Regularly I am asked about stocks & options. Entrepreneurs have sent me their equity packages to look over for a “sniff test” & first time entrepreneurs ask for general information about stocks & options. Depending on the specific situation I usually point them in the direction of David Weekly’s “An Introduction to Stock & Options for the Tech Entrepreneur or Startup Employee”. This overview does a great job of simplifying & clarifying what stocks & options mean. If you haven’t read it & are at all questioning stocks & options, I recommend checking it out. In the meantime, here are some things from the intro that I’d like to point out & elaborate on:
The Board. ”Most people don’t realize this but shareholders are, legally, at the top of the totem pole.” The Board is appointed to serve the Shareholders, but the Shareholders have a right to change the Board at anytime.
In other words, the CEO is not the boss. If you own a share in a business you are the CEO’s boss’s boss.
The Board must receive notice of a board meeting at least 48 hours in advance. Remember, a majority of Board members (aka quorum) must be in attendance (either in person or via phone/Skype/etc).
Equity. “ownership in a company”
A cap table is used to organize & track who owns what. Advice to entrepreneurs: KEEP THIS CLEAN. Update it whenever there is a change, make it legible, & keep in mind when raising money that all investing parties will need to be accounted for in the cap table. You’ll thank yourself for keeping this updated regularly, as opposed to waiting until the day before your company is acquired to go back in time & get the cap table up to speed.
Dilution. ”reduction in ownership”. A touchy subject for many entrepreneurs. No one wants to own less of her/his baby. Keep in mind CEOs…no investor wants you to own so little of the company that you are not motivated to make the company a huge success. The investors’ interests (should be) aligned with yours. They want a return on their investment too!
Common vs. Preferred Stock. Preferred Stock are “shares that grant special rights”. Those rights vary depending on the investor, investment round, & other factors. Examples of Preferred Stock are Series A, Series B, Series B-2. Series Seed shares are also considered Preferred Stock. We are seeing more & more Series Seed shares issued.
Weekly also discusses types of investors – angels, VCs, & a bit about how venture firms work. One thing he mentions that I want to point out & comment on is that Associates/Analysts/JuniorVCs will call you sounding really excited about your company, but if no partner is involved in the discussions it is not worth your time. That’s only half true. True – all deals need to eventually get to the partners’ desks. However, a way to get there is through the Associate/Analyst/JuniorVC. You’ll have better luck getting a phone call with a Junior VC than a partner her or himself,
Oh & on that note…Junior VCs aren’t stupid. Don’t try to be their friend & then only call them when you want a meeting with a partner. That fakeness shines right through & reflects on you as an entrepreneur & a person.
On that subject, Weekly also brings up the typical “weekly Partner Meeting” that most VC firms have. True story. If a VC brings you to pitch to partners at a Partner Meeting that’s great. For smaller VC firms, not all pitches in front of the partners are made at the Partner Meeting. In fact, rarely do we have entrepreneurs actually come pitch during our Partner Meeting. We schedule other times during the week instead. I imagine that may not be the case for larger VC firms with many partners who are all on different travel schedules.
Raising money? Have a term sheet? That’s not the end. Once you sign a term sheet there is a “closing process” & the VC will continue to do some “due diligence” while things are getting legalized. Once “closing documents” are prepared & signatures in place, then the money is wired (by 1 pm Pacific Time ideally). So no, a signed term sheet does not mean you have cash in your bank account the next day. It’s only the beginning of another process.
Going to work for a startup? Here’s what to expect…
A vesting schedule with cliff. No that does not mean that you are put on the edge of the cliff with a life or death scenario. Vesting is done so the employee earns stock purchase rights over time (typically a 4 year period). That vesting doesn’t start until a “cliff” is reached (generally 1 year), which means the employee won’t start to vest any purchase rights until she/he has been employed for one year. Vesting gets you the right to purchase stock…you still have to exercise options to purchase though!
Read Weekly’s “STRATEGIES & PITFALLS” section. It covers Alternative Minimum Tax, filing an 83(b)…must knows if you have stock purchase rights!
Any specific questions? Ask in the comments or send me an email.
MEL aka Venture Gal