Snapchat Founders’ Grip Tightened After a Spat with an Early Investor
nytimes.com
nytimes.com
Sam Altman has a right of first refusal provision in his "founder-friendly term sheet". At least I think he does.. he doesn't call it a ROFR, preferring the plainer language of "investor participation rights". But it's there and even the multiple is left as an open variable.[1]
So are @sama's terms actually spat-worthy?
This is incorrect. See my comment above.
Pro-rata participation rights means that if you sell shares to a third party, the rightsholder gets to purchase more stock from the company in order to maintain their percentage share so that they are not diluted. So if ImpossibleIndustries owned 10% of TheGuild, and VentureBros then invested $10M and got a certain percentage of TheGuild, ImpossibleIndustries would have the right to buy more stock of TheGuild in order to ensure that, after the transaction, ImpossibleIndustries still had 10% of the total shares of the TheGuild.
Go team Venture.
This is a fairly favorable founder term sheet. I negotiate startup investment fairly often - this is a decidedly equitable offer.
These terms are pretty common in the valley, to think thy suddenly give investors a right to refuse other investors in future rounds is frankly ridiculous
The terms Jeremy had with Snap were different, and they didn't get in the way of the entrepreneur in any case since he agreed to move out of the way (his reputation is worth more than follow-on rounds one snap)
That's the best protection entrepreneurs have - investors build their business on their rep. No good or reputable investor is going to burn that for a single term
You said that @sama's term sheet didn't have a rofr, just participation rights. That is incorrect. It has both.
> that investor can't block a future round.
This is expressly what a right of first refusal, or ROFR, is. To be precise: they can prevent the next purchaser from coming in, though they can only do so by making the purchase themselves. If they cannot afford to, they cannot block. The round will, itself, proceed, but not necessarily with the outside investors.
> to think thy suddenly give investors a right to refuse other investors in future rounds is frankly ridiculous
They 100%, unequivocally, absolutely do. This is the central, core purpose of a ROFR. It happens quite often.
Btw, I checked out your profile. I very much respect your work.
These are reasonable terms. They don't bend over backwards for the company, they are not a land-grab by the investor. Are there 50 other ways from Sunday to also have equitable terms? Yes - every deal is different, which is why you need a lawyer, and depending on the context, different terms can be equitable. In general, though, this is pretty "content-neutral."
Note: I am not your lawyer. If you need a lawyer - get a lawyer. But yes, my handle is my actual name (so you can look me up to see that I am not just an armchair IANAL). As far as I know, I am the only lawyer named Liberty around.
I love this.
I love this.
> Those terms gave Lightspeed the right of first refusal to invest in a future round of funding and the ability to increase its share of the company in that round. Lightspeed could also take 50 percent of the future round.
That is the issue and that would make a target less desirable for VC investment.
By multiple, do you mean the voting leverage? Because note that this happened after Lightspeed invested and allowed the VC to invest, rather than blocking it. To be very clear: the 10:1 voting ratio was decidedly not what blocked outside VC. The ROFR blocked outside VC. The 10:1 founder voting ratio was the solution.
Typically, "multiple" in this context means a liquidation preference - if one existed here, it was not detailed in the NYTimes article. My bet is you could probably find this information in the S1, (located here: https://www.sec.gov/Archives/edgar/data/1564408/000119312517... ) but if you want me to read that, you will have to pay my hourly.
Why should this necessarily be the case? There are many reasons to buy a stock. Sometimes leadership is an issue, and getting rid of it is an opportunity.
FWIW, there are a lot of people who's goal isn't to sell but to collect dividends due to the long term success of a company.
For me, despite ever maybe owning 0.0000000000001% of a company, the power of mutual ownership means all perspectives are taken into account. And that generally means more accurate valuations, and therefore safer investments.
Normally Class A has the voting right and Class B has not.
But I would also like a clarification on this from somebody that actually knows. The S1 filing for Snap Inc. states:
"We have paid a stock dividend of our Class A common stock on our capital stock in the past and from time to time in the future may pay special or regular stock dividends in the form of Class A common stock, which per the terms of our amended and restated certificate of incorporation must be paid equally to all stockholders."
"Equally to all stockholders", does that mean all Class A holders or both A and B holders?
I am a little puzzled at some of the latest innovations in the US stock markets. I can understand investing in a company that a small group of insiders will always have majority control in, as long as all owners are treated equally wrt. all forms of payouts. I really don't understand why the market would assign value to a stock class with no voting rights and no plausible scenario for returning capital to stockholders.
If I a company isn't paying dividends or buying back stock, and we (the shareholders) can't coerce said company into doing so at some point, it's essentially an indestructible piggy bank in which money evaporates while you helplessly watch.
One of the big risks that Snap is taking in this IPO is that their common stock has no practical value.
As you said, stock generally has two ways of being worth something: partial control and/or profit sharing.
Snap common stock has neither. It's only value is its ability to be sold to someone else. It's basically a currency? Is $Snap the new BTC? I have no idea.
On a long enough timeline, you have to believe that Snap will either disburse dividends, be acquired by another company or find some other way to convert ownership into actual cash.
I'm not avoiding your question—I agree that it should be based on underlying value—but that seems to be the only reason to buy $SNAP
it's pretty tenuous, but real nonetheless.
Private held companies: not necessarily traded. Your investment is illiquid. Nobody outside is really watching. The managers can fly the company into the ground before you can find a buyer, and voting is your only shield against this.
They don't have zero voting power. They have greatly reduced voting power. Huge difference.
Snap Inc. is a delaware corporation. The shareholders (DE = shareholder; NY = stockholder) have certain non-waivable rights as a matter of delaware law.
To put it another way: The founders create the company, including designing the ownership structure. The fact of the matter is, common shareholders are willing to buy into this structure, even without very strong voting rights, at a huge valuation. The proof is in the pudding - why should the founders have done otherwise? No one is forcing the common shareholders to buy into the Company - they are doing so knowing full well that they have very low voting rights.
So, why should management give up control to common stockholders? What benefit is there? The only answer, in my role as a corporate lawyer, is when the company cannot raise money on terms more favorable to the founders and management.
That was not the case with Snap. And it worked out brilliantly.
As soon as the shares are sold Wednesday morning, it's champagne time. Granted there is a lockup period for company insiders, but unless they sink the ship in 6 months, they are going to be racing their new yachts by thanksgiving.
I have yet to see a news outlet describe the SNAP common stock as you have. Do you have any references?
A few of many example articles describing how their common stock will have 0 voting rights:
https://www.fool.com/investing/2017/02/08/your-snap-shares-w...
http://fortune.com/2017/02/07/snapchat-ipo-snap-stock-buy/
"Snap acknowledged in its IPO filing that it would likely be the first company to sell non-voting stock in an IPO on a U.S. stock exchange."
If all you mean is that Delaware law allows certain kinds of lawsuits by stockholders, then no, IMO, that is not the same as having voting rights. And yes I understand that it not unusual for common stock in public companies to have greatly reduced voting rights. There is still a difference between that and none.
https://www.sec.gov/Archives/edgar/data/1564408/000119312517...
The Class A common stock is non-voting and is not entitled to any votes on any matter that is submitted to a vote of our stockholders, except as required by Delaware law. Delaware law would permit holders of Class A common stock to vote, with one vote per share, on a matter if we were to:
• • In addition, Delaware law would permit holders of Class A common stock to vote separately, as a single class, if an amendment of our certificate of incorporation would adversely affect them by altering the powers, preferences, or special rights of the Class A common stock, but not the Class B common stock or Class C common stock. As a result, in these limited instances, the holders of a majority of the Class A common stock could defeat any amendment to our certificate of incorporation. For example, if a proposed amendment of our certificate of incorporation provided for the Class A common stock to rank junior to the Class B common stock and Class C common stock with respect to (i) any dividend or distribution, (ii) the distribution of proceeds were we to be acquired, or (iii) any other right, Delaware law would require the vote of the Class A common stock, with each share of Class A common stock entitled to one vote per share. In this instance, the holders of a majority of Class A common stock could defeat that amendment to our certificate of incorporation. Moreover, if an amendment to our certificate of incorporation would alter the powers, preferences, or special rights of the Class A common stock and either the Class B common Stock or the Class C common stock in a way that would affect them adversely compared to the unaffected class, Delaware law would permit the holders of Class A common stock to vote with the other adversely affected class of common stock together as a single class. For example, if a proposed amendment to our certificate of incorporation provided for the Class A common stock and Class B common stock to rank junior to the Class C common stock with respect to (i) any dividend or distribution, (ii) the distribution of proceeds were we to be acquired, or (iii) any other right, Delaware law would require the vote of the Class A common stock and Class B common stock voting together as a single class, with each share of Class A common stock and Class B common stock entitled to one vote per share. In this instance, the holders of a majority of the Class A common stock and Class B common stock, voting together as a single class, could defeat that amendment to our certificate of incorporation.
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So, yes, the class is called "non-voting" but, as I point out, they still do have powers to vote. Just very limited ones. However, I am perfectly willing to admit that you do have a point that this is literally as de minimis as it gets.
This is distinctly unusual. But it is still not zero voting power - just literally as close as delaware law allows.
A very slight softening of the blow. :)
I actually have that on a sticky on my desk. Sadly.
This is illustrated in detail here: http://venturehacks.com/articles/options-open
From the point of view of the original angel investors and early employees, why shouldn't the founder push for the best, least dilutive, offer? Are you suggesting that if VC2 comes in with a low-ball offer, the founder should just say "gee, they made such an effort, I owe them the right to excessively dilute us all, even though VC1 is putting his money where his mouth is, and is willing to step up to avoid it."
Let's say I helped you by putting up a down payment for you to buy your house, for which I get 10% ownership. Later, you want to sell the house (or a further interest in it). If you get an offer, and I think it's too low, is it unreasonable for me to want to "steal the deal" at that artificially low price? Otherwise, it's simply a transfer of wealth from me (and you) to the new buyer, which I'd certainly like to defend myself against. People buy houses all the time in competition with other buyers; no serious buyer says "I'm not going to make an offer on that house, because someone else might beat my offer, or maybe exactly match it and the seller could choose that other offer."
And even if VC3 swoops in during negotiations with VC2, it requires the founders to be pursuing that (and VC1 would be aware). Whereas with the ROFR the founders have no choice.
Finally, VCs suffer from herd behavior. So it is very plausible that many VCs arrive at the same valuation - the valuation of the VC leading the round / the valuation of the best-reputation VCs. If foo VC values a company at $10M, but Sequoia comes in at $20M, 99% of the time foo VC will second-guess their valuation and match Sequoia.
Your point about herd behavior is well taken, though. And the result is that the VCs moan and groan, but ultimately the price goes up, and the entrepreneur wins, because they get the best valuation possible. (I've been in the room as an angel investor, and I was sure happy when the valuation went up 25% when a second VC got interested in the B round.)
The only counter-argument I can see is, in your example, if Sequoia's money really is greener than fooVC's (which there are long-standing arguments for and against).
I cited an article explaining how this can steer away competition. Another scenario you might not have considered is that if VC1 would've bid $15M, but the highest other offer is only $10M, then VC1 gets it at $10M.