Trace Cohen

@trace_cohen

Founder Friendly is not dead

As the Uber drama continues to unfold in front of us like tabloid news, it has finally escalated to an early investor suing the founder. Rumors, leaks, confirmations and speculation are rampant because they are the highest valued private company in the world, investors have billions at stake and we’re really in uncharted territory. I’m sure someone is currently trying to get the rights to this movie already…

I’m not really too concerned about it because it’s late stage and I deal with early. I am worried though when a top industry journalist (who broke the lawsuit story) tweets that “founder friendly” is dead based on a literal unicorn problem.

https://twitter.com/danprimack/status/895754344364216320

While I’m sure he meant it kind of jokingly, some of his reply backs took it seriously and I’m afraid it may change some investor mentality. I can only speak from my early stage experience with a few growth rounds, so based on that, we (and everyone we invest with) always have the founders in mind. Yes we do this to make money but practically and ethically with terms that protect us, along with others to make sure that the founders are motivated too. This is obviously all in a perfect world of course.

Last year we almost wouldn’t invest in a startup because the founder converted multiple notes into a priced round and would be heavily diluted. This would be especially true for the next round they needed, which we mentioned to them and they were aware, planned for it and didn’t care because they wanted to see this through to the end.

So what other terms can make an investor and terms more founder friendly than not?

  • Valuations can always be tricky early on because how do you determine the price of a startup when they are living on hopium? We average a $5M pre which seems to be right in the middle but any lower and founders may sell too much early on, or to high and you might risk down rounds etc.
  • Vesting for 4 years is standard. This is basically to make sure the founders don’t just leave whenever they want with all their shares — they need to earn them over time. Maybe you can back vest them a few months for some of the time they’ve already worked, give them a bigger cliff (chunk of equity) or set performance incentives as well.
  • 1x liquidation rights are standard but we’ve seen 2x and others before. This basically means that when the company liquidates (good or bad), investors get paid out first either their investment back or twice it for taking the risk etc. Assuming a not positive outcome, investors get paid first and then founders and employees get what’s left, if any.
  • Founders salaries usually range from $50k-$100k early on, though some do work for sweat equity until a bigger round of funding.
  • Pro-rata rights should be standard early on but sometimes isn’t— this is almost investor friendly to some degree. However even if you have the legal rights, we’ve been pushed out and denied it by new money but because we added value and were founder friendly, they fought for us and let us in.
  • Board of Directors. This is a bigger topic, one that Uber is facing now and that has more direct control over the company, so I’m going to elaborate below.

The Board of Directors

Basically every board meeting

For some early stage startups doing their seed rounds, a Board of Directors is established. It’s usually comprised of 3–5 people (majority rules for a lot of decisions), which include a founder or two, generally the lead or biggest investor and an independent chosen by the founders. To be clear, a Board of Advisors is very different as they actually have no real power over your company, they just “advise” you.

The BoD generally meet quarterly to get updates, make some decisions and vote on a few things. At the seed level I haven’t heard of too many issues (I’m not on any boards) until you start raising your Series A and beyond, when millions of dollars are now at stake, the board expands and/or members are replaced. So lets try to imagine what it’s like to be on the Uber board, with 8 members (expanded to 11), top VCs, founders and professionals, some of which literally have billions of dollars at stake.

Benchmark led the $11M Series A at a $60M valuation in 2011, which means they are roughly at 1000x their investment on paper in just 6 years. Assuming they put in $5M, that stake is worth roughly $5,000,000,000 ($5B) give or take based on pro-rata, dilution and other crazy things that happen with later stage capital. Now since that investment, they have gone on to raise ~$10B from practically everyone it seems, so I’m sure their cap table etc is pretty complicated, especially without a CFO.

Currently they have filed a lawsuit against the founder Travis, who has already been kicked out of the company, for numerous reasons, one of which is “tricking” them to agreeing to increase the board from 8 -> 11 people. This is huge because if they lose board/voting control, they can be kicked off the board (already asked too apparently), have no say in the company or anyway to protect their investment. That’s not good.

So why am I telling you all this? Because it has nothing to do with being founder friendly anymore. These are problems at such a large scale that I can barely fathom, that shouldn’t affect how we invest, specifically early on, or treat founders. Yes there will be fallout and implications based on it’s outcome but we should still respect founders and not assume this will happen.

A few additional things I read while writing this

The first was a tweet by Fred Wilson to Dan Primack the next day.

I highly recommend you read his post which is at a much higher level based on his ridiculous amount of experience http://avc.com/2017/08/founder-friendly/

At the same time, Fred also sits on the board of beloved Soundcloud that was just saved by a $170M investment at a massive down round $150M val (previously $700M). They just replaced the founding CEO of the company (became Chairman), which only the board can do and I’m sure wasn’t easy.

https://blog.soundcloud.com/2017/08/11/exciting-news-future-soundcloud/

Lastly to rap all this up, unfortunately was another article on founder friendly being over by another top journalist Erin Griffith that I really respect. With examples of Mark Zuckerberg controlling his company through shares, which worked out amazingly to Snap founders doing the same thing and unfortunately not finding public success so far. I do agree though that some founders need tough love, governance and no question others are being coddled to make them feel special, that can definitely cause issues.

What I really want to make sure doesn’t happen is having investors now scared and going in proactively with less founder friendly terms. We don’t need to baby them but don’t assume all this drama is going to happen and proactively try to stop it — assess each investment opportunity and act accordingly. If certain terms are necessary based on risk, founders, industry and traction then by all means fight for them but otherwise treat each one separately from one another.

Business is hard and sometimes you need to make decisions that not everyone will like. I half-jokingly never encourage anyone to do a startup for countless reasons but we’re in business because of you, so I want to make sure none of this discourages anyone and that we can still be friendly.

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