beings?)
What is the point of growth or even exponential growth? Money? Riches?
Look, I think YC is better than not and I think that we - we tech people - need to lead the way because we 'can'. Thumbs up on riches, algorithms, and technology. These are awesome progressive things!
But, seriously, after going thru the vc grinder, seeing the cap tables of founders and everyone else and then THEN (stupidly) agreeing to this inequity.. Well, the fault is obviously mine but there is is (a lot) of fault with these pump and dump startups.
I definitely have an opiniosn.
I've raised money, couldn't raise money, have had friends that couldn't, have ended up having friends slogging through to become millionaires without any vc, and even turned down rounds hoping to get more.
Now when I look back and think "how would I do this now?" I come to two conclusions.
1. If I want to own an idea as a business owner over the long term, then I don't care about investors. This is my Basecamp spidey sense and convictions. My happy path.
2. My idea is great, I need some money. However.... Nowadays I'm thinking along the lines of "long term (hopefully,, but I suspect that most people don't care bs long term"", which is not SV or wall st friendly. I am seriously looking at non-profit.
Uggggh!
I've been through #1 a gazillion times and now, since I have a family and a diff outlook on life, I'm looking longer term.
But, how does the 'family dude' perspective conflict with the Uber perspective?
Growth is the altar that we all kneel to. The Iron Throne. But, it doesn't have to be this way. Granted, we all have Maslow's needs and that varies based on a number of factors (geographic, personal, etc). But in the end, what is our purpose?
Are we here to sustain sexual harassment via star pupils at Uber so they that their 'CEO' can grow? (At the expense of human beings?)
What is the point of growth or even exponential growth? Money? Riches?
Look, I think YC is better than not and I think that we - we tech people - need to lead the way because we 'can'. Thumbs up on riches, algorithms, and technology. These are awesome progressive things!
But, seriously, after going thru the vc grinder, seeing the cap tables of founders and everyone else and then THEN (stupidly) agreeing to this inequity.. Well, the fault is obviously mine but there is is (a lot) of fault with these pump and dump startups.
Diluting founders' equity is the least important point. A messed up cap table can make your startup uninvestable. It hurts the whole company, not just you, the founder. Which is why you mostly see these deals peddled by VCs without a track record.
Even if you can't get a different deal you might want to pass. There's just no point. Unless all you want is a salary.
Even if you can't get a different deal you might want to pass. There's just no point. Unless all you want is a salary.
> Most founders' instincts seem to be to give too much equity to investors and not enough to employees.
Is this wrong? Investors don't receive anything for their capital but equity. Employees receive income, benefits, etc. that have to be factored into the equation.
Is this wrong? Investors don't receive anything for their capital but equity. Employees receive income, benefits, etc. that have to be factored into the equation.
I think this is saying that founders often underestimate the variance that employees bring to their company's success, and overestimate the variance that an investment round brings.
If you assume that employees are basically fungible and that $100K in salary will buy the same output regardless of who works for you and how motivated they are, then it makes sense to raise $10M rather than $2M, so you can hire 100 person-years of work rather than 20 person-years. VCs become the limiting factor.
If you assume that there are wide varieties in employee output that stem from a.) hiring the right employees b.) into the right roles and c.) compensating them so that they're incentivized to do their best, then it becomes absolutely critical to attract those employees and motivate them. It is unlikely that you will attract these types of employees for a $100K/year salary. It is far more likely that you will attract them with a percent or two of equity that could be worth several million dollars.
In my experience, the latter is a much closer description of reality than the former is.
From the entrepreneur's perspective, what investors or employees "deserve" is irrelevant, what matters is how much of an effect they have on the ability to deliver a good product to a big market. Early employees are in the trenches with you every day; the difference between high effort and low effort from them can make or break the company. Investors give you money and often advice/introductions, but you are one of many investments in their portfolio; they are not going to give you high effort.
If you assume that employees are basically fungible and that $100K in salary will buy the same output regardless of who works for you and how motivated they are, then it makes sense to raise $10M rather than $2M, so you can hire 100 person-years of work rather than 20 person-years. VCs become the limiting factor.
If you assume that there are wide varieties in employee output that stem from a.) hiring the right employees b.) into the right roles and c.) compensating them so that they're incentivized to do their best, then it becomes absolutely critical to attract those employees and motivate them. It is unlikely that you will attract these types of employees for a $100K/year salary. It is far more likely that you will attract them with a percent or two of equity that could be worth several million dollars.
In my experience, the latter is a much closer description of reality than the former is.
From the entrepreneur's perspective, what investors or employees "deserve" is irrelevant, what matters is how much of an effect they have on the ability to deliver a good product to a big market. Early employees are in the trenches with you every day; the difference between high effort and low effort from them can make or break the company. Investors give you money and often advice/introductions, but you are one of many investments in their portfolio; they are not going to give you high effort.
It's absolutely wrong! Employees are the ones who put in the work to actually build the company.
As you said, investors only put in capital (and sometimes advice and/or intros.) Employees work full-time on the company, oftentimes for below-market rates (what they could reasonably assume to make in salary + benefits at larger companies.)
A company at any size is far, far, far more likely to succeed or fail based on its employees than its investors.
As you said, investors only put in capital (and sometimes advice and/or intros.) Employees work full-time on the company, oftentimes for below-market rates (what they could reasonably assume to make in salary + benefits at larger companies.)
A company at any size is far, far, far more likely to succeed or fail based on its employees than its investors.
Employees also take more risk. Investors just lose money but employees lose years of their career if things go wrong.
Why would employees lose years of their career? While it's true that early work-ex in a company that eventually becomes Google is great to have, it's not exactly a black mark on your resume if you have worked in a company that didn't do well. You still got plenty of engineering experience.
I was at a failing startup during the .COM bubble. I lost my job in 2002 and was unemployed for almost a year due to the terrible job market back then. Definitely a very existential problem compared to the investors who either lost a small percentage of a large fortune or lost other people's money.
Sadly, four years of "heroic effort at failing startup" doesn't look as good on the resume as "worked at Google".
That experience is invaluable to anyone who can adapt and apply the learned mistakes to future work. Especially so if being applied to a startup environment. You have to be laser focused, gritty, willing fight 24/7/365 for years. This doesn't just apply to the founder/CEO it applies to anyone involved early stage, every day is just too mission critical and the entire team needs to be aware of the consequences. For the most part or most teams, you don't learn that at Google.
That's who i'd want on my team at least.
i've had the opportunity to hire a decent number of people at a couple of startups. i hope you can find comfort in the fact i disagree with you. :)
A lot of startups aren't even technically very advanced so the only thing you may have learned is to work 80 hours per week without complaining
Disagree - not saying that a failed startup is better than Google, but honestly there is a lot of appeal to hiring someone who took a shot on something less established. Both have their merits.
[deleted]
Depending on how the investors got their money it could translate into years of their careers as well.
"Investors just lose money but employees lose years "
Comparative value.
Most employees are fairly well paid, and don't 'lose years' unless they are working for free, or 'very cheap' which usually isn't the case.
Comparative value.
Most employees are fairly well paid, and don't 'lose years' unless they are working for free, or 'very cheap' which usually isn't the case.
How many two year sprints at 150% can you do during your career? One? Two? Three? Yeah you can totally do it again until you can't.
Burnout is a real thing.
Burnout is a real thing.
I've worked at a few startups, and with many more - and most of them did not require 150%. The two most successful were unicorns (networking, back in the day), and there we were barely past 100%. We worked mostly 9 to 5. Sometimes there was a push.
The extra bit past 100% is what you get equity for.
Moreover - it's definitely a choice on the part of the employee.
Software developers are generally in high demand, wages are high, and there's no reason to go '150%' unless you feel the 'total package' is right for you.
If service workers were required to put in 70 hours a week for 'no extra comp' then this would be a different story.
The extra bit past 100% is what you get equity for.
Moreover - it's definitely a choice on the part of the employee.
Software developers are generally in high demand, wages are high, and there's no reason to go '150%' unless you feel the 'total package' is right for you.
If service workers were required to put in 70 hours a week for 'no extra comp' then this would be a different story.
>Employees are the ones who put in the work to actually build the company.
Company and work that, in most cases, wouldn't exist without a capital investment.
Company and work that, in most cases, wouldn't exist without a capital investment.
I'd question that, actually. The vast majority of huge tech companies that you've heard of today - Microsoft, Apple, Google, Facebook, Amazon, EBay, AirBnB, Whatsapp, Snapchat, GitHub - managed to construct a working product without taking investment. Several others - DropBox, Stripe, Instagram, Slack - had only a relatively small seed or angel round before launching a product. Meanwhile the track record for companies that take a huge amount of investment before delivering a product - Theranos, Webvan, Go, Magic Leap, etc. - is pretty abysmal.
YC and several other top-tier VCs recommend that you keep the startup as small as possible, oftentimes just the founding team, until you've built a product that's popular enough that you're swamped with demand. Then you can go and raise working capital to fund expansion and fuel growth, but not before. It's not true that the company wouldn't exist without the capital investment, though - it's actually pretty critical that the company does exist before raising capital.
YC and several other top-tier VCs recommend that you keep the startup as small as possible, oftentimes just the founding team, until you've built a product that's popular enough that you're swamped with demand. Then you can go and raise working capital to fund expansion and fuel growth, but not before. It's not true that the company wouldn't exist without the capital investment, though - it's actually pretty critical that the company does exist before raising capital.
It may be the chicken or the egg, but, if you have some employee that can achieve something that others can't, he can go somewhere else and achieve the same. The money could be equally applied and it will not bring success. No money means failure but no employee means no chance of success, money or not.
You can bootstrap a company without VC investment. Good luck trying to build anything without hiring some people.
In the final calculation, employees are the ones who are toiling day-in and day-out for the company's well being – in a real way, the company's future depends on them more than the investors. It can be more valuable to have them invested long-term in the company's success, point for point, than an investor.
Another way to think about it is like this: if an investor told you tomorrow they'd no longer contribute to the company, versus your first engineer, which would be more damaging? The investor's money is already in the bank, whereas the engineer will cost time and money to replace, as well as disrupting the ongoing development.
Another way to think about it is like this: if an investor told you tomorrow they'd no longer contribute to the company, versus your first engineer, which would be more damaging? The investor's money is already in the bank, whereas the engineer will cost time and money to replace, as well as disrupting the ongoing development.
"It's more valuable to have them invested long-term in the company's success."
Why? A cash bonus of "If we meet this deadline you will receive $X" is going to increase my productivity much more than "you own 0.01% of an illiquid, unprofitable company". Startup equity is way too abstract for employees to affect their motivation. Peer pressure, mission, pride in work, cash bonuses / raises / promotions are infinitely more impactful.
Sure, the argument isn't that equity is the end-all to employee compensation. But early-stage startups often aren't able to to give (significant) cash bonuses, and more importantly, compensating an employee with equity means that 5 years down the line, you're more likely to have someone on the cap table that both contributed to past efforts that made the company successful and also cares about the company's future.
I think in practice this preference makes more sense when you consider that most of the (non capital based) value that early-stage investors can provide applies mostly to early-stage companies.
I think in practice this preference makes more sense when you consider that most of the (non capital based) value that early-stage investors can provide applies mostly to early-stage companies.
It's not about having equity now.
If you have a seed company that fails in two years then the equity equation is meaningless. However, if in two years things are going good, but it's not clear you are the next google then you really don't want to lose key employees and it's going to take more equity to keep them interested. On the other hand if in two years it looks like you will be the next google then getting more capital is easy and you really don't want to lose a key person.
If you have a seed company that fails in two years then the equity equation is meaningless. However, if in two years things are going good, but it's not clear you are the next google then you really don't want to lose key employees and it's going to take more equity to keep them interested. On the other hand if in two years it looks like you will be the next google then getting more capital is easy and you really don't want to lose a key person.
I'd argue the better analogy is "If you have a great idea, what's more important to get it to market: your first engineer or your first investor?"
The next is always going to be "well, do I have enough money to pay my engineer?" This is why the investor holds all the cards and therefore gets the best deal up front. Without that up-front money there is no eventual business.
The next is always going to be "well, do I have enough money to pay my engineer?" This is why the investor holds all the cards and therefore gets the best deal up front. Without that up-front money there is no eventual business.
That's not true.
You have the option to give that engineer a real slice of the cake instead of the misers share that's common. I've seen co-founders be labeled 'engineer #1' because they sat down 15 minutes after the first meeting where a company's founding was discussed.
Non technical founders can - and do - use investors money to try to limit the number of co-founders so they get a larger share themselves. Technical founders are less likely to do this to non-technical co-founders. (But it does happen.)
You have the option to give that engineer a real slice of the cake instead of the misers share that's common. I've seen co-founders be labeled 'engineer #1' because they sat down 15 minutes after the first meeting where a company's founding was discussed.
Non technical founders can - and do - use investors money to try to limit the number of co-founders so they get a larger share themselves. Technical founders are less likely to do this to non-technical co-founders. (But it does happen.)
> Technical founders are less likely to do this to non-technical co-founders. (But it does happen.)
Technical people are so great, aren't they! No bias here.
Technical people are so great, aren't they! No bias here.
It's not that they're 'so great' it's just that they are usually less business savvy and doing less 'jockeying for position'. They tend to not be in it for the money as much as they're in for the challenge which makes it relatively easy to take advantage of them. (Been there, done that, have several t-shirts to go with it and I promise it won't happen again but if I had known 20 years ago what I know now... never mind, hindsight is always perfect.)
My understanding is that employees will be paid less than what they could earn elsewhere, so need to be compensated with some upside for that shortfall.
If I were to cut your pay by $100k to join my company, would you say, ah OK but I am still receiving income & benefits, don't worry about it?
If you have to leave your 9-5 to work for my 10-"late" for the same salary, would you want something extra for that, even if it is just a high-EV lotto ticket?
Another argument, made in the article is that if you want to attract the best talent you need to make an attractive offer.
Otherwise why wouldn't the people you want just go work for Google or another startup, or start their own?
If I were to cut your pay by $100k to join my company, would you say, ah OK but I am still receiving income & benefits, don't worry about it?
If you have to leave your 9-5 to work for my 10-"late" for the same salary, would you want something extra for that, even if it is just a high-EV lotto ticket?
Another argument, made in the article is that if you want to attract the best talent you need to make an attractive offer.
Otherwise why wouldn't the people you want just go work for Google or another startup, or start their own?
Employees take a risk. First, they don't have to work for your startup. They could go to work for BigCo and have a secure paycheck. Second, they get options for common stock which vest over years. Generally that first year is at will.
> Remember that raising money is not success. Raising huge amounts of money early on is very rarely how companies win (though it is sometimes how companies lose)
I honestly think one of the reasons the company I worked for was successful was our inability to raise money while we were young, which forced a real discipline and creativity for how to do more with less. It also made us skeptical of investors and ensured we didn't base our internal feelings about the company based on what a bunch of incredibly fickle investors thought. This was important both when investors hated us, and perhaps more important when they switched and loved us.
And to the second point, I saw first hand how easy money made one of our competitors so cocky they had no chance of success, and another one got too much money and got distracted spending it all to actually make a core business that made sense.
Money is necessary and important, but having too much of it is also a risk that you need to take seriously.
I honestly think one of the reasons the company I worked for was successful was our inability to raise money while we were young, which forced a real discipline and creativity for how to do more with less. It also made us skeptical of investors and ensured we didn't base our internal feelings about the company based on what a bunch of incredibly fickle investors thought. This was important both when investors hated us, and perhaps more important when they switched and loved us.
And to the second point, I saw first hand how easy money made one of our competitors so cocky they had no chance of success, and another one got too much money and got distracted spending it all to actually make a core business that made sense.
Money is necessary and important, but having too much of it is also a risk that you need to take seriously.
Counterpoint: if you're running out of money, the next investor you try to raise from is going to be tough to negotiate with. If you have years of runway left, you're in control when talking to investors, when you have 6 months, they're in control. Another point is that when everything comes down crashing, as it did in 2008, and you can't raise money anywhere nor, in many cases, make a profit in the near future since demand for everything also crashes, then if you've squirreled away enough money, you don't have to fire anyone, nor close shop.
This is not to say that too much money can't cause the problems you mentioned. The cure is to keep the money in the bank and not spend it.
All of the above is what my employer did, not my own personal idea. (Also no VCs, these gut the company if it's neither public nor profitable in 5 years, or at least they used to.)
This is not to say that too much money can't cause the problems you mentioned. The cure is to keep the money in the bank and not spend it.
All of the above is what my employer did, not my own personal idea. (Also no VCs, these gut the company if it's neither public nor profitable in 5 years, or at least they used to.)
If you're hemorrhaging money, they're going to be in control regardless of your actual burn rate. Even with years a runway if you're losing money month over month and your runway only gets you 90% to profitability, it doesn't matter if that 90% happens in 2 months or 2 years, it's still going to happen without cash or a change at the company.
> it doesn't matter if that 90% happens in 2 months or 2 years.
It does. If you must sell your house this week you'll get a lower price than if you can afford to wait for a year for the most eager buyer who's in love with the place. The effect is more pronounced with selling stock in a private company which is much, much harder to price than a house.
> it's still going to happen without cash or a change at the company.
It depends on why you lose money. If you lose money because you acquire many users and lose money on every user, you need to "change" the company in the sense of finding a way to make money on every user, enough to cover your more or less fixed expenses and then some. If you lose money because you're building a product and haven't reached mass production either because it takes a lot of time to ramp up production or because it takes time for demand to show up, say for regulatory reasons, then the "change" is simply getting to mass production. In the latter case, having more money is (in a way) getting you closer to that welcome "change" than in the former.
It does. If you must sell your house this week you'll get a lower price than if you can afford to wait for a year for the most eager buyer who's in love with the place. The effect is more pronounced with selling stock in a private company which is much, much harder to price than a house.
> it's still going to happen without cash or a change at the company.
It depends on why you lose money. If you lose money because you acquire many users and lose money on every user, you need to "change" the company in the sense of finding a way to make money on every user, enough to cover your more or less fixed expenses and then some. If you lose money because you're building a product and haven't reached mass production either because it takes a lot of time to ramp up production or because it takes time for demand to show up, say for regulatory reasons, then the "change" is simply getting to mass production. In the latter case, having more money is (in a way) getting you closer to that welcome "change" than in the former.
I like your idea (actually i practice it), but your investors aren't putting a lot of money in your hands so you keep it at the bank to them, right? They could do that for themselves.
By experience you don't need years on cash to survive in the long run, discipline and a business that makes sense is way more powerful.
But off course, months of runaway is necessary. More than that is luxury.
By experience you don't need years on cash to survive in the long run, discipline and a business that makes sense is way more powerful.
But off course, months of runaway is necessary. More than that is luxury.
Investors put money in the craziest places, surely there's a public story stock right now that you think is inflated beyond belief and yet it trades at the price it does. It follows that investors will do crazier things than give you money to keep in the bank if you persuade them.
You tell them point blank, "we're hoping to make it big this year, but we aren't taking any risks and we're gonna keep enough cash in the bank for the 3 next years. If you don't like this plan, fine, you're missing a chance to buy a stock that's gonna shoot up 10x and here's why", and they buy your pitch, they're gonna beg you to take their money.
I'm not saying I can do this, I'm saying people exist who can, and there are markets where things are measured in years, and so you might want more runway because your progress is way slower than that of a YC-backed Internet monopoly wannabe.
By the way, MIPS Technologies was killed by genius investors who said "give us your $100+ million in cash or invest it" and a genius CEO who said "fine, you ain't gettin' nothin', I'm buying Chip Idea." It turned out that they didn't know how to run Chip Idea and ran it into the ground, and now they had neither money in the bank nor anything to show for it. This drove the company value down so much that Imagination bought it for $60 million (the patents were sold to a big CPU cartel for another $500 million, perhaps unfortunately as genius investors did not get quite the punishment they needed to learn anything.)
A CEO capable of persuading the board of directors to keep the money in the bank would have done better.
You tell them point blank, "we're hoping to make it big this year, but we aren't taking any risks and we're gonna keep enough cash in the bank for the 3 next years. If you don't like this plan, fine, you're missing a chance to buy a stock that's gonna shoot up 10x and here's why", and they buy your pitch, they're gonna beg you to take their money.
I'm not saying I can do this, I'm saying people exist who can, and there are markets where things are measured in years, and so you might want more runway because your progress is way slower than that of a YC-backed Internet monopoly wannabe.
By the way, MIPS Technologies was killed by genius investors who said "give us your $100+ million in cash or invest it" and a genius CEO who said "fine, you ain't gettin' nothin', I'm buying Chip Idea." It turned out that they didn't know how to run Chip Idea and ran it into the ground, and now they had neither money in the bank nor anything to show for it. This drove the company value down so much that Imagination bought it for $60 million (the patents were sold to a big CPU cartel for another $500 million, perhaps unfortunately as genius investors did not get quite the punishment they needed to learn anything.)
A CEO capable of persuading the board of directors to keep the money in the bank would have done better.
>you're missing a chance to buy a stock that's gonna shoot up 10x and here's why
that's not a positive pitch. The message sticks, whether you try to negate it or not, if resonating with expectation.
that's not a positive pitch. The message sticks, whether you try to negate it or not, if resonating with expectation.
Agree, I saw a startup where I worked go down because of too much money.
They had a very good seed round and raised $2M. They used this to develop their first product, which did really well. After 2 years we had 50 employees and were breaking even, sometimes even a bit profitable, so we had even some extra in the bank. Obviously such numbers drove investors crazy, and they went to the highest amount they could raise without selling most of the company. So they raised about $20M.
After a few months our product (and our income) started to dwindle (competitors were upping up their game, different platforms became relevant,...), but the founders were very chill about it - I guess because we had enough cash in the bank to run the business for years without firing anyone. But after a year of so the investors started to panic - no wonder since our revenue numbers were in freefall. After another year or so the founders were forced to sell the company for small change compared to what it was valued at its peak.
They had a very good seed round and raised $2M. They used this to develop their first product, which did really well. After 2 years we had 50 employees and were breaking even, sometimes even a bit profitable, so we had even some extra in the bank. Obviously such numbers drove investors crazy, and they went to the highest amount they could raise without selling most of the company. So they raised about $20M.
After a few months our product (and our income) started to dwindle (competitors were upping up their game, different platforms became relevant,...), but the founders were very chill about it - I guess because we had enough cash in the bank to run the business for years without firing anyone. But after a year of so the investors started to panic - no wonder since our revenue numbers were in freefall. After another year or so the founders were forced to sell the company for small change compared to what it was valued at its peak.
This is the part I don't understand and am going through now. You raise a ton and get good at spending or you raise minimum and constantly bridge every time growth doesn't match plan, buying time to catch up or tweak.
Why don't investors offer terms that have steps with growth KPIs (ones you can't spend your way to) that give you more money automatically if you make the metrics? As a company you don't have to constantly raise or bridge but you also can't go drop 5M on new offices. You have all the money and runaway you need as long as you hit the milestones. The investors still have all the same upside but less exposure.
I must be missing something I guess. It would solve issue we have at the startup I'm at now though.
Why don't investors offer terms that have steps with growth KPIs (ones you can't spend your way to) that give you more money automatically if you make the metrics? As a company you don't have to constantly raise or bridge but you also can't go drop 5M on new offices. You have all the money and runaway you need as long as you hit the milestones. The investors still have all the same upside but less exposure.
I must be missing something I guess. It would solve issue we have at the startup I'm at now though.
Indeed a class of investors does exactly this - they provide unlimited but conditional money, set strict KPIs, embed their own people to steer the efforts in the desired direction, and generally take a hands-on role until they exit in 3-5 years. This investor class is "Private Equity" guys and girls, and they are 10-50 times larger than most VCs we talk about (on headcount, funds raised, investment sizes, reach etc).
I think it might be a matter of scale: VCs are tiny and they don't have the resources to take such an active role. Even the crazy successful legends like Accel/Sequoia/Benchmark/A16Z/USV/etc employ fewer people than an average company they invest into ~every month.
I think it might be a matter of scale: VCs are tiny and they don't have the resources to take such an active role. Even the crazy successful legends like Accel/Sequoia/Benchmark/A16Z/USV/etc employ fewer people than an average company they invest into ~every month.
Yep. Think KKR, Apollo, Blackstone, Ares Management. They get after it :)
Yes, I don't understand the whole investor hype.
I mean, I do contract work with startups and get paid with investor money all the time, so it's good for me.
But I think most investors are a liability.
First you have to make your employees and your customers happy and now you also have to make investors happy? How shoult this be a good thing?
It's hard enough to build products for users I can't directly interact with, why should this equation get another variable :\
I mean, I do contract work with startups and get paid with investor money all the time, so it's good for me.
But I think most investors are a liability.
First you have to make your employees and your customers happy and now you also have to make investors happy? How shoult this be a good thing?
It's hard enough to build products for users I can't directly interact with, why should this equation get another variable :\
Maybe one thing lead to another. By making your customers and employees happy, you make your investors happy.
The money makes sense when you need to scale fast. Specially in the development stage, when you don't make a dime yet.
With the advance of the internet marketing, it's don't make much sense, as you put.
Investors should be moving their money from internet, i think, to AI, Space, Augmented reality and so on. They should fund stuff that is really risky. Turns up ... internet is not risky anymore.
The money makes sense when you need to scale fast. Specially in the development stage, when you don't make a dime yet.
With the advance of the internet marketing, it's don't make much sense, as you put.
Investors should be moving their money from internet, i think, to AI, Space, Augmented reality and so on. They should fund stuff that is really risky. Turns up ... internet is not risky anymore.
> With the advance of the internet marketing,
This is a myth. I've just parted ways with a second company in a row that had to discover for themselves that 'internet marketing' wouldn't magically solve their top-of-the-funnel problem.
This is a myth. I've just parted ways with a second company in a row that had to discover for themselves that 'internet marketing' wouldn't magically solve their top-of-the-funnel problem.
Unless you are independently wealthy or building something that can truly be bootstrapped (no expensive R&D, for example), investors are a necessary constant.
In other words, companies are taking investment later and later in their lifespan so founders need to be sure thy have some left many years and many rounds after they started. Capital is dirt cheap and desperate for return - and only getting cheaper.
"How do I spend this money?"
If you're asking yourself this question, you're not focusing on building your business. How to spend it becomes a distraction.
The converse also happens: for any business problem the easiest solution is to spend money. Leads? Leadgen firm. Hiring? Recruiters. Code? Outsource, or contract out. Testing? you get the picture.
Throwing money at a problem is a short term fix but fails to build competence at doing that thing. The lack of experience weakens your company in the long term. It's organizational muscle that didn't get exercised. It atrophies over time.
This might make sense for certain areas, but having too much money on hand makes it very tempting to solve all problems with this one hammer.
If you're asking yourself this question, you're not focusing on building your business. How to spend it becomes a distraction.
The converse also happens: for any business problem the easiest solution is to spend money. Leads? Leadgen firm. Hiring? Recruiters. Code? Outsource, or contract out. Testing? you get the picture.
Throwing money at a problem is a short term fix but fails to build competence at doing that thing. The lack of experience weakens your company in the long term. It's organizational muscle that didn't get exercised. It atrophies over time.
This might make sense for certain areas, but having too much money on hand makes it very tempting to solve all problems with this one hammer.
I think something needs to be said about context. Some ventures will be more successful by raising more / diluting more, while others the cash will just hurt. Some examples: hardware plays versus an AI startup.
In every VC pitch I've made in the past 5 years, they have all offered more money than needed/requested.
Maybe I over-corrected by choosing to bootstrap, but you can never own too much of your own company.
In the VC's defense, their funds are increasing at a rate disproportionate to the number of partners available to manage the investments.
VCs simply cannot focus on 100 $1M investments with 5 partners.
Maybe I over-corrected by choosing to bootstrap, but you can never own too much of your own company.
In the VC's defense, their funds are increasing at a rate disproportionate to the number of partners available to manage the investments.
VCs simply cannot focus on 100 $1M investments with 5 partners.
Do I understand correctly that every time you have pitched VCs in the past 5 years they wanted to give you money? If pitched to many VCs over the years and never been offered investment. The rest of you make it sound so easy
Sorry, didn't mean to trivialize the process.
More literally, for the all VC conversations that got past due diligence, the negotiations simply fizzled out.
Dilution was only one of many factors. It is a very hard and grueling process.
More literally, for the all VC conversations that got past due diligence, the negotiations simply fizzled out.
Dilution was only one of many factors. It is a very hard and grueling process.
There is a 100% chance that they did not get money/term sheets from 100% of VCs that they pitched.
Don't feel bad, raising money is really fucking hard, stressful, random, and involves a lot of luck.
Don't feel bad, raising money is really fucking hard, stressful, random, and involves a lot of luck.
Caveat: I'm a seed stage VC, so obviously I have a horse in this race.
I don't agree with this advice. Well, in theory, I strongly agree that avoiding excessive dilution is ideal. But the suggested numbers (10% dilution for a seed round) feel very unrealistic to me. It's very hard to get far on that kind of money for a seed stage company. If anything, the proliferation of bridge rounds and seed extensions and series of convertible notes show that even after raising seed rounds, many companies need more capital to get to a series A.
It's also interesting to note that the 10% figure is coming from YC, which takes 7%. That's a considerable amount of dilution, too (and very worth it, IMO).
Finally, I've never been a founder, but I imagine if a company becomes enormous, I'd care less about whether my net worth was $200m or $250m as a founder. So the dilution seems less important than having enough capital for a successful outcome. I'd rather have 60% of a small exit than 80% of a $0 exit.
I do believe in constraints and good cash management, so regardless of how much founders raise, they should be conservative with spend until they have strong product market fit.
I don't agree with this advice. Well, in theory, I strongly agree that avoiding excessive dilution is ideal. But the suggested numbers (10% dilution for a seed round) feel very unrealistic to me. It's very hard to get far on that kind of money for a seed stage company. If anything, the proliferation of bridge rounds and seed extensions and series of convertible notes show that even after raising seed rounds, many companies need more capital to get to a series A.
It's also interesting to note that the 10% figure is coming from YC, which takes 7%. That's a considerable amount of dilution, too (and very worth it, IMO).
Finally, I've never been a founder, but I imagine if a company becomes enormous, I'd care less about whether my net worth was $200m or $250m as a founder. So the dilution seems less important than having enough capital for a successful outcome. I'd rather have 60% of a small exit than 80% of a $0 exit.
I do believe in constraints and good cash management, so regardless of how much founders raise, they should be conservative with spend until they have strong product market fit.
> I imagine if a company becomes enormous, I'd care less about whether my net worth was $200m or $250m as a founder
As an ex-founder I never understood why people make this argument because it's completely symmetric. I.e. I could rephrase it as "I imagine if a company becomes enormous, I'd care less whether my outcome was $200m or $250m as a VC"
I agree with the advice in the article but would phrase it slightly differently -- work hard to structure your company such that you can get away with raising as much as you need and still give away only 10%-15% each round. (Or, yet another way to put it, build a company so successful that you can dictate the terms)
As an ex-founder I never understood why people make this argument because it's completely symmetric. I.e. I could rephrase it as "I imagine if a company becomes enormous, I'd care less whether my outcome was $200m or $250m as a VC"
I agree with the advice in the article but would phrase it slightly differently -- work hard to structure your company such that you can get away with raising as much as you need and still give away only 10%-15% each round. (Or, yet another way to put it, build a company so successful that you can dictate the terms)
People do make that symmetric argument, actually :). A lot of people in the ecosystem, both founders and VCs, will say things like "investors shouldn't be price sensitive, because if you've found the next Uber, it doesn't matter if you get in at a $10m cap or a $15m cap."
What is your response to that argument?
To be completely honest, I don't really view things from that frame. I think more about 1) how much does this company need to execute on their plans? and 2) what would a fair valuation be given their current progress and market comps? If that's 10% dilution then that's fine. If that's 25-30% dilution that's also fine -- but more dilution would be scary. Usually it's 20-25% dilution -- e.g. a fair pre-valuation might be $6m, and the company wants to raise $1.5m or $2m for 18 months to do X, Y, and Z.
If the valuation feels unreasonably high then I'll try to negotiate, or I'll just pass. If the valuation is low and results in too much dilution, then I'll try to figure out with the founder if they can make progress with less money/dilution, or I'll just pass -- because overdiluting sucks for the founder and will also eventually suck for me as an investor by capping the upside.
I think this framing works for the founder, too: if you need $X for your near term plans, and you're getting a fair valuation that doesn't overdilute you, then that's good. If the valuation is unfairly low, try to find other options. If it's unreasonably high, then that's okay if you are good with cash management -- but be mindful that the higher your current valuation, the higher investors' expectations will be for your next round.
If the valuation feels unreasonably high then I'll try to negotiate, or I'll just pass. If the valuation is low and results in too much dilution, then I'll try to figure out with the founder if they can make progress with less money/dilution, or I'll just pass -- because overdiluting sucks for the founder and will also eventually suck for me as an investor by capping the upside.
I think this framing works for the founder, too: if you need $X for your near term plans, and you're getting a fair valuation that doesn't overdilute you, then that's good. If the valuation is unfairly low, try to find other options. If it's unreasonably high, then that's okay if you are good with cash management -- but be mindful that the higher your current valuation, the higher investors' expectations will be for your next round.
If you've found the next Uber, that's exactly when it matters.
I agree. Ironically, this was the advice we got while going through YC (yours, not Sam's.)
Specifically: don't worry about valuation because success is binary. You either make enough money that you don't care too much about percentage or you make zero dollars in which case you don't care about percentage.
The idea of constraints helping to focus a team sounds true, as long as people have enough to not worry about money. Note that this advice comes from Sam, who literally got scurvy from eating too much Ramen while a founder of Loopt.
Specifically: don't worry about valuation because success is binary. You either make enough money that you don't care too much about percentage or you make zero dollars in which case you don't care about percentage.
The idea of constraints helping to focus a team sounds true, as long as people have enough to not worry about money. Note that this advice comes from Sam, who literally got scurvy from eating too much Ramen while a founder of Loopt.
Does anyone else find this binary view of success to be... sad? I guess you could say that if your goal isn't "Uber or bust" then don't take external capital. Is there really no funding available for companies that just want to make relatively safe, modest bets and deliver relatively safe, modest returns?
You don't have to do Uber or bust, but don't ask for venture money without going for venture returns.
I do agree that there is a market opportunity to fund $50m/year businesses, but that's not what VCs are for.
VCs: Invest in 100 companies, 90 fail, 5 return capital, 3 return 10x, 2 return 100x | 2.35x return on capital over a 10 year period (hopefully)
Index fund: 6% yearly return | 1.79x return on capital over 10 year period
Traditional small business loans average 6-9% APR and have a higher failure rate than an index fund but lower than an index fund. Unfortunately, for startups, they require collateral and/or historical financials.
I do agree that there is a market opportunity to fund $50m/year businesses, but that's not what VCs are for.
VCs: Invest in 100 companies, 90 fail, 5 return capital, 3 return 10x, 2 return 100x | 2.35x return on capital over a 10 year period (hopefully)
Index fund: 6% yearly return | 1.79x return on capital over 10 year period
Traditional small business loans average 6-9% APR and have a higher failure rate than an index fund but lower than an index fund. Unfortunately, for startups, they require collateral and/or historical financials.
I never understood this logic. Investors want unicorns but it's not like they're going to hate you for only giving them a 5x ROI.
Most startups either fail or become small businesses. Investors are giving you money to fund a business that you own. Depending on the terms you can, and should, use that money for whatever you want.
Its the investors problem if 5x returns aren't good enough, not yours. Does the bank call you to complain that your mortgage interest rate is too low? No. They gave you the loan with what they thought was reasonable terms at the time. It's not your fault they gave you the money too easily.
You should be focused 100% on building a successful sustainable business. Investors can fuck right off if they push for risks that could turn their 5x return into 0.
Most startups either fail or become small businesses. Investors are giving you money to fund a business that you own. Depending on the terms you can, and should, use that money for whatever you want.
Its the investors problem if 5x returns aren't good enough, not yours. Does the bank call you to complain that your mortgage interest rate is too low? No. They gave you the loan with what they thought was reasonable terms at the time. It's not your fault they gave you the money too easily.
You should be focused 100% on building a successful sustainable business. Investors can fuck right off if they push for risks that could turn their 5x return into 0.
VCs can't reasonably invest in a company where their upside is capped at a 5x return, because they need the long tail, 20x-100x returns to pay for all the 0x returns in the portfolio.
No, a VC doesn't hate you at the end of the game if they get paid 5x. That's different than answering the question "Will they invest for a promise of a 5x return?"
No, a VC doesn't hate you at the end of the game if they get paid 5x. That's different than answering the question "Will they invest for a promise of a 5x return?"
That requires that you have board control. If investors control the board and you tell them to fuck right off, you will quickly find yourself out of a job.
Board control isn't the problem at seed. You'll usually have board control. But if you need another round of funding, the investors control the company.
If your seed investors are "name brand", and they pass and say, "Ah yes, they're very nice guys. Wonderful conscience, very punctual. Unfortunately I can't follow on, my capital's already allocated. I wish them luck.", you'd better have a plan for profitability.
If your seed investors are "name brand", and they pass and say, "Ah yes, they're very nice guys. Wonderful conscience, very punctual. Unfortunately I can't follow on, my capital's already allocated. I wish them luck.", you'd better have a plan for profitability.
1) There are some new funds popping up, like indie.vc, which don't subscribe to the "Uber or bust" model. Some accelerators, like 500 Startups, are also in that camp.
2) If you can bootstrap to enough revenue, you can try bank loans or things like http://www.saas-capital.com/
3) Unfortunately, the numbers don't work out for VCs if your goal isn't "$1b+ or bust." Almost all companies will exit for much, much less than $1b, but if there's no chance of $1b+ then there's basically no chance that a company will product very meaningful returns for its investors.
2) If you can bootstrap to enough revenue, you can try bank loans or things like http://www.saas-capital.com/
3) Unfortunately, the numbers don't work out for VCs if your goal isn't "$1b+ or bust." Almost all companies will exit for much, much less than $1b, but if there's no chance of $1b+ then there's basically no chance that a company will product very meaningful returns for its investors.
I don't understand 3)
From the VC's point of view how is a 5% chance of a $200m exit different from a 1% chance of a $1b exit? (etc.)
From the VC's point of view how is a 5% chance of a $200m exit different from a 1% chance of a $1b exit? (etc.)
Assuming that those numbers are known precisely, the 5%/$200M is clearly the better option. But in practice it's basically impossible to distinguish a 1% success rate business from a 5% success rate business. On the other hand, it's pretty doable to estimate best-case outcomes based on the size of the market being addressed and some assumptions about margins and market share derived from the business model.
There's little difference between those, but usually what VCs are comparing are things that are more like 2% chance at $1b vs 2% chance at $200m -- and then there's a big difference.
Also, if one company is a 5% chance chance at $200m but 0% chance of being worth more than that, while another company is a 1% chance of $1b, the second company might still be a better investment because it's probably 1% chance of $1b AND a 5% chance of $200m if it doesn't go all the way to $1b.
Also, if one company is a 5% chance chance at $200m but 0% chance of being worth more than that, while another company is a 1% chance of $1b, the second company might still be a better investment because it's probably 1% chance of $1b AND a 5% chance of $200m if it doesn't go all the way to $1b.
Sad, yes, but that's the world we live in. There's really no such thing as a "safe, modest bet" - that lifestyle business that provides you a good living now will cease to provide you a good living soon after a big competitor decides to move into your space. Similarly, even working for the big competitor isn't all that safe: you could be laid off because your manager doesn't like you, or because your manager's manager doesn't like your manager, or because product priorities shifted around, or because you're suddenly the scapegoat for your company's sexual harassment culture, or because your company hit a revenue speedbump, or simply because shareholders & upper management get greedy.
Binary success ultimately comes from the customer: from their perspective, either the product satisfies their need or it doesn't. As soon as some other product satisfies their need better, they'll switch. And since customers talk to one another and largely like the same things, they tend to do so en-masse, and even $multi-billion giants can find their market evaporates in the span of a couple years.
Binary success ultimately comes from the customer: from their perspective, either the product satisfies their need or it doesn't. As soon as some other product satisfies their need better, they'll switch. And since customers talk to one another and largely like the same things, they tend to do so en-masse, and even $multi-billion giants can find their market evaporates in the span of a couple years.
Lighter Capital will give growth capital to tech companies without expecting 10x returns or taking any equity.
I will never take startup advice from investors. They care about your company and their money, not you.
Of course they're going to tell you not to worry about giving more of the company away, they don't care who owns it. More money flying around is almost invariably a good thing for early investors.
You don't really need advice about funding from anyone, just look at some successful companies and see what they did. Funding is one of the few aspects where you can mimic your startup idols because it's public info.
The fact is, all the biggest unicorns had enough promise and brains behind them to retain majority ownership, or at least full control well into billion dollar territory. If you're good enough investors will be practically begging to give you their money.
Yeah, so fuck the advice from investors. Make sure you keep as much ownership and control over your company as possible until it's sending people to the moon.
Of course they're going to tell you not to worry about giving more of the company away, they don't care who owns it. More money flying around is almost invariably a good thing for early investors.
You don't really need advice about funding from anyone, just look at some successful companies and see what they did. Funding is one of the few aspects where you can mimic your startup idols because it's public info.
The fact is, all the biggest unicorns had enough promise and brains behind them to retain majority ownership, or at least full control well into billion dollar territory. If you're good enough investors will be practically begging to give you their money.
Yeah, so fuck the advice from investors. Make sure you keep as much ownership and control over your company as possible until it's sending people to the moon.
> You don't really need advice about funding from anyone, just look at some successful companies and see what they did. Funding is one of the few aspects where you can mimic your startup idols because it's public info.
Survivorship bias, anyone? You can look backwards at all the success stories. That tells less than 1% of the story, though. What about all the failed companies that did the same thing as the successes? What about all the factors that were irrelevant to success, yet apparent in the success stories?
> The fact is, all the biggest unicorns had enough promise and brains behind them to retain majority ownership
Isn't that pretty close to saying, "All the successful unicorns had apparent qualities of successful unicorns along the way"? How do I become tall? Ensure the top of your head is far away from your feet.
Survivorship bias, anyone? You can look backwards at all the success stories. That tells less than 1% of the story, though. What about all the failed companies that did the same thing as the successes? What about all the factors that were irrelevant to success, yet apparent in the success stories?
> The fact is, all the biggest unicorns had enough promise and brains behind them to retain majority ownership
Isn't that pretty close to saying, "All the successful unicorns had apparent qualities of successful unicorns along the way"? How do I become tall? Ensure the top of your head is far away from your feet.
One big problem with dilution isn't that you make less money but that you lose control of the company. And poor decisions by investors are a good contender for the #1 thing killing companies. For a VC this is yet another bet which they don't quite understand or care about, compared to a founder for whom it's the bet, and they understand it and care about it much more. Founders being in control is better than VCs being in control.
We are VC/early stage investors in New Zealand, and give the advice constantly to raise as little as possible at each stage - and plan to get back to cash-flow positive if another round does not turn up. It's a function of our lean investor ecosystem here, but it also creates companies that treasure every dollar and are even more attractive for investors.
I think that's a great mindset to have and to encourage. My main argument is that "as little as possible" -- especially in Silicon Valley -- is usually much closer to 20% than 10% dilution at seed. E.g. an FTE salary might be $125k-150k/yr, and selling 10% at a $5m cap gives you enough capital for 3-4 people for a year, which is a very small team and very little time to make enough progress to raise a Series A.
Sure. Our overheads are a lot lower here - free healthcare, Xero for accounting and a simple tax system makes things easy, low rent, reasonable salaries (but a better standard of living) and so on.
And no capital gains tax.
(Hey Leo)
I agree, this is hard to do. Because most investors triangulate on 15-25% per round, and use the amount of money you expect to raise as a way to back into a valuation.
As a founder, the best way to do this in a seed round would be to raise (all or most of) your seed round from Angels, who are more likely to sign off on a note / safe at a specific cap without knowing the total amount raised, and then you can triangulate on 10%.
It's worth noting that this game is even harder outside of the valley, because while operating costs are significantly lower, so are valuations, and most companies will bump into minimum cash needs for 12-18 months.
Sam made a good point: running out of money is way worse than optimizing for your cap table.
Let me make a second point: Optimizing for success is way more important than optimizing your cap table. In other words: If you believe a specific investor meaningfully adds to the probability of a success state for your company, then its probably a good bet even if you are not happy about the dilution.
In order of what you should care about:
1. Not running out of money.
2. Finding people who can be value-add and help you prevent mistakes and find success.
...
3. Dilution (within reason).
Also, you can always recap founders in later stages. It happens.
I agree, this is hard to do. Because most investors triangulate on 15-25% per round, and use the amount of money you expect to raise as a way to back into a valuation.
As a founder, the best way to do this in a seed round would be to raise (all or most of) your seed round from Angels, who are more likely to sign off on a note / safe at a specific cap without knowing the total amount raised, and then you can triangulate on 10%.
It's worth noting that this game is even harder outside of the valley, because while operating costs are significantly lower, so are valuations, and most companies will bump into minimum cash needs for 12-18 months.
Sam made a good point: running out of money is way worse than optimizing for your cap table.
Let me make a second point: Optimizing for success is way more important than optimizing your cap table. In other words: If you believe a specific investor meaningfully adds to the probability of a success state for your company, then its probably a good bet even if you are not happy about the dilution.
In order of what you should care about:
1. Not running out of money.
2. Finding people who can be value-add and help you prevent mistakes and find success.
...
3. Dilution (within reason).
Also, you can always recap founders in later stages. It happens.
That's a great way to prioritize those three things. Existential risk is always #1.
To me it's about the control more than it's about the money. If preferred shares got half the voting rights as common then the difference between a 10% seed and a 15% seed isn't as bad, but after accelerator / angel takes 7%, seed takes 15% and possible bridge + series A takes 30% you're down to raising a series B and admitting that you're no longer in control of the company.
> I'd rather have 60% of a small exit than 80% of a $0 exit.
60% is one funding deal away from becoming a minority stake, while 80% leaves room to do another deal while still maintaining control. Money is not the only concern here.
60% is one funding deal away from becoming a minority stake, while 80% leaves room to do another deal while still maintaining control. Money is not the only concern here.
But he's talking about exit and not control after another round.
I'm not sure why you think they are different things. Without control, you cannot direct the company towards an exit. Or away from a bad exit. Or away from another deal that will further dilute your stake. You have to trust the majority holders to do all those things.
Maybe I've just been around for too many decades, and seen too many shady deals proposed. But my trust comes slowly -- control issues come first in my mind.
Maybe I've just been around for too many decades, and seen too many shady deals proposed. But my trust comes slowly -- control issues come first in my mind.
Well, they are literally different things and yeah, I'm caught up on that. I'm trying to figure this out too.
I've known of founders who wouldn't take a deal because they liked being, to use Zuckerberg's honorific, CEO, bitch. And then they rode that into the ground.
I think you're saying they're two forms of the same thing. That's true but they're not two reversible forms. Moreover, there is no control after exit.
So the point is that taking a little less at a concrete exit might be worth more than taking a little more of a sleigh ride.
I've known of founders who wouldn't take a deal because they liked being, to use Zuckerberg's honorific, CEO, bitch. And then they rode that into the ground.
I think you're saying they're two forms of the same thing. That's true but they're not two reversible forms. Moreover, there is no control after exit.
So the point is that taking a little less at a concrete exit might be worth more than taking a little more of a sleigh ride.
My first reaction was "wow my company must have sucked." And granted on many levels we did (and were never close to being the hottest company in the world), but if I fought for 10% seed dilution I would have been laughed out of the room.
Maybe it's different if you're a shit-hot YC company, but man. I thought you were successful if you stayed below 20% at seed.
Maybe it's different if you're a shit-hot YC company, but man. I thought you were successful if you stayed below 20% at seed.
Yeah, my ballpark estimate from my portfolio (~50 investments in my fund + ~20 personal angel investments) is that 20-25% dilution is common at seed stage. Occasionally it's 15%, which is great. Occasionally you also see 30+%, and that's pretty bad.
Would it possible to provide more granular data(anonymized, of course)? What was the mean, median etc dilution for your seed investments? And same for when your portfolio companies go on to raise a Series A? Thanks!
This free report is an excellent resource on average dilution at each round: https://www.capshare.com/blog/dilution-101-startup-guide-equ...
Money is simply wind in the sails.
The fact that I got voted down on this just goes to show the level of ability to understand reality HN has. HN is a bubble.
I didn't down vote, but your comment was banal and didn't add anything to the discussion. HN aspires to a higher level of discourse, as you probably know. Just glanced at your profile, you probably have a lot of insight that everyone would find interesting!
A classic comment from the CEO of a startup I worked at during an all hands after a new round of funding, someone asked about dilution. The CEO (with a straight face) said, "you weren't diluted, the share price increased." The question was from one of the early employees. It was one more item that made a few of us who were already fed up about a few things leave before even vesting.
Could you link to some resources to help understand this kind of stuff? It's hard to navigate between all the numbers people at startup throw like it's always good things.
For example in your case why was it bullshit? It sounds like you potentially own less but it got more expensive.
For example in your case why was it bullshit? It sounds like you potentially own less but it got more expensive.
>why was it bullshit?
It probably was bullshit because to raise money the company will usually create new shares - and doing this will always make all existing shares own a lesser percentage of the company.
Fun example time! Let's consider a company with 100 shares in total (as printed physical IOUs). An early-stage engineer received 1 of those shares, so they own 1% of the company. Fast forward to the next all-hands meeting, and a founder says they just raised a new investment round. Common practice suggests that the new investors just bought 25% of shares/IOUs. But where did these IOUs come from, if there were only 100 and all are distributed already? In essence, the company just printed new ones, much like the government can print new money. In this case the company started with 100 shares, then printed 33 new ones for the new investors, and now those investors own 33/133 shares or ~25% of the company. And our early-stage engineer owns 1/133 shares, or their ownership got "diluted" to 0.7% from 1%. Perhaps. Or perhaps the company printed 500 new shares, and the new investors now own 80% of the business (500/600 shares), and the engineer owns 0.16% instead of 1%. This is what the engineer is asking: "by how much did I get diluted?". The founder is replying "you didn't", which is mathematically impossible if new shares/IOUs were created. Of course now the engineer's 0.7% is probably worth more in $$$, but that wasn't what they asked.
That's under typical conditions, but it's possible that the founder was correct as long as the company did not print new shares. Two examples come to mind: (1) the founders sold some of their own shares to the new investors at a much higher price, thus keeping the total share count at 100 but implicitly increasing the price of the 1 share the engineer holds. This scenario is unlikely because it's seen as a bad signal - the founders are cashing-in and existing the venture. (2) The company had 100 shares, but only distributed 80 of them initially, so the new investors are getting their shares from the remaining unallocated pool. This means the total share count remains at 100, and the engineer still owns 1% with no dilution, and the price just went up and that's it. Having 10-15% unallocated for attracting talent is normal, but having ~25% unallocated for future fund raising is unnecessary complex and highly unusual.
It probably was bullshit because to raise money the company will usually create new shares - and doing this will always make all existing shares own a lesser percentage of the company.
Fun example time! Let's consider a company with 100 shares in total (as printed physical IOUs). An early-stage engineer received 1 of those shares, so they own 1% of the company. Fast forward to the next all-hands meeting, and a founder says they just raised a new investment round. Common practice suggests that the new investors just bought 25% of shares/IOUs. But where did these IOUs come from, if there were only 100 and all are distributed already? In essence, the company just printed new ones, much like the government can print new money. In this case the company started with 100 shares, then printed 33 new ones for the new investors, and now those investors own 33/133 shares or ~25% of the company. And our early-stage engineer owns 1/133 shares, or their ownership got "diluted" to 0.7% from 1%. Perhaps. Or perhaps the company printed 500 new shares, and the new investors now own 80% of the business (500/600 shares), and the engineer owns 0.16% instead of 1%. This is what the engineer is asking: "by how much did I get diluted?". The founder is replying "you didn't", which is mathematically impossible if new shares/IOUs were created. Of course now the engineer's 0.7% is probably worth more in $$$, but that wasn't what they asked.
That's under typical conditions, but it's possible that the founder was correct as long as the company did not print new shares. Two examples come to mind: (1) the founders sold some of their own shares to the new investors at a much higher price, thus keeping the total share count at 100 but implicitly increasing the price of the 1 share the engineer holds. This scenario is unlikely because it's seen as a bad signal - the founders are cashing-in and existing the venture. (2) The company had 100 shares, but only distributed 80 of them initially, so the new investors are getting their shares from the remaining unallocated pool. This means the total share count remains at 100, and the engineer still owns 1% with no dilution, and the price just went up and that's it. Having 10-15% unallocated for attracting talent is normal, but having ~25% unallocated for future fund raising is unnecessary complex and highly unusual.
Tangential question: How do founders typically retain control of their company? I've specifically been told that it's wise for one person to own 51pct of the company and be CEO. However, with 20 pct of equity for investors and 10 reserved for future employees, this doesn't seem to leave much for cofounders who are potentially putting as much skin in the game as the CEO.
Historically, when this has happened, it's because the founders have managed to build the product & get on the growth trajectory before taking investment. Bill Gates built Altair Basic, sold it to hobbyists, and reinvested the profits to buy MS-DOS and sell it to IBM. Larry & Sergey had a working search engine that was using up half of Stanford's bandwidth before they took their first angel investment. Facebook was a dorm-room project. SnapChat was a final project for a Stanford product-design course and had 100k users before it took investment. The Apple 1 was done in Steve Wozniak's nights & weekends, and had sold out before they took investment for the Apple 2.
If you have a working product and ideally money coming in, the early negotiation leverage changes dramatically. You can skip the seed round entirely, because you've already seeded the project. You can usually get a very good valuation on Series A, since your metrics look great and every VC wants a piece of you. You can negotiate to give away very low equity stakes in later rounds, since at that point you seem like a sure thing.
The flip side is that most side projects don't go anywhere. You need to be both very dedicated and very lucky to strike it big without investment.
If you have a working product and ideally money coming in, the early negotiation leverage changes dramatically. You can skip the seed round entirely, because you've already seeded the project. You can usually get a very good valuation on Series A, since your metrics look great and every VC wants a piece of you. You can negotiate to give away very low equity stakes in later rounds, since at that point you seem like a sure thing.
The flip side is that most side projects don't go anywhere. You need to be both very dedicated and very lucky to strike it big without investment.
That would only happen when you have a line of investors waiting to invest and you can dictate the terms because of your high growth trajectory. In most cases though, it's not going to happen because of the standard numbers outlined in the article.
You're assuming that all equity is equal. It isn't. For example, shares given to employees are often non-voting. A company could have 99.99% of the equity in non-voting stock, meaning whoever holds the 0.01% that have voting rights controls the company.
When it comes to shares "ownership" does not directly correlate with "control".
When it comes to shares "ownership" does not directly correlate with "control".
> I've specifically been told that it's wise for one person to own 51pct of the company and be CEO.
Well, if that CEO puts up 51% of the capital that might happen. But otherwise the better formula is to be equals as co-founders.
Well, if that CEO puts up 51% of the capital that might happen. But otherwise the better formula is to be equals as co-founders.
From what I've read, from former ycombinator founders, that if one person isn't in charge then people get stuck in decision paralysis. And that for instance if three people are equal partners, its always a game of alliances and two people ganging up against the other one.
You are conflating ownership and the role of a CEO. Technically the CEO does not have to hold equity at all (and this is in fact common in many older family owned companies).
Decision paralysis is more a function of not having a clear path forward or having founders without aligned goals than anything else and those are serious problems that need to be dealt with but they do not need to be dealt with on an equity level.
It's much more to do with knowing which role fits you best.
Keep in mind that the CEO functions at the pleasure of the board if you have one and the stockholders if you do not and unless you plan on doing stuff that will go directly against the interest of other shareholders having control is rarely if ever important.
Far more important than the CEO having a controlling percentage of the equity is that the founders have a controlling percentage (and if possible, a supermajority depending on your articles of incorporation and shareholder agreements and whether or not you have more than one class of stock).
Decision paralysis is more a function of not having a clear path forward or having founders without aligned goals than anything else and those are serious problems that need to be dealt with but they do not need to be dealt with on an equity level.
It's much more to do with knowing which role fits you best.
Keep in mind that the CEO functions at the pleasure of the board if you have one and the stockholders if you do not and unless you plan on doing stuff that will go directly against the interest of other shareholders having control is rarely if ever important.
Far more important than the CEO having a controlling percentage of the equity is that the founders have a controlling percentage (and if possible, a supermajority depending on your articles of incorporation and shareholder agreements and whether or not you have more than one class of stock).
You do that by making one person the CEO. :)
If co-founders are ganging up against each other then that may not be a stable founding team.
If co-founders are ganging up against each other then that may not be a stable founding team.
Do startups ever pre-allocate blocks of equity for investors? I understand it's common to carve out N shares for employee options.
Say pre-raise look like this...
- 30% for founders
- 20% for employees
- 50% for future investors
Then when raising initial funds, you sell 20% the total pie (40% of the investor block) of the company to investors, making the share split look like this...
- 30% for founders
- 20% for employees
- 20% for current investors
- 30% for future investors
When an exit occurs, any unallocated shares get split up among the existing shareholders using whatever formula is used to calculate how the money is distributed.
Say pre-raise look like this...
- 30% for founders
- 20% for employees
- 50% for future investors
Then when raising initial funds, you sell 20% the total pie (40% of the investor block) of the company to investors, making the share split look like this...
- 30% for founders
- 20% for employees
- 20% for current investors
- 30% for future investors
When an exit occurs, any unallocated shares get split up among the existing shareholders using whatever formula is used to calculate how the money is distributed.
I did something like this with our company, but it doesn't really do anything other than make round share counts. All that matters is the proportions between shareholders, not the number of unissued shares.
Given what you know, would you do it again? My main thinking is that it's simply easier to reason about, especially when discussing the value of shares with non-investors.
I wouldn't preallocate for investors. It's too unpredictable. Employees, sure.
Is it that you want to be able to say to your team members, "you have X% in the worst case" ? I don't think it's practical to make such a statement if you're going down a fundraising path. At best you might be able give a near term worst case, based on the next round or two (e.g. apply the high side of Sam's seed/A dilution ranges). It's all guesswork though, and even with a preallocation you might need to exceed it.
Is it that you want to be able to say to your team members, "you have X% in the worst case" ? I don't think it's practical to make such a statement if you're going down a fundraising path. At best you might be able give a near term worst case, based on the next round or two (e.g. apply the high side of Sam's seed/A dilution ranges). It's all guesswork though, and even with a preallocation you might need to exceed it.
Bug fix: in an earlier version I used 12.5% and 20% as the rough targets for seed and A rounds. Then I decided to switch to 10-15% and 15-25% ranges. Somehow that change only partially got made, indicating 10% and 15-25%. Now it's fixed.
I think it's a bit insensitive not to mention that at the seed stage most companies throughout the world cannot raise any money on any terms, period. (Literally: period.)
This includes companies with revenue and built product.
The rest of the advice is good and interesting - but it really is for companies that can raise in Silicon Valley.
This includes companies with revenue and built product.
The rest of the advice is good and interesting - but it really is for companies that can raise in Silicon Valley.
The other consideration with raising a large round is that you are going to have a high valuation. If your company is awesome and growing really fast, this is no problem. However, if you overestimated your market and struggle to grow into that high valuation, you limit your options for a successful exit.
Somebody please make this: like TransparentStartup [1] but instead of sharing revenue numbers the startup shares their cap table so that we can see how it changes over time after multiple rounds of fundraising.
I feel like seeing concrete examples of how the founders' share of their company changes based on the size/details of a fundraising round would be super useful for founders as they negotiate funding rounds.
Are there any companies currently sharing these details that I'm not aware of?
[1] http://www.transparentstartups.com/
I feel like seeing concrete examples of how the founders' share of their company changes based on the size/details of a fundraising round would be super useful for founders as they negotiate funding rounds.
Are there any companies currently sharing these details that I'm not aware of?
[1] http://www.transparentstartups.com/
I would love to see that along with the founder and early employee stakes broken down on the company side. This is all so easy when you read it on various websites and haven't actually done it on your own. Then you get in the driver seat and there's all this crap flying at you that doesn't fall into any one bucket. The guy who is critical to your business doesn't care how much equity he gets. The gal who is not as critical is ready for a cage match. The investor wanting to throw you 5 million makes the offer over a burger and a beer. The guy in the next town over wants pages of documentation for his $20,000.
> raise $5 million on a $10 million pre-money valuation (selling 33% of the company to investors)
How do these calculations work?
How do these calculations work?
The pre-money valuation is what you are worth before the investment. So you're saying "we have a company worth $10 million" and the investor is saying "cool, let me give you $5 million."
So now you have $10 million in company plus $5 million in cash, so you are worth $15 million (that's called the post-money valuation.) The investor gets $5m / $15m—33% of the company.
So now you have $10 million in company plus $5 million in cash, so you are worth $15 million (that's called the post-money valuation.) The investor gets $5m / $15m—33% of the company.
[deleted]
Worth of company before investor gives company cash (pre-money valuation): $10 million
Worth of company after adding $5 million from investor: $15 million.
Investor now owns $5 million dollars "worth" of a now $15 million company
$5 / $15 = ~33%
Worth of company after adding $5 million from investor: $15 million.
Investor now owns $5 million dollars "worth" of a now $15 million company
$5 / $15 = ~33%
Serious question here for people who know about this.
"I have recently seen several examples of companies doing pretty well and going out to raise B rounds with investors already owning 50-60% of the company. In all cases, they are having a tough time."
I know a company in this position. Not quite going out to raise a Series B, but lots of interest from current Series A investors in doubling down (doing an internal growth round).
What's special about this scenario is that the company is profitable and has millions in revenue and grew 1,200% since the Series A investment round just a couple years ago. But because the pre-Series-A financing was at depressed valuations, there is only 30% of stock for the common, and the founders/employees are (rightfully) worried about dilution. The cap table is clean, but the distribution is unfavorable.
In this case, could founders make a reasonable argument that Series A investors should buy out seed investors and angels rather than diluting the common stock holders further? It seems like secondary liquidity for the angels would be attractive to them, and I heard that when offering secondary liquidity for those seed-stage investors, one could do some sort of "stock-cash swap" that avoids dilution of the common. Anyone heard of something like this or have good reading material about it? It seems like an esoteric "third way" between Series A and exit.
"I have recently seen several examples of companies doing pretty well and going out to raise B rounds with investors already owning 50-60% of the company. In all cases, they are having a tough time."
I know a company in this position. Not quite going out to raise a Series B, but lots of interest from current Series A investors in doubling down (doing an internal growth round).
What's special about this scenario is that the company is profitable and has millions in revenue and grew 1,200% since the Series A investment round just a couple years ago. But because the pre-Series-A financing was at depressed valuations, there is only 30% of stock for the common, and the founders/employees are (rightfully) worried about dilution. The cap table is clean, but the distribution is unfavorable.
In this case, could founders make a reasonable argument that Series A investors should buy out seed investors and angels rather than diluting the common stock holders further? It seems like secondary liquidity for the angels would be attractive to them, and I heard that when offering secondary liquidity for those seed-stage investors, one could do some sort of "stock-cash swap" that avoids dilution of the common. Anyone heard of something like this or have good reading material about it? It seems like an esoteric "third way" between Series A and exit.
That seems reasonable if you can find Seed investors willing to sell. The very fact that the new investor wants to put money in at a favorable valuation may be the type of thing that makes the seed investor think "this company might be getting hot" and decide they don't want to sell.
less dilution = good
money to do stuff = good
wise spending = good
these are all known things, i'm not sure this article actually digs much into how to balance them
money to do stuff = good
wise spending = good
these are all known things, i'm not sure this article actually digs much into how to balance them
1. VCs have portfolios and can talk about averages. As a founder, you're dealing with your particular reality, and as startup phases are inherently high variance... your terms will be all over the map, and not driven by your dilution aspirations. Oh, SaaS crashed this quarter and you lost your F100 account? Too bad for you. Bots are in? Sweet!
2. I'm surprised by the dilution percentages here: I'm guessing they're for the top 10% or so, where everything already aligned anyway. Likewise, I'd expect it for something like a SaaS snack boxes -- stuff where averages and predictability make sense from day 1, not crazy bumpy tech etc. Otherwise, for example, VCs will fight HARD for their % minimums. So, 10-15% sounds like one VC at their absolute bottom... and therefore not normal.
3. 7% might be what accelerators converged on... but that's high compared to F&F, angels, & specialized advisors in your field (vs "startups").