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Do you mind elaborating a bit more on this concept? In such a scenario, why would investors ever want to put money in a company if the bulk of the value came v

Do you mind elaborating a bit more on this concept? In such a scenario, why would investors ever want to put money in a company if the bulk of the value came via retention packages (which they can't tap into), as opposed to the per-share purchase price (which they can tap into)? I am talking about investors who put money in "clean deals", so 1X liquidation preferences, non-participating, which from what I've seen in the Bay Area is fairly standard. If the terms are clean (assumption above), common holders not making any money on a $1B acquisition would just mean that investors will at best recoup all their original capital, without any meaningful return, so why bother? I understand that the investors have a lot of money to play with and can afford to lose a good chunk of it, but in the scenario you are picturing they would get screwed even when the company itself becomes a massive success (as defined by the $1B acquisition), which is exactly the needle in the haystack they look for. Am I missing something? Are there some obvious ways through which investors with 1X preferences can make a lot of money while wiping out common holders?

zamfi 8y ago
I don't know why investors would want to put money into such a company, if they knew a priori what would happen. But I'm not saying "common holders make no money" in literal terms. A $1B acquisition might look like $100-500M stock consideration, certainly not nothing. It happens because, these days, founders often retain control of shares and board even all the way up to billion-dollar acquisitions, and their incentive to share all (or even most) of that acquisition money with their investors is, frankly, not that high -- the investors would rather a deal go through than the company fail, and they don't have enough control to dictate terms. The acquiring company cares most about the product (often) and about retaining key talent, not how much the investors get. So, in a founder-controlled startup, no one who has power over an acquisition has a strong incentive to reward shareholders. Perhaps this is an inevitable result of founder control, and will cause the pendulum to swing back the other way? Anyway, it's worth noting that this doesn't apply to IPOs.
- deanmoriarty 8y ago
  > It happens because, these days, founders often retain control of shares and board even all the way up to billion-dollar acquisitions That's the part I was missing. I know of a few companies currently valued at > $500M, and for all of them the founders still own about ~15-20% (together), and the investors across all rounds (usually they are at a Series D stage) have enough equity (50%+) and voting seats to basically not just let the founders do whatever they want, and these companies are very healthy business wise. It's just the standard cost of taking every new round with a 15-20% dilution, it really doesn't take that much to lose the majority. I assume that in order to raise money at terms much more favorable than these, the company must be doing incredibly well, to the point where the investors are going to think "well, this company is going to get so big that I'll make big bucks anyway". Not all companies that sell in the high 9 figures can command such privileged treatment from investors, in my opinion. And in some cases, the investors-founders relationship is not necessarily adversarial, several seasoned entrepreneurs raise money from investors with whom they've been cultivating deep business relationships over the years, so they definitely have a "common goal" even if technically one could screw the other. Of course this might not happen with a more naive 20-something startup founder, who might get eaten alive by investors. But I take your data point as very interesting, and something I hadn't considered.
  - zamfi 8y ago
    I don't want to sound like a grouch, but it might be worth noting that the list of ways for founders & investors to devalue common shareholders is quite long. Dilution, recapitalization, you name it. At every investment point, the company (i.e., the controlling interests) have the opportunity to effectively reincorporate and reallocate ownership. Really my point is that ultimately there's a level of good faith action required on the part of both founders and investors in order for even the best case scenarios to yield money for common stockholders. It's one reason why reputation is so important in business. No employment contract you sign with an employer is ever "ironclad", so you do your best to make sure they're reasonable people who understand the value of reputation and that business is "iterative" -- in the game theory sense!
    - roguecoder 8y ago

zamfi 8y ago

I don't know why investors would want to put money into such a company, if they knew a priori what would happen. But I'm not saying "common holders make no money" in literal terms. A $1B acquisition might look like $100-500M stock consideration, certainly not nothing. It happens because, these days, founders often retain control of shares and board even all the way up to billion-dollar acquisitions, and their incentive to share all (or even most) of that acquisition money with their investors is, frankly, not that high -- the investors would rather a deal go through than the company fail, and they don't have enough control to dictate terms. The acquiring company cares most about the product (often) and about retaining key talent, not how much the investors get. So, in a founder-controlled startup, no one who has power over an acquisition has a strong incentive to reward shareholders. Perhaps this is an inevitable result of founder control, and will cause the pendulum to swing back the other way? Anyway, it's worth noting that this doesn't apply to IPOs.

deanmoriarty 8y ago
> It happens because, these days, founders often retain control of shares and board even all the way up to billion-dollar acquisitions That's the part I was missing. I know of a few companies currently valued at > $500M, and for all of them the founders still own about ~15-20% (together), and the investors across all rounds (usually they are at a Series D stage) have enough equity (50%+) and voting seats to basically not just let the founders do whatever they want, and these companies are very healthy business wise. It's just the standard cost of taking every new round with a 15-20% dilution, it really doesn't take that much to lose the majority. I assume that in order to raise money at terms much more favorable than these, the company must be doing incredibly well, to the point where the investors are going to think "well, this company is going to get so big that I'll make big bucks anyway". Not all companies that sell in the high 9 figures can command such privileged treatment from investors, in my opinion. And in some cases, the investors-founders relationship is not necessarily adversarial, several seasoned entrepreneurs raise money from investors with whom they've been cultivating deep business relationships over the years, so they definitely have a "common goal" even if technically one could screw the other. Of course this might not happen with a more naive 20-something startup founder, who might get eaten alive by investors. But I take your data point as very interesting, and something I hadn't considered.
- zamfi 8y ago
  I don't want to sound like a grouch, but it might be worth noting that the list of ways for founders & investors to devalue common shareholders is quite long. Dilution, recapitalization, you name it. At every investment point, the company (i.e., the controlling interests) have the opportunity to effectively reincorporate and reallocate ownership. Really my point is that ultimately there's a level of good faith action required on the part of both founders and investors in order for even the best case scenarios to yield money for common stockholders. It's one reason why reputation is so important in business. No employment contract you sign with an employer is ever "ironclad", so you do your best to make sure they're reasonable people who understand the value of reputation and that business is "iterative" -- in the game theory sense!
  - roguecoder 8y ago