I Sold My Startup for $25.5 Million
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> Marin’s team sent over a list of hundreds of technical, legal, and business questions that we’d need to answer for the deal to go through...Tracking down document after document was tedious beyond compare.
Having your ducks in a row as much as possible can make a huge difference in the complexity, risk, and overall stress of doing a sale/acquisition.
I don't mean Day 1, of course, but once you're starting to have conversations around acquisitions, it's really helpful to make sure your books are clean, that you have clearly documented your software stack, all of the third-party code you use and licenses, all of the contracts and MSAs you might have signed iwth your customers, employment agreements with contractors, and so on.
It's annoying, but once you have it done it's relatively easy to keep up to date.
When we sold our last startup, our CFO had done this 10+ times before, and on the first day of the due diligence, he handed over a URL for a data room with hundreds of documents, categorized and neatly organized. The acquirer's lawyers said it was the easiest DD they'd ever seen.
EDIT: I sentence misplaced words in a
Thanks for highlighting this point for others!
It's all in your attitude.
Organizational Documents - all your formation docs, shares, etc..
Tax - 3-5 years of historical tax information (everything), along with a depreciation schedule of any assets you have
Finance - mostly quickbooks or similar exports here - your CPA can help a lot. Tricky parts are usually the transactions between owners (their family members) and the company (capital infusions, distributions...can get messy) Intercompany stuff is also always a mess. You set up a LP to hold the stock of your LLC? stuff like this will get beat to death.
Loans & Borrowings - anything dealing with loaned money, or personal guarantees
Contracts/Confidentiality Agreements - FOR EVERYTHING. Cell Phone contracts, cleaning lady contract (or description of the agreement). They'll cross reference this with your A/P and A/R. Anything with a signature.
Customers & Vendors - lists with detailed contact information and yearly spend/revenue
HR - Everything related to employees, contractors, consultants, etc...including all your insurance, retirement, bonus, free crap you give employees (gifts and snacks)
Corp Insurance Policies - all your policies you've had for the last 5 years, claims and dollars spent.
IP - copyrights, licenses, trademarks, non-competes, confidentiality agreements, patents, blah blah. This is exhaustive with Tech Companies, since its what they're really buying (along w/ brains. not physical assets)
Legal - Any lawsuits.
Govt Compliance - Any permits required to do work? Any interaction w/ a Govt Agency other than the IRS.
Environmental - if you own property or do anything with a hazardous substance....usually its an outside firm doing an environmental survey of your property.
Property - both real and personal property - any leases you have. any offices you own (and loans associated) All your personal property you own (desks, computers, misc) with serial numbers and VIN's. What a nightmare.
Import/Export - If you import and export stuff, they want all your documents. Schedules of shipments (all of them), customs audits, all your brokers that handle this stuff.
In you mind, leaving something out means that its not applicable.
In their mind, leaving something out means that you're hiding it.
When you pitched your first bootstrapped project for Ycombinator - did you have a team? Have you still got your original pitch? Thank you
Tip for startups - buy a filing cabinet and a bunch of folders. Come up with some system - any system - it doesn't really matter. The worst one is better than none at all. Put everything in there and don't worry about cleaning it out. I'm talking about all your insurance crap, leases, property records, blah blah...things that are not "core business"
If you want to go paperless, get a Fujitsu ScanSnap for $400 and scan everything to Evernote - or a Directory Tree - or some other DMS. You'll make life EASY EASY when compared to the alternative of having someone like me in your office for 3 weeks keeping you from running your company while I piece back together everything you've shredded.
EDIT: oh yeah - don't try and "hide" shit. M&A guys are experts at sniffing out things you're not telling us, intentional or simply forgotten. I've got forensic accountants who are incredible at their job sifting through everything under the sun finding this stuff. Most of the time, you just forgot, and thats fine. Everyone does. If you're trying to hide a skeleton, we're gonna find it. Talk to the M&A guy who's on your side (the sellers side) and be honest. We've got a better chance of presenting the information honestly that won't alter the deal.
It's easy to forget these loans from the early days, especially if there were 20 people who gave the founder little bits of money, especially if it was before he or she set up the corp accounts, etc.
Other than that, one of the worst I've knocked down uncovered a lack of assignment of IP (an early rich-media MUA) from a contractor that effectively meant the candidate company had zero value. "Who's Bob Smith of Bob Smith, Inc.? Can I talk to him about this shitty code? Oh, he owns it..."
Some commonly involve artificially boosting turnover by trying to be clever and using in-house developers as a separate concern, billing or paying through companies owned by family members. Sometimes this sort of setup is kosher (you want to smooth out and isolate capex and a friend has office space and a couple devs, or there's an overseas component, or whatever) but if money is moving between them in a semi-closed ecosystem, it's often a bad sign.
Usually, as stated, it's sloppy stuff, but sometimes you get a real weasel.
As for being a founder, having an accountant/CFO makes a huge difference. The first contract CFO I hired was a revelation. The commitment was low and the upside was huge. We were too small for a FT CFO and I was a babe in the woods and didn't even realize these people existed.
What happens in that case? Does the acquisition stop in its tracks, or does the company try to contact Bob Smith and buy the rights?
In the case I mentioned above, we left the candidate site immediately, arranged earlier flights, and flew back to Seattle. There may have been exec communication but I was just the technical DD guy at the time. But I never heard from them again.
Had the code been stellar, we may have given them time to sort it out so that the package was clean.
I did that and it was a total waste of time and space. Nowadays I just throw everything into a plastic bin marked with the current year. The bins are stacked, current year on top, and relabeled/recycled on a five-year LRU basis. It's 100x more painful to access the information than it would be if I used a formal filing system, but retrieval happens at about 1/1000 of the rate of insertion, so it's still a big win.
The worst one is better than none at all.
And sometimes better than the best one.
All it takes is a document scanner and well curated Dropbox folder(s).
Of course, this is the least sexy part of building a company and is actually quite easy to ignore as long as you're hiring highly competent people.
- Employee agreements
- Updated financials (potentially get them audited once a year)
- Insurance paperwork
- etc.
There's no reason you should ever not have those things.
But there's other stuff that can creep in - for example, we were using a variety of perl modules in our software. We had made sure from a policy perspective that all of the modules were in CPAN and licensed apporpriately. But during DD they wanted us to identify every module, and provide them with a copy of the license for every single module.
They wanted to see a written DR plan, and a list of business operational risks, both personnel and office-wise.
Just two examples of the sorts of things that can come up in DD that probably aren't worth doing day 1.
https://docs.google.com/spreadsheets/d/17uAmJBwB3pztdmt4ozMy...
It's more geared toward 'physical' companies as compared to software ones, but many of the requirements are the same.
Disclosure: I work there
Although some people do use it just for a single deal, we try to espouse the notion that you should use a data room from the start; keeping your documents nicely organized for the day when that phone call comes, rather than scramble to compile everything together at the last minute.
Check us out at www.securedocs.com, or email me at comron@ that domain if you have questions.
"There are different levels of data encryption but AES (Advanced Encryption Standard) 256-Bit Encryption is so secure that it is certified for use by the U.S. government for top-secret documents."
I realize this is usually written for the layperson, so the ambiguity of this claim is forgivable, but can you provide a more detailed explanation for how your encryption works? As you're probably aware, simply using AES does not actually provide any security.
Even if you do everything right, an acquisition is astonishingly expensive --- low-mid six figures in a lot of cases.
If a deal is worth doing, it's probably not going to live or die based on how many tens of thousands of dollars you can whittle off closing costs.
That's not to say there aren't deal-killer sloppy mistakes to be made early on (vesting! keep cap table clean! get your contracts reviewed as you sign them!), but a lot of what I'm reading here doesn't sound like that kind of stuff.
Maybe someone on HN has a horror story about a deal they really wanted dying in warrants-and-reps DD; I'd love to read it.
(Like all my comments, this reads more demonstrative than I really mean it to; I'm really asking, more than arguing.)
Based on my experience of it, negotiation took a couple weeks, and warrants/reps took sixteen thousand years. My partners went into the process looking like young David Lo Pan, and ended it looking like old David Lo Pan. (I spent the whole process as the weird floating orb of goo with the big eyeball).
It's true that the legal side is onerous. We like to think that it prevents more trouble than it causes, but reasonable minds may differ.
I still think my question is an interesting one, even if it's not what you were saying. I don't know that there's any public precedent on the matter, but I imagine it's not as rare as one might think given all the different sort of public and private NDAs that exist.
Except to keep in mind of course a few things about deal making:
a) Time kills all deals. It's more true than not.
b) Strike while the iron's is hot. [1]
c) Never make deals without some time pressure on a buyer (leads to "a" and lack of "b"). Either artificial or real. (The "never" of course needs to be qualified for the situation for sure).
d) Don't make open ended offers. Why? Time pressure (managed carefully of course) brings people closer to emotion which can make them overpay for something. Now of course everyone wants a "win win" situation so why does that matter? Because, once again and in general, people are either happy with what they have negotiated or they are not. Paying 1 billion for Facebook or 3 billion, assuming the same outcome as we have, would still be viewed as a good deal.
All of the above is generality of course and obviously specifics of the situation do matter.
[1] Go at lightning speed and don't delay. Things do happen to people you are dealing with. Health, accidents, life changes all sorts of things. (Example is Lewis Katz who perished in a plane accident about a week after closing his newspaper purchase). Oh yeah, stock market and general business climate as well. Don't play games and don't delay (other than if you are using it as a strategy of course).
However most businesses, traditional ones, and even ones that are on the web, don't have that leverage. They will get literally one ready willing and able suitor who comes along (and will pay a good dollar) and so they will have to take advantage of that opportunity. I'm not talking about people accomplished enough to be able to hire investment bankers to shop their business.
It's not that I disagree that much with what you are saying and obviously you shouldn't spend a great deal of time on this either.
Lastly people tend to feel as if they could sell at any time maybe perhaps because they've had some inquiries from time to time.
Obviously there is no disagreement as far as working on the fundamentals of the business. Otoh if your intention is to sell there are many things you can do to package your business to make it more attractive to buyers along the way.
I think it's like this:
- There's a base level of prep for acquisition that just falls under the category of "good operational cadence for a company". This is the basic level of keeping the books clean, organizing your papers, etc.
- Then there's a level of prep that it makes sense to do when you think you are getting close to a term sheet, or planning to start to actively seek acquisition. This is the much more detailed indexing of contracts, covenants, tracking down old shareholders, etc. Hopefully if you did the above point, this is made easier, since you're at least storing everything in one place
- Then in the DD phase, there's going to be requests that you just can't prepare for, because they're out of left-field. If you've done #1 and #2, you can invest most of your efforts on those.
But to your point:
> If a deal is worth doing, it's probably not going to live or die based on how many tens of thousands of dollars you can whittle off closing costs.
It's almost never a matter of closing costs. It's a matter of momentum and risk. Yes, if a company is 100% convinced that they absolutely must have your technology/customers/IP/whatever, they'll overlook many many flaws.
But, if you go into the due diligence process and things are overly messy, it throws up red flags and creates delays, neither of which are in the entrepreneurs favor.
The DD folks and legal counsel for the acquirer are there to be a voice of reason and caution - the messier things are, the more likely they are to start cautioning the acquirer. Typically, the corp dev guys are raring at the bit, since this is what they're there to do. Legal is meant to act as the countervailing weight to that.
Risk is unlikely to kill the deal outright, but it could delay things and create uncertainty in the acquirer. All of a sudden they start talking about putting an extra 10-15% in escrow, or doing an earn-out instead of a straight acquisition, as a hedge. Or they decide they want to interview a few more customers before they pull the trigger.
Which is where delay comes in - the longer the interval between term sheet and deal signing, the worse off for the startup. Not because of the legal costs, but because:
- it's disruptive to the business - your whole life becomes dealing with due diligence, not to mention the stress level
- it gives the acquirer the chance to rethink their decision or consider another route
- business conditions could change - your biggest competitor goes up for sale at a bargain basement price
So, in the end, you're not optimizing for cost, and prepping for DD is definitely not worth doing pre-product or at the expense of building your business. But it does reduce risk and improve the likelihood of deal close once you get to that point.
It all comes down to how best to spend your time. Is every minute spent pre-organizing stuff for a probability of a DD better spent in front of customers or with your engineering team? If so, then don't be too concerned too early. Of course, if the exit plan from the day 1 is to sell to a larger shop, then get those books/records in order from the get go.
There's usually some leeway in the strength of the representations and warrants. As seller you want them as weak as possible. You want minimal grounds for the buyer to come back later and claim, "You promised X would be true but it turned out not to be; and you agreed you'd make us whole". Instead you want the deal to be done so you can move on with your life.
The more complete your due diligence materials, probably the more you can negotiate the R&Ws to be milder and more reasonable for you. Or even if you can't, at least the R&Ws are covering less unknown territory.
Whereas if you have big holes in your documentation, naturally the buyer will want you to be on the hook for surprises, and may require some proceeds to be set aside in escrow, or whatever.
This is tangential to the core of the article but I can't stress enough how true this is. In the two companies I've co-founded, we've been approached for partnerships by huge companies (Oracle and Adobe) and tiny, 1-person, pre-revenue shops. In almost every instance, it's been a net loss in time and money. The tiny shops just want help making inroads into your industry and customer base. The huge companies just want to show they have "partners" to their direct reports or sales leads. They'll ask you to build out some integrations (on your dime) and scrap the entire project 6 months later (true story). To them, it's a rounding error but to a startup, the financial and opportunity costs can really hurt. There's a reason Gail Goodman calls partnerships a "mirage" [0].
It's great that this call turned into an acquisition for Perfect Audience. I would advise everyone to take Brad's advice: take the call and maybe a meeting–but just one. Unless the meeting goes well and the strategic fit is too obvious to ignore, just say "no" to partnerships.
[0] VIDEO: http://pawel.ch/post/71104054756/the-long-slow-saas-ramp-of-... [0] TRANSCRIPT: http://businessofsoftware.org/2012/10/gail-goodman-the-long-...
With your limited investible resources, you have to decide and direct where you will invest them.
Not using partners to extend your offering or distribute your offering means you are reinventing the wheel trying to meet customer demand or trying to reaching every single customer in the world with your own people and dollars. Good luck with that.
My main point was directed at people who are new at this. I've been there and I can smell a bad partnership right away (and most of them stink). But when you're new at this, it's an easy trap to fall into. Big companies dangle their customer base in front of you ("Wouldn't you love to get your product in front of our $HUGE_NUMBER customers?"). When you're new at this and deep in the slog of trying to grow your startup, that's a hard thing to resist.
(btw, I don't consider having an affiliate program part of partnerships)
Distributors have not succeeded with SaaS yet because SaaS is intrinsically intractable to distribute. If the customer has to come back ultimately to the manufacturer (aka ISV) who will then insist on controlling the billing and customer service relationships, then the distributor has no opportunity for brand or margin.
Also, generally it is not a good idea to work with a "distributor" that has no experience retailing your type of products.
We talk about this a lot within the trade association (Disclosure: I'm on the board, as is Constant Contact) if you're interested.
But affiliate programs are not strategic partnerships or biz dev. Sorry.
Also, while I agree that distribution partnerships are bad for SaaS startups, it's not that cut and dry. Not everyone will approach you for a distribution partnership because they want margin or affiliate fees. Like I said, big companies often just want to slap partner logos on a web page or brochure. It is just a nice sounding bullet point for their enterprise sales people ("Look, we have over 40 integration partners here at Hooli").
Again, the comments here seem to back-up my side of the argument.
If a company has a defined (preferably proven) partnership program that allows other companies to "attach", there's an outside shot of at least getting underway. But, if the partnership is novel and the product of a conversation along the lines of "Hey, we have synergy. Why don't we X?", then the partnership is pretty much toast.
I've lived it too many times.
This is distracting from your core product and your evolution and scaling of that core product. I have never seen it, across both working at Perfect Audience and as a consultant before that, be worth it when you are working on something small, ie a startup.
NB I've never been at a company where that 1% of the times happened. I could be over-estimating its importance.
If you get people coming to your startup from a Cisco or IBM, though, they will totally think that partnerships are the magic answer to every problem. I suspect in their experience they work more than 1% of the time.
>This is tangential to the core of the article but I can't stress enough how true this is.
Agreed. I'm in a different business—I do grant writing consulting for nonprofit and public agencies—but the line was so important that I immediately emphasized it in a blog post (http://jseliger.wordpress.com/2014/06/06/in-business-there-a...), before even reading this thread.
Even if you assumed that the 12 non-founder employees equally split 50% of the company (which is almost certainly high), likely none would net $1 million after exercising their options and paying taxes. What's worse: the vast majority of this deal was paid for in stock. The Marin Software stock chart over the past two years is not very inspiring, which is especially interesting given how good the market has been to so many other tech/software companies. In an all or mostly stock deal involving a public company, you are ideally acquired by a company with a rich valuation. That's not the case here.
The $2.7 million in equity retention grants, if split equally amongst 12 employees, adds $225,000 for each, but that too is stock and the employees have to stick around and work for it. I don't know much about the acquirer, but working for stock that has for some reason languished during one of the most impressive bull markets in history isn't a very compelling proposition.
This all seems lost on the founder of the company. I can't help but wonder if it's lost on the employees too.
and this isn't a commentary that people shouldn't get involved in startups, but mentoring junior folks I just see a lot of $$$ in their eyes thinking they will hit whatapp type exits when in reality it is in a very good case scenario similar to what is described above.
That said, I have a pretty deep background in markets and trading, and can think of all kinds of reasons a stock might not move higher in the first year after its IPO while other stocks in the same sector have rallied, none of which include "it's a bad company." A value-minded investor (of which I am not necessarily one, but it's another perspective) would be happier to get the stock at a lower price than a higher one.
No, I was not born yesterday, and yes, I'm happy with the deal even given its attendant risks.
If the Perfect Audience deal was all cash, and each employee netted $750,000, how many employees do you think would go out and purchase $750,000 in Marin Software stock?
When employees fail to cash out as soon as they're able, they are effectively investing their money in their new employer. The challenge for rank-and-file employees who hold stock in a company with a languishing stock price is that they often start to think about hypothetical gains. "My stock is worth $600,000 today, but once the market realizes how great the company is, the stock price could double and I'll be a millionaire."
This thinking is especially appealing when you haven't netted millions from an acquisition because six or low seven figures really isn't as life-changing as many believe it will be. Heck, in the most desirable parts of the Bay Area, $750,000 won't even buy you a "starter home."
I'm sure lots of startup employees make a hash of things when they're first presented with an uncertain windfall in the form of restricted stock. It's a risk we're all aware of and need to manage for ourselves, but that doesn't mean we've somehow been dealt a raw deal.
My response to you simply observed that when employees fail to convert their stock to cash as soon as possible, they are effectively investing the proceeds of a capital gain in the stock of their new employer.
You mentioned that you had a deep background in markets and trading, so I'm sure you're well aware that lots of very intelligent people make irrational investment decisions. With that in mind, you might want to consider that the number of people who opted not to immediately cash out stock received in an acquisition (betting that it would be worth more in the near future) far exceeds the number of people who took all their cash from an all-cash acquisition and purchased stock in their acquirer in the open market. This is a result of perception, not logic.
I wonder if it would be better (from a financial perspective) to work at a job with a higher salary and no stock options, then invest the additional salary in a number of early stage startups?
This said, if you're going to earn a high salary as an employee and want to invest heavily, I don't know why you would focus on startups. Most fail, it can take years for the equity to be liquid if ever, the equity is extremely vulnerable, valuations are currently exorbitant, and you can only bet in one direction. The public equities markets are far more attractive.
I realize that VCs like to take the lion's share, but even with what remains most of the stories I hear are of founders taking large payouts while employees get relatively little.
I applaud Perfect Audience for recognizing the value of employees and allowing them to participate in the windfall.
That said most employees make out reasonably through a combination of options & golden handcuffs.
And that's the way it works in most of the world. The SV approach of giving early employees shares as an incentive is actually fairly tech-centric. Whoever heard of a restaurant's first waiter getting shares in the business?
However what I'm talking about is something different -- e.g. language in options contracts that cause you lose your shares if you leave the company unless you immediately exercise them, which most people are not in a financial position to do. This has caused many early employees to lose out on windfalls that would have been theirs if they had the same terms as founders (actual vested equity).
Anecdotal there are stories of the early janitor getting stock (or something like that) as if they wouldn't work for just a salary.
The line that I've heard is that it's a way to get people to work for less money than they would get paid if they didn't get equity. [1] But is this really true and how often in actual practice? (Comments?). I mean in a way if it is true you are taking advantage of the naivete of "the janitor" or "admin assistant" who may not even have a clue at all the probability of that equity even being worth anything at all. Because all they know about is what they read of the big wins that everyone talks about and they think they might actually stand a good chance of hitting the jackpot. Why is this right? To me it isn't (even if you believe it yourself as a founder).
Separately with domain name deals there is always a push on the part of sellers that I have noticed to try to get some upside equity when selling what they consider to be a valuable name. In general since the seller isn't taking that much of a haircut on the price anyway it's is usually a bad idea. It's almost pure upside with nominal downside.
[1] Along the lines of your comment "Whoever heard of a restaurant's first waiter" that would be the almost equivalent of the admin assistant or maybe customer service rep. Otoh anyone can easily see a new restaurant offering equity to people who work in the kitchen. Especially the the person in the kitchen (or several) need to be lured away from another job they are at.
An alternative, more progressive position is that all workers should be entitled to some ownership of the fruits of their labour. That is to say, everyone involved in an enterprise, no matter how big or small, is entitled to receive ownership proportional to the impact of their contribution to the success of the endeavor. In this world view there is no division between owners and employees, and unearned rents are minimized.
This is really a philosophical / moral / political debate.
There are some seductive ideas in communism, but making ownership a function of direct contribution sure as hell isn't one of them. The fact that the setup is biased towards owners is the very reason why so many people go and try to start their own business.
Starting your own business and making it successful is extremely hard and risky work. The entire point of putting that hard work in is that at the end of the day, you own the system, and can retire on the fruits of the system you gave birth to.
If ownership decreased to be a proportion of direct contribution, apart from the fact that it'd be very hard to measure that, it would also demotivate most entrepreneurs, myself included, from lifting a finger to start a new business.
There's a marked difference between everyone owns the labor and everyone owns their labor. You don't even have to check the history books. There are plenty of examples of functional, profitable, worker-owned cooperatives in the wild today.
And, in fact, while it might surprise many people on HN, there are many people who are quite satisfied with working for someone else and collecting a paycheck without all the worry and uncertainty that comes with owning a business. (And I'm excluding the people who talk a good game and say they'd like to be their own boss but would never even come close to actually taking the chance or pulling the trigger..)
"If ownership decreased to be a proportion of direct contribution, apart from the fact that it'd be very hard to measure that"
I'd say it would actually be near impossible to measure that actually. And even if you could measure it if it diluted the owners equity to the point where it didn't pay them to operate the business it wouldn't even matter.
I'm reminded a a guy, quite valuable, who worked for me many years ago in another business. After working for 3 months he walked in and asked for some ownership. Although I viewed him as quite valuable I said no, that I'd pay him more but I wasn't going to give him ownership (various reasons for this). Part (and only part) of my logic was that first he wasn't going to pay in for the equity (he just wanted it) and also if the business failed he could just walk away and get a job elsewhere. So he could afford to take risks and chances that I couldn't take.
For a very short period (between businesses) I worked for another company and remember how I couldn't believe how different it was than being the owner. All sorts of things that I had worried about as owner didn't matter anymore as an employee. It was almost like being on a vacation it was that easy.
But you don't have to divide it as "owners" and "employees". The underlying category is the division between those who favor high-risk-uncertain-reward, and those who favor safety-and-salary. I'd argue the varied risk profile is rooted in the psychology of economic participants instead of being born of any classism. The employee that wants to be an owner can be an owner. The owner that wants to be an employee can be an employee.
>An alternative, more progressive position is that all workers should be entitled to some ownership of the fruits of their labour. That is to say, everyone involved in an enterprise, no matter how big or small, is entitled to receive ownership proportional to the impact of their contribution
These types of appeals always leave out the other major factor: owner's capital at risk. We want the workers to get benefits of ownership but never discuss how employees should also bear the same financial risks as the owners. It's an incomplete call to action. The founders/owners are the ones depleting their life savings and maxing out their credit cards to help fund their (sometimes crazy) business idea. If the business goes bust, is there any realistic discussion of employees giving back their salary to help pay off creditors? Of course not. (And rightfully so; the employees took a salary and don't want to deal with any of that -- that's the owner's problem!) The discussion only talks of employees benefiting from additional upside without taking on any additional downside.
If the business was inherited, I can be more aligned with employees sharing more upside. If Joe Dilettante owns business he got from dad, he could run it into the ground without competent employees keeping things profitable. However, since this is Hacker News and the "startup" crowd, we're usually talking about creating businesses from scratch.
> In this world view there is no division between owners and employees,
There already is no division. If an employee wants to be an owner, he can do so. For California, here are the forms:
http://www.sos.ca.gov/business/be/forms.htm
Pointing out those forms is not a snark. I'm emphasizing that there is no "classism" preventing anyone who happens to be an employee now from becoming an owner tomorrow. Submit those forms, and go create wealth. Instead of asking for ownership percentage from other owners, you can simply get the State of California to grant you ownership of your own company. You give ownership to yourself. The avenues of ownership are already available to everyone.
Is this not in the spirit of the Hacker News demographic or am I reading things wrong?
If they take on a below market salary and or additional risk exposure in join a startup they should negotiate a package (be it options or otherwise) that adjusts for that.
Obviously you can argue that employees are in a weak negotiating position; but largely the tech sector in major hubs is skewed in favour of employees with a significant range of employers (run from tech giants to new startups). If a particular company isn't willing to offer a compensation package that satisfies you then there are countless other potential employers.
(and you can obviously start your own company as well)
You've obviously never worked as an early employee at a startup. Pay is never equal or even close to what you'd get at typical big company. Typically that's explained to be because you get equity -- often a pitifully small set of options which if you do the math you'd realize probably wouldn't equal the difference in salary over 4-5 years in anything but the most wildly optimistic scenarios. (The OP's employees' windfall is probably break-even with their opportunity costs.)
>Yes and they get a salary for this like they would at any other company.
> If they take on a below market salary and or additional risk exposure in join a startup they should negotiate a package (be it options or otherwise) that adjusts for that.
Founders hold the majority of the stock because they "created" the corporation. When it's time to hire employees, presumably they have some money as well. If a company wants to hire someone, they offer some combination of benefits, equity, and salary that the new employee finds reasonably compelling. Early employees at startups are typically (1) engineers and (2) relatively inexperienced, thus they don't negotiate very large compensation packages.
Employees are making the implicit decision to favor salary and a more certain (not very much more certain) over a disproportionate amount of equity. For every startup that actually hires multiple employees, there are probably 10 more where the equity is worthless.
That's not to say that you can't design more equitable arrangement within the current system. For example, you can allocate an order of magnitude fewer shares than are issued, and each quarter do equity "bonuses" of an amount totaling 1% of the allocated shares so far. In other words, ownership percentage of the company for founders + employees would decay with a half-life of about 17 years. (You'd need protections of investor shares against this dilution to make it acceptable of course.)
You can play with the numbers of course, but the idea is to have long-term ownership reflect an employees honest contribution (determined by relative bonus size vs. the size of the company), and eventually over time even out disproportionate allocations from early on.
Other systems are possible. The fact that founders and investors don't explore them is easily explained: the current system is heavily weighted in their benefit, so why bother?
I'm not arguing that employee equity valuation can't be abusive. It often is. Dishonesty is dishonesty regardless of who shoulders the risks. But if you're a founder and you're transparent and honest, the market does a pretty solid job of allocating upside.
And that's all I'm arguing. It often is abusive, and it shouldn't be. Of course one of the problems is that young coders just out of college looking at the startup scene (typically the only people to make the sacrifices necessary to be first employees, because of a lack of other commitments) don't know that they are getting a raw deal.
So I make posts like this on HN, in the hopes they someone might read it and choose differently.
I agree that because almost all startup candidate employees don't do this, equity can be exploitative.
But by the same token, most engineers don't know how to negotiate salary, and will lose even more money as a result.
The potential employee programmer knows more than the employer about how good his skills actually are and how dedicated he will be which can affect the value of Y.
Come up with "weak", "normal", and "blowout" revenue numbers for 1 year, 2 years, 4 years. You'll probably have to both ask your prospective employer and do a little research, but these aren't sensitive numbers. If the startup you're applying for can't tell you what "the number" is, they're doing it wrong, and you should be wary. You only really need one set of numbers; then discount (say 50%) for "weak", and premium (say 100%) for "blowout".
Now you have a spreadsheet with 3 columns for the years by 3 rows for the scenarios.
Do another grid below that for "deal size" (again by the three years). Instead of "weak", "normal", "blowout", do "2x", "5x", "10x" (crazy successful startups beat 10x, but it's in reality silly to do financial planning based even on a 5x return). Fill the cells in the grid with revenue x2, x5, x10; that's total deal size.
Subtract from each cell the amount the company has taken in funding (prefs might be even worse than that, but just assume 1x).
Now take the % of the company you're getting in equity and work out your take.
Divide each of those "take home" cells by 4, because that's how long you have to work to get all your shares.
If you want to get a little fancier:
If they haven't taken an A round, ding your equity by some % in year 1.
If they haven't taken a B round, ding your equity by some % in year 2.
What about companies that have no or low revenue?
That is what a prospective employee is being asked to do when they take equity in lieu of market salary: invest in company shares.
If a company wouldn't tell me what the prefs were, I'd just assume 2-3x participating.
Employees also typically also get refresher equity grants, eg. my initial options package at Google was worth less than half the total equity I received in my 5 years there. And new stock is issued in fundraising events, so ownership percentage of the company does tend to decay with a half-life of a bit less than 17 years (eg. Bill Gates owned 66% of Microsoft at its founding, had about 26% IIRC in the late 90s, and now owns only about 3-4%).
I think you're completely ignoring the fact that there is a liquid and very competitive market in the founder/labor market. If employees were getting a raw deal at startups, they would quit to become founders, driving down the supply of employees and up the supply of startups until they start getting better equity grants. I've done that; I've been an employee at 2 startups and one big company, and am now founding my second startup. Anecdotally, I know many others who have also bounced between working for startups and founding startups.
I think a more likely explanation is that a massive number of startups die before ever getting their first employee. And so all of those early startup employees who try their hand at being a founder don't actually increase the pool of employing startups very much, and are re-absorbed back into the system as early employees at other startups. If you want a more equitable system, you'd want something where when people quit their jobs, they have a high chance of being able to make it on their own, and there's not a winner-take-all effect where most organizations fail to get traction and the winners absorb those that can't.
But then, that system already exists as well. It's called consulting, and is probably the truest indicator of what an employee's actual market value is.
Some of the more obvious other systems are also legally disfavored. For example American corporate law is really oriented towards equity-based corporations, not workers' cooperatives. This doesn't mean that an alternate legal climate would lead to everyone structuring tech businesses as workers' cooperatives, but the current American legal climate makes it difficult, so fewer are founded than might be the case in a more favorable environment.
That's quite an understatement of what it takes to quit a job with a salary, build an MVP, structure a company, convince people to work with you, and (if you're hiring pre-revenue) convince investors you'll make them money.
The investors shoulder the majority of the risk.
[1] Be very wary of working for founders who haven't put themselves on a vesting schedule, as it will be very tempting for them to put in as little effort as possible since they'll still reap the rewards if things go well.
[1] - http://news.sky.com/story/1126468/yahoo-tumblr-founder-nets-...
It's based on the concept of "ownership." The founders literally own the company. The windfall from selling the company by definition, goes to the owners. That's how it works.
I "own" a car. The mechanic at the shop is the one doing all the grease work of changing the oil and spark plugs etc. But when I sell the car, I (the owner) get the money and not the mechanic. Even though one can argue that the mechanic is the one most responsible for keeping my car running in good enough condition to sell later, I'm still the one who owns the car. The mechanic gets his payment via service fees he charges me. The mechanic getting sweaty and dirty does not grant any ownership of my car. Ownership grants ownership. Substitute car with company. (Presumably, more mechanics happen to own their own cars which makes "ownership" of cars and its ownership benefits much more obvious to the layperson than ownership of companies.)
So, to translate your question in the most direct way, you're asking "why do owners get rewards of M&A but non-owners (such as employees) do not?" If you think of it that way, the question answers itself. It's tautology.
But your question-behind-the-question could then be, "well, why don't the employees get part ownership?" ... and the answer is, they sometimes do! One way is for the "employee" to start their own company. (S Wozniak leaves HP, and S. Jobs doesn't stay with Atari.) The other way is for other owners to grant partial ownership through stock shares (equity). This financial arrangement is almost always a tradeoff because the founder can't afford to pay market rate of full salary. Partial ownership for employees is the dangling carrot compensating for uncompetitive wages. Since established companies like Google Inc and Apple Inc offer competitive wages, they don't need to give new employees partial-ownership of any significant amount.
There are many cooperatives where employees all share ownership of the enterprise, http://www.sfgate.com/business/article/Cooperatives-give-new... and this model arguably makes even more sense for knowledge-economy companies that require little in the way of physical capital, and derive the majority of their value from the talents of skilled employees.
Which is why you still have partnerships in business that are 100% service driven - consulting, law firms, etc. Software falls in between because it requires knowledge capital but it does produce something of substance that can be sold and re-sold.
Also, in partnerships you're sharing ownership because you bring something irreplaceable to the table (generally your personal relationships). Front-line developers are usually replaceable as much as they like to think they aren't. Yes, they're more expensive than a factory line worker and you can't just code 40 hours a week and churn out product like a factory worker but you're not irreplaceable. You'll find that the people who AREN'T irreplaceable, either because of some industry or domain knowledge, can usually demand increased equity or profit sharing.
If I am personally bringing $5 million in bookings each year why would I stay at a firm that just pays me a salary when I could just go out on my own. Whereas as a programmer it's not quite as cut and dry.
So the partners aren't irreplaceable I guess but their bookings have such a direct impact to the bottom line that the marginal value of them as a person is almost 100%.
If you are a skilled employee that is responsible for the bulk of a company's scaling, it's easier than ever for you to guarantee enough stock in the company to guarantee your efforts are worthwhile.
If your company isn't compensating you accordingly, you can found your own. If it's true that founders aren't that much more valuable than employees, then you should do ok, right?
You just have to be clear on what the goals of the company are so you know whether you're going to get a cut or not. You also have to decide if its worth it to stick around if there's no incentive to stick around when you're essentially sealing your own fate so to speak.
> Given that the employees are so crucial in building the
> product...
Most likely the product can be created not just by you but also by someone with your skill set. In that case you should definitely expect fair market salary for your effort. If the founders can't afford to pay, they need to raise more cash from investors, not beg professionals for charity.
If the founders are asking you to take a reduced salary, they're really asking you to become an investor, and you should expect that for every dollar reduction in your salary you get that much equity in return.
Money is a very limited commodity in a startup and every dollar you're getting paid is equivalent to a dollar you're not investing in the company. Acquisitions reward investors, whether the investment is time or money.
Or not, depending on the terms of the acquisition or the market price at the point they sell after the IPO.
I was hoping to end with something a bit silly but that people could relate to. Who hasn't announced big news on Facebook before?
A question i have now : now that you've made a company "for the cash and glory", are you going to make a company that truely interests you ?
I'm not saying you can't find interesting things in online advertising company, as i've been in one myself. But every day i spent in that company, i kept asking myself "is this really what i want to do with my skills ? Help selling credit purchase to poor people searching for "debt" on google ?"
A lot has been written on this thread about DD - something I did not know about before. So you have written a great inspirational story, shared something new and sparked debate. Well done and good luck with your next venture!
But in the end, I don't think you can't let this stuff drive you. Gotta live your own life the way you think is right according to how you measure success. And success metrics bound to external factors tend to sap happiness in the end rather than drive it.
I do agree though, let your forebrain help pick your friends carefully. That way you can be the envy of interesting people who make interesting choices.
Or because they want to make a positive impact on the world. Changing the world is just an extreme version of that. Is that an actual reason, or just a rationalization? I don't know, I'm not in the change-the-world camp. (And don't try to continue this like a Socratic Questioning - why, why, why - that is soo passé.)
I know. Absolutes is a very tempting and convincing framework to work withing. Everything-is-X is a popular perspective, from human behaviourist bloggers to language designers.
> People who don't care about what their peers think of them are sociopaths.
And people who are never motivated to eat will soon die. The contention was with the "this is the only motivation, ever", not with the weak version of "sometimes/partly". Don't try to weaken your stance.
EDIT: I re-read the comment I mentioned, and I've changed my mind. The commenter said that our instinctual response is as such, which is probably true for most of us.
I think the point is getting millions of dollars.
I see no problem someone telling others he's not a failure as long as the process to get there was ethical and legal, and in this case he seems to have done more than just that (like giving actual shares to employees).
Congrats.
We ran Matasano for ~7 years before talking to acquirers. At the low points, when the stress was making me continually nauseous, I remember staring out my back window into the yard daydreaming about what it would be like to tell Erin we were selling and the stress was over. When it actually happened, it was the most anticlimactic thing ever. I flew to NYC to sign a zillion documents in a law office. We announced to the team. I went to the airport around 2PM to fly back to Chicago, but a storm took out my flight, so I ended up alone and exhausted at the airport Marriott, eating the worst chicken caesar ever and watching reruns.
The most euphoric part of the whole experience happened ~4 weeks before closing, when the deal was still pretty uncertain, sitting across the table at a sushi place in Rogers Park with Erin talking about what we might do with our kitchen if we actually had some free cash to spend. All the dopamine release happened when the sale was still hypothetical!
Our story hit Facebook too, and I got a flood of comments, but I felt stupid responding to them; so many of my Fb connections aren't technical, it just seemed like, "who cares?".
Another distinction between us and a normal acquisition is that we're run as a subsidiary (this is especially ironic because "acquihire" is an epithet in the valley, and all consulting acquisitions are fundamentally acquihires --- but our acquihire left us with an enormous amount of autonomy). Our acquirer was able to do that in part because they'd already acquired two of the best teams in software security before they snapped us up.
Since we didn't get stripped of our identity or processes when we got acquired, there really wasn't much of a difference in work life before/after, and so no jarring shock after the deal closed. We've had much lower turnover after the deal than we had before it.
Theoretically yes, but I assume at least 40% is getting the brand and your long term contracts (=guaranteed revenue for few years). In startup's acquihire the acquirer often gets rid of brand and existing contracts are not so important.
If the State of Utah Public Pension Department's Gigantic Software Consulting Vendor wants to farm out those 900-page mainframe-style J2EE shitshows to [GIANT SECURITY VENDOR], I'm just fine with that.
Nobody in this field is big enough to deliver all the work. Software security is delivery-constrained. You can be selective about your clients. Be happy about that, and don't worry about the shitty projects body shops are selling.
One of my goals for the new entity is to have a totally clean entity with perfect notes, for eventual acquisition.
Once you are small, no big deal, if you get big you might have a problem at hand. Definitely talk with a professional to make sure you are taking appropriate steps in transferring the IP.
That's likely wrong (at the federal level, at least). Single-owner LLCs are disregarded for tax purposes unless they expressly choose to be treated as corporations, so generally for tax purposes an LLC's owner is treated as directly owning all of the LLC's assets (and as directly earning all of the LLC's income). Contributions to a C-corp are generally tax free (see, e.g., IRC 351). State tax regimes may differ.
Source - I've had the same situation and discussed with a lawyer.
It doesn't have to, but until it does it doesn't own it and can't enforce it. The former LLC owner may own the IP as the successor in interest of the LLC, but even if they were the sole stockholder of the C Corp, that wouldn't give the C Corp any rights at all (it might use the IP because the owner had no interest in enforcing rights against the corp he owns, but that's a tenuous prospect and a dangerous one for other investors.)
> Definitely talk with a professional to make sure you are taking appropriate steps in transferring the IP.
Definitely this, in any case.
Amen. This has been personally the hardest thing for me about being a tech entrepreneur. My friends all assume that overnight I'm going to be the next Zuck (I'm not) and wonder why I don't have time for them. Let's take aside the fact that I'm a fairly privileged person, it doesn't negate the fact that putting my heart and soul into a startup, means many of my relationships have taken a back seat. That sucks, but you soon realize the relationships that are most important to you will ultimately wait.
Well after that experience when other big tech firms reach out .. one recently asking let us understand how your technology works. I'm like HA screw you!
Partnerships are a time sink. One that could go nowhere, get you feeling squashed like a bug or actually provide a win.
Though that's how it all goes with this entrepreneurship game. Game on!
http://www.epiclaw.net/2011/01/10/beware-work-made-hire-lang...
https://www.elance.com/q/sites/default/files/page_pdf/legal/...
You would want to check they're not using code they don't own, of course. The agreements bans it without disclosure, but in practice I'm sure many elance contractors use GNU code without mentioning it.
Ok I won't quit the day job(startup). But seriously I wonder how much the employees actually got. Any guesses?
> Having only raised $1 million in funding, the vast majority of the deal proceeds would go to employees. Also, a significant piece of the deal—more than 10 percent—had been set aside for restricted stock for them.
It mentions 12 employees, so if you figure ($25.5m - $1m) * 10%) / 12 = about $204,000/per person in stock. We can only speculate about the non-stock allocation.
That wording seems indicate over 50%? Or am I missing something?
Nicely done and congrats.
This is what the Internet does, and for better or worse, I hope my (advertised) speculation[1] what taken in the vein it was offered - without judgement or malice.
Now that we know more about the deal, I'd like to add my congratulations to you and the employees. I've sold two companies (well ... my part of them) so I know the anxiety that comes right before and right after the sale. It sounds like you've made a very wise decision and I wish you the best as part of Marin.
"... it became clear that ad retargeting—in which you show ads to people who recently visited your website—was where MARKETEERING dollars were going" (emphasis mine).
That's an interesting turn of phrase: it evokes Disney's Imagineers, who can be loosely said to be engineers with a heavily creative bent, and applies it to the act of marketing, thereby implying a more heavily creative and technically adept form of "marketer". I wonder if "X-eer" is an inchoate language trend?
Mountaineer: first use 1600s (http://www.etymonline.com/index.php?term=mountaineer&allowed...)
Pamphleteer: first use 1640s (http://www.etymonline.com/index.php?term=pamphleteer&allowed...)
Auctioneer: first use 1708 (http://www.etymonline.com/index.php?term=auctioneer&allowed_...)
Profiteer: first use 1910-1915 (http://dictionary.reference.com/browse/profiteer)
There are even earlier examples in English (pioneer and charioteer, for instance), but those didn't come from adding "-eer" to an activity; they were loanwords (http://en.wikipedia.org/wiki/Loanword) from other languages, like Old French, which used "-ier", "-eur" and "-aire" the way we use "-eer" today. (So charioteer, for instance, started out as charioteur.) Once the words were adopted by English, the spelling migrated to the form we know today.
>Perfect Audience started as an ad design product called >NowSpots, which was itself spun out of a previous company >called Windy Citizen, a local news aggregator that I >bootstrapped (entrepreneur speak for self-financed).
Not sure how I feel about that. Section 8 is supposed to help people who are struggling, not subsidize early-stage startups.
I guess it's probably a net gain for the economy, but you should strongly consider giving back and donating some of your money to groups that help underprivileged families in Chicago.
If you're in a position where you could easily go get a high paying job, but instead you choose to go on public assistance so you can focus on your startup, I'm not sure why I as a taxpayer should be subsidizing that.
Edit: By title I meant subtitle. I think it was changed on HN.