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I've seen this a couple times where the onus is mostly on the later-stage investors. They know the terms, and they know exactly what they need to say to lock ou

I've seen this a couple times where the onus is mostly on the later-stage investors. They know the terms, and they know exactly what they need to say to lock out the earlier stage investors and take over a bigger portion of the round, so they start pushing levers to see what they can get to move, playing on the FUD of the founders that they might not be able to raise from somewhere else. What a terrible place to be put in as a company: A big opportunity you're incredibly excited about, but contingent on you screwing over the people who have helped get you to where you are in a small way. I would encourage any founders who are put in this type of scenario to fight back hard. Investors that are worth their while will respect your loyalty and your refusal to go back on your word. If I were a later-stage investor who proposed something like that and the company came back strong saying, "That's not even on the table, because we're not going to do something below the belt" I would gain additional respect for that company.

founder6564 12y ago
Keep in mind that unless the existing investors actually sign something agreeing to this, it cant happen. Many likely do sign, because they think that getting big-namebrand-investor onboard is worth the haircut. If they don't want to do it, they don't have to. If the company does it anyways, they would have a slam dunk legal case to reclaim their ownership. Majority shareholders diluting minority shareholders for their own benefit is probably the most common business dispute there is.
7Figures2Commas 12y ago
Founders realistically have to pick and choose their battles. If a founder raises a seed round from 10 investors who each invest a five figure amount, and eight of those 10 investors do little to nothing after writing a check, it's difficult to expect the founder to go to bat for them if push comes to shove.
- tptacek 12y ago
  Are you sure you're not moving the goalposts here, like, a lot? If you make a promise, keeping it doesn't constitute "going to bat for someone".
  - 7Figures2Commas 12y ago
    In an ideal world, everyone would honor their agreements. In the real world, the behavior Aaron is describing is happening whether we like it or not. Angel investors who are concerned about their pro rata rights can't pretend that they exist in an ideal world. They can do one of two things: passively accept whatever they get, or take action in an effort to get what they want. If you recognize the motivations of founders (and the pressures they may be put under), it is clear that the behavior of the angels themselves can either incentivize or disincentivize founders when it comes to honoring the obligations they made under different circumstances.
    - idlewords 12y ago
      It's possible to behave ethically in a fallen world. It's not even that hard. Your pose of hard-nosed realism is actually more repugnant than just straight up saying "I'm breaking my agreements because I want to".
      - 7Figures2Commas 12y ago
        > It's possible to behave ethically in a fallen world. You're absolutely right. It is. But as an investor, you are bound to get hurt if you assume that everybody you're conducting business with will do so. Again, you can either deal with the world as it exists, or lament the fact that it isn't perfect. In boxing, fighters are instructed to protect themselves at all times. That approach is a decent one outside of the boxing ring too.
        tptacek 12y ago
        What parts of your life are subject to ethics, then? Is it just investment, or are there are other circumstances where you feel like you have to choose between ethics and the law of the jungle?
        7Figures2Commas 12y ago
        > ...are there are other circumstances where you feel like you have to choose between ethics and the law of the jungle? I can choose to conduct myself in an ethical manner. I can't assume you will do the same. Get it? If you go through life under the mistaken assumption that nobody is willing to hit below the belt, and you never take action to prevent and defend against such blows, you will eventually be hurt. There's nothing wrong with accepting the fact that some folks will play dirty, and please don't fall into the trap of believing that taking action to protect your interests requires you to play dirty too. It doesn't. Once again, if you acknowledge the motivations of other individuals and the pressures they might come under, you are less likely to be caught off guard by actions they might take in response to them. If you adjust your behavior accordingly, you can often incentivize them to do the right thing when they otherwise wouldn't had you acted passively and/or obliviously.
- ScottBurson 12y ago
  If you want to write a contract to the effect that the investor retains pro rata rights provided he/she does X, Y, and Z, you can certainly do that. If the contract doesn't say that, then that wasn't your agreement. -- Ah, I understand. Your comment is addressed to the seed investors, not to the founders. As such, it's a fair point. The question of how the investors should behave is not what we're discussing, though.
tptacek 12y ago
I'm not sure this is such a terrible place for founders to be put in. It's pretty straightforward, as ethical dilemmas go. "Excitement" comes nowhere close to justifying breaking your word.
- chimeracoder 12y ago
  > It's pretty straightforward, as ethical dilemmas go. "Excitement" comes nowhere close to justifying breaking your word. Agreed - this is inexcusable. If you lose an investment because a later-stage investor is keen on you cheating existing investors out of what you already promised them, I'd say you dodged a bullet - you don't want them owning any piece of your company. If your later-stage investors are so keen on working with investors who are willing to renege on their promises and legal obligations to earlier investors, that says something about: (A) The types of entrepreneurs they want to work with (B) How they themselves can expect to be treated in later rounds, when they are now the "earlier investors".
  - btown 12y ago
    And if your Series A investor denies pro-rata rights to your seed round investors, then it should expect to have its pro-rata rights denied in Series B. Which gives this Series A investor a perverse incentive to set up the company to look better in the short term to get it to Series B, rather than it acting in the IPO-timescale long-term interest of your company!
- tomp 12y ago
  It's straightforward as an ethical dilemma, but maybe not as a practical/CEO dilemma. Are you willing to risk the future of your company, your employees and finally, your own future (by failing to raise another round) on keeping your word? Now, of course, if it's such a hot startup that investors are cramming to get into a round, it probably less of a dilemma. But that might not always be the case.
  - tptacek 12y ago
    Yes? I'm still not clear on why this is difficult. The reality is that the decision is probably never between the future of the company and honoring your promises. It would be irrational for an early investor to allow the company to die in order to preserve their percentage stake in a zeroed-out investment. The behavior contemplated in this blog post isn't that dilemma. It's "this conversation with early investors is going to be sticky, and will involve some form of concession to them --- therefore, we're going to exploit their lack of leverage and bulldoze through them." That's unethical. It's not a tragic dilemma. It's being presented with an opportunity to harm someone for your own convenience, and all that's asked of you as a human is to simply not do that.
shalmanese 12y ago
This has traditionally been the role of unions and why YC has morphed itself into a de-facto founders union to better negotiate terms like this across a collective of founders.
otakucode 12y ago
I wouldn't be surprised if this sort of thing were a test. If you're not willing to screw over the earlier investors, you are clearly not ready to manage a large company. Large companies run on 'if I don't do it a competitor will and then we'll lose', not on being good people. Especially considering that white collar crime is very rarely punished, and then only with a slap on the wrist, such crime is expected in such circles.

founder6564 12y ago

Keep in mind that unless the existing investors actually sign something agreeing to this, it cant happen. Many likely do sign, because they think that getting big-namebrand-investor onboard is worth the haircut. If they don't want to do it, they don't have to. If the company does it anyways, they would have a slam dunk legal case to reclaim their ownership. Majority shareholders diluting minority shareholders for their own benefit is probably the most common business dispute there is.

7Figures2Commas 12y ago

Founders realistically have to pick and choose their battles. If a founder raises a seed round from 10 investors who each invest a five figure amount, and eight of those 10 investors do little to nothing after writing a check, it's difficult to expect the founder to go to bat for them if push comes to shove.

tptacek 12y ago
Are you sure you're not moving the goalposts here, like, a lot? If you make a promise, keeping it doesn't constitute "going to bat for someone".
- 7Figures2Commas 12y ago
  In an ideal world, everyone would honor their agreements. In the real world, the behavior Aaron is describing is happening whether we like it or not. Angel investors who are concerned about their pro rata rights can't pretend that they exist in an ideal world. They can do one of two things: passively accept whatever they get, or take action in an effort to get what they want. If you recognize the motivations of founders (and the pressures they may be put under), it is clear that the behavior of the angels themselves can either incentivize or disincentivize founders when it comes to honoring the obligations they made under different circumstances.
  - idlewords 12y ago
    It's possible to behave ethically in a fallen world. It's not even that hard. Your pose of hard-nosed realism is actually more repugnant than just straight up saying "I'm breaking my agreements because I want to".
    - 7Figures2Commas 12y ago
      > It's possible to behave ethically in a fallen world. You're absolutely right. It is. But as an investor, you are bound to get hurt if you assume that everybody you're conducting business with will do so. Again, you can either deal with the world as it exists, or lament the fact that it isn't perfect. In boxing, fighters are instructed to protect themselves at all times. That approach is a decent one outside of the boxing ring too.
      - tptacek 12y ago
        What parts of your life are subject to ethics, then? Is it just investment, or are there are other circumstances where you feel like you have to choose between ethics and the law of the jungle?
        7Figures2Commas 12y ago
        > ...are there are other circumstances where you feel like you have to choose between ethics and the law of the jungle? I can choose to conduct myself in an ethical manner. I can't assume you will do the same. Get it? If you go through life under the mistaken assumption that nobody is willing to hit below the belt, and you never take action to prevent and defend against such blows, you will eventually be hurt. There's nothing wrong with accepting the fact that some folks will play dirty, and please don't fall into the trap of believing that taking action to protect your interests requires you to play dirty too. It doesn't. Once again, if you acknowledge the motivations of other individuals and the pressures they might come under, you are less likely to be caught off guard by actions they might take in response to them. If you adjust your behavior accordingly, you can often incentivize them to do the right thing when they otherwise wouldn't had you acted passively and/or obliviously.
ScottBurson 12y ago
If you want to write a contract to the effect that the investor retains pro rata rights provided he/she does X, Y, and Z, you can certainly do that. If the contract doesn't say that, then that wasn't your agreement. -- Ah, I understand. Your comment is addressed to the seed investors, not to the founders. As such, it's a fair point. The question of how the investors should behave is not what we're discussing, though.

tptacek 12y ago

I'm not sure this is such a terrible place for founders to be put in. It's pretty straightforward, as ethical dilemmas go. "Excitement" comes nowhere close to justifying breaking your word.

chimeracoder 12y ago
> It's pretty straightforward, as ethical dilemmas go. "Excitement" comes nowhere close to justifying breaking your word. Agreed - this is inexcusable. If you lose an investment because a later-stage investor is keen on you cheating existing investors out of what you already promised them, I'd say you dodged a bullet - you don't want them owning any piece of your company. If your later-stage investors are so keen on working with investors who are willing to renege on their promises and legal obligations to earlier investors, that says something about: (A) The types of entrepreneurs they want to work with (B) How they themselves can expect to be treated in later rounds, when they are now the "earlier investors".
- btown 12y ago
  And if your Series A investor denies pro-rata rights to your seed round investors, then it should expect to have its pro-rata rights denied in Series B. Which gives this Series A investor a perverse incentive to set up the company to look better in the short term to get it to Series B, rather than it acting in the IPO-timescale long-term interest of your company!
tomp 12y ago
It's straightforward as an ethical dilemma, but maybe not as a practical/CEO dilemma. Are you willing to risk the future of your company, your employees and finally, your own future (by failing to raise another round) on keeping your word? Now, of course, if it's such a hot startup that investors are cramming to get into a round, it probably less of a dilemma. But that might not always be the case.
- tptacek 12y ago
  Yes? I'm still not clear on why this is difficult. The reality is that the decision is probably never between the future of the company and honoring your promises. It would be irrational for an early investor to allow the company to die in order to preserve their percentage stake in a zeroed-out investment. The behavior contemplated in this blog post isn't that dilemma. It's "this conversation with early investors is going to be sticky, and will involve some form of concession to them --- therefore, we're going to exploit their lack of leverage and bulldoze through them." That's unethical. It's not a tragic dilemma. It's being presented with an opportunity to harm someone for your own convenience, and all that's asked of you as a human is to simply not do that.

shalmanese 12y ago

This has traditionally been the role of unions and why YC has morphed itself into a de-facto founders union to better negotiate terms like this across a collective of founders.

otakucode 12y ago

I wouldn't be surprised if this sort of thing were a test. If you're not willing to screw over the earlier investors, you are clearly not ready to manage a large company. Large companies run on 'if I don't do it a competitor will and then we'll lose', not on being good people. Especially considering that white collar crime is very rarely punished, and then only with a slap on the wrist, such crime is expected in such circles.