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《天使投资》的4F，创业者融资首选 ①创始人Founders是自己最大最早的天使,自己不投,谁敢投 ②亲友(2F=Family & Friends)与合伙人,投资人都锦上添花 ③客户,供应商,伙伴 ④国内活跃商业天使(Fools)有~几百个,有创业经验更宝贵 ⑤ZF,有资源孵化器 ⑥幸运者可获VC/PE,投行,上市融资。不要好高骛远，没上线就让投资人砸钱，拿投资人当傻瓜。
小股赚大钱，大股做大事。
【《天使投资》的 4F】创业者融资首选 ①创始人Founders投自己 ②亲友2F ④商业天使Fools才会锦上添花。//@23Seed:天使本意还是个人行为，行业有#4F# Founder创始人、Family家庭、Friends朋友、Fools傻瓜 之说，也就是说只投熟悉的人或信任的人//对,不熟不做//@惰惰兔:本身就是这样:做自己感觉范围的事 http://bbs.webplus.com/forum.php?mod=viewthread&tid=317
5月8/9/14/15日北上广深沙龙 4个话题 每话题探讨半小时。北京会员建议:在线教育 微博上市 腾讯入股京东,大众点评网 微信创业；沪:互联网金融个人理财 移动互联网创新思维 传统行业如何利用移动互联 融资条款 互联网健康。广:转基因食品 现代农业 众筹 电商 培训 对外汉语
http://bbs.webplus.com/plugin.php?id=xj_event:event_center
创业者融资首选渠道：
①创业者是自己最大最早的天使，更加要学【避险】！
- 初创公司估值十万，可能做个好概念PPT就行；估值一百万,可能做好Demo就有人认可；估值一千万做2~3年有好收入和客户！自己有能力何必找投资者？
- 创业者投入的都是自己的积蓄、经验、智慧、精力、心血、和宝贵光阴，并且要不断强化自己。自己不投，谁敢投？自己不投别人也不会投，其他人也不会青睐的！自己重金出击领投后，其他投资人才会跟投！
- 不要整天泡投资者，或意淫想打败QQ或阿里。让产品和利润说话，让投资者找上们来！
- @迮钧权-互联网分析师：个人建议：互联网创业者应低调务实（非到处路演，认识投资人），巩固好团队，在专业的细分市场做好产品，沉淀技术与验证商业模式，快速试错，找到自己的定位，尝试新的盈利模式。故，有实力的创业者都是拿产品说话，自然过程中资源会向你倾斜，很多天使是没有边际意识的，很可能会倒腾人来做你做的事。
- 如果要烧很多钱像小米 窝窝团 优酷等，你必须有很多前期投资，但找别人投资倒不如好像雷军 古永锵等自己投资自己，风险更低回报更大！但你要找出你的商业计划书需要长期烧钱还是会马上盈利，不要做到两者之间。优酷就是长期烧钱的，长期烧钱就要有很厚的资本，就是说它的技术没有太大相关。
- 乔布斯于86年离开苹果后买了Lucasfilm的图像部门=Pixar！乔布斯基金拥有迪斯尼的7%，是最大的股东。
- 在创业的道路上，如果你真的懂和有经验，不要让不懂的天使或VC加入！
- 人人是天使，创业者是自己最大的天使！求人不如求己！
- 唐：《天使投资》创业者自己是自己的最大的天使投资人！投资自己的小孩是最好的投资！穷爸爸因为有孩子所以可以不富；但富爸爸却认为有孩子才必须富。金钱与亲情爱情可同时兼得，要做好准备，得致力让孩子爱人亲人过得更好。
- @中国电子商务网:最大的天使投资就是你自己，自己都不舍得投钱,凭一个概念去忽悠别人投资，谁敢投你?
- 唐：虽然快乐的创业者未必会带给自己的投资人快乐，但一个焦虑的创业者一定会带给投资人焦虑！建议创业者自食其力，变为自己最大最早的天使投资者！带领其他天使快乐参与！
- 创业者多好高骛远，没上线就让投资人砸钱，拿投资人当傻瓜！
- @Fis：前几天在网上跟创业者聊天，很多都是互联网项目概念期。我问网站上线了没有，他们大多都没上线。我说现在花几百块每月，甚至几十块每月，都可以租用一个VPS或云主机了。自己设计网页，自己编写脚本，自己建数据库。几乎不用什么钱就可以先让网站上线。他们有人不屑得说：“那也叫项目？”
- 哈哈，难道你们的网站，一上线就有几十万上百万访问量吗？非得先让投资人砸钱，一上线就要搞服务器集群？才算是项目？
- 其实，事实很清楚，这些创业者，他们不懂互联网技术，看到现在互联网创业火，也想来凑热闹。他们只有一个IDEA。什么都不会干。只是一心想着从投资人那里弄到钱，没技术，给我招。没市场，给我招。没场地，给我租。没服务器，给我买。哈哈，拿投资人当傻瓜啊。
②亲友(2F)与合伙人，合伙人是创业者外最大的天使。
- @周自强Jason:请问天使唐认为何为“熟”?
- 唐：亲友会雪中送炭，投资者都是锦上添花=识人避险，亲友的钱可无条件，其他人的钱都有条件。但即使共患难易，共富贵难！天使=3F=亲友+Fools蠢人。亲友与投资对象相熟,相互认识一或半辈子；蠢人与创业者素不相识,投资失误或被骗后学变为精明的#商业天使#：将与投资对象一辈子的阅历压缩在几月或一两年,目的与投资对象融入互相圈子,让被投资者的违约成本高过投资额！
- @周自强Jason:有道理。实际上是通过自己的经验和阅历，尽可能客观的评价创业者，认清风险。中国古话叫“知人知面不知心”，好的天使，能够最大限度的看到对方的“真心”。
- 唐：同意经验投资者与创业者可看到对方的真心！但我以前说过，人会因为时间、环境和利益而变，国内制度不全还是要有相互的抵押品！
③客户、供应商、伙伴。
- 巴菲特说产品和营销最重要。但国内成功产品都是山寨，普遍创业者问题在营销，用户才是创业者最大最友善的天使！
- 腾讯是国内最大最成功的天使，帮创业者营销，但代价是卖身！
- 最好的创新一定要有用户需求基础，做技术不管销售的创新被模仿吞噬只是时间问题。
- @老牟的微博:国内山寨盛行，最好的创新一定要有用户需求基础，做技术不管销售的创新被模仿吞噬只是时间问题，用户才是创业者的天使!
④商业天使(Fools) 。
- 国内商业天使(Fools)有可能有几千个，有创业经验的天使更宝贵，活跃的天使可能有几百个，京沪深以外就更加少了。
- 大家都不熟不投，因为《天使投资》要识人+避险，首先你要找到②③④，【电梯推介】你的价值主张，增强互信才行。
- @关灯睡觉2:我认为在中国，不要去特别去找天使投资人，把碰到的每个人都当做天使，以谦卑的心去敬天爱人，自己就成为天使。找天使定要看人,以前作过什么?对这个行业懂不懂，不要和那些只有钱对本行业一窍不通的人浪费时间，那是长着翅膀的鸟人,估计翅膀也是假的
- @天使投资人吴瑞德:在中国务实的天使少的可怜，大多数都是混圈子搞名气和拉项目博概率的
- 乞丐不一定妒忌百万富翁，但肯定妒忌收入更高的乞丐。这个故事告诉我们：没有更高的眼界，你永远停留在现在的高度。（佚名）创业者嫉妒有名但没钱的天使干嘛？创业者和《天使投资》者都是同一条船，因为创业者是自己最大最早的天使投资者！天使都是乞丐，互相争点小钱干嘛？倒不如与VC/PE基金、投行等争点大钱！
- 请看【投资者谎言】
- 唐：如果《天使投资》要普及到中国的中产阶级，变为成熟投资者(sophisticated investor)的投资组合的成分之一，我们首要改变国民对#天使投资者#的误解，误认一定要#很多钱和全职#才可做天使！其实，美国大多天使都是白领打工一族，即没钱也不是全职！就好象炒股是很多人的爱好，但只有极少数才可靠它吃饭！
- 唐：创业者是自己最大最早的《天使投资》者！//@车载打火机:如果家人都不愿意做天使的项目，实在堪忧，但中国更多的是连创始人都不愿出钱单位项目在四处寻找天使//@黄光耀:天使投资是从中国制造到中国创造的助推剂，一个急功近利风气蔓延的国度很难形成正确的天使投资意识。//@王学宗:这才是天使投资的真相
⑤有资源的孵化器，政府和园区可能是国内最大的天使，政府园区有钱，部分VC基金都由政府出资。
- 苏州好有钱，资助创业者做了一百多个没用的APP，忽悠上面。如果我们拿到点钱开发APP就好了，每个赢利不敢保证，但起码不会没人用啊，多浪费啊！苦逼很多有创新有能力的创业者融不到钱，即使中国最NB的天使都解决不了百万创业者的资金需求啦！ZF机构是国内最大最多的天使，但资助创业项目应有绩效考核！
⑥幸运者可获VC/PE、投行、上市融资.
- 要被爱首先要自爱！
- 唐：好项目=1%的好概念+99%的血汗和执行+20%运气和缘分。如果你同行+竞争对手每天工作10小时，你要工作12小时=120%！我可说200%=20小时但这不健康，不可长跑！
- @机械王子之阿道夫安迪:自己工作需达16小时，设备需24小时运转，只能这样做，才会有胜算，同时要记住一点：人算不如天算
- 小富靠智 中富靠德 大富靠命！
我是个草根投资人和创业者的变形金刚。
How Funding Works – Splitting The Equity Pie With Investors
http://fundersandfounders.com/counting-the-people-you-impact/
Anna Vital / May 9, 2013
A hypothetical startup will get about $15,000 from family and friends, about $200,000 from an angel investor three months later, and about $2 Million from a VC another six months later. If all goes well. See how funding works in this infographic:
First, let’s figure out why we are talking about funding as something you need to do. This is not a given. The opposite of funding is “bootstrapping,” the process of funding a startup through your own savings. There are a few companies that bootstrapped for a while until taking investment, like MailChimp and AirBnB.
If you know the basics of how funding works, skim to the end. In this article I am giving the easiest to understand explanation of the process. Let’s start with the basics.
Every time you get funding, you give up a piece of your company. The more funding you get, the more company you give up. That ‘piece of company’ is ‘equity.’ Everyone you give it to becomes a co-owner of your company.
Splitting the Pie
The basic idea behind equity is the splitting of a pie. When you start something, your pie is really small. You have a 100% of a really small, bite-size pie. When you take outside investment and your company grows, your pie becomes bigger. Your slice of the bigger pie will be bigger than your initial bite-size pie.
When Google went public, Larry and Sergey had about 15% of the pie, each. But that 15% was a small slice of a really big pie.
Funding Stages
Let’s look at how a hypothetical startup would get funding.
Idea stage
At first it is just you. You are pretty brilliant, and out of the many ideas you have had, you finally decide that this is the one. You start working on it. The moment you started working, you started creating value. That value will translate into equity later, but since you own 100% of it now, and you are the only person in your still unregistered company, you are not even thinking about equity yet.
Co-Founder Stage
As you start to transform your idea into a physical prototype you realize that it is taking you longer (it almost always does.) You know you could really use another person’s skills. So you look for a co-founder. You find someone who is both enthusiastic and smart. You work together for a couple of days on your idea, and you see that she is adding a lot of value. So you offer them to become a co-founder. But you can’t pay her any money (and if you could, she would become an employee, not a co-founder), so you offer equity in exchange for work (sweat equity.) But how much should you give? 20% – too little? 40%? After all it is YOUR idea that even made this startup happen. But then you realize that your startup is worth practically nothing at this point, and your co-founder is taking a huge risk on it. You also realize that since she will do half of the work, she should get the same as you – 50%. Otherwise, she might be less motivated than you. A true partnership is based on respect. Respect is based on fairness. Anything less than fairness will fall apart eventually. And you want this thing to last. So you give your co-founder 50%.
Soon you realize that the two of you have been eating Ramen noodles three times a day. You need funding. You would prefer to go straight to a VC, but so far you don’t think you have enough of a working product to show, so you start looking at other options.
The Family and Friends Round: You think of putting an ad in the newspaper saying, “Startup investment opportunity.” But your lawyer friend tells you that would violate securities laws. Now you are a “private company,” and asking for money from “the public,” that is people you don’t know would be a “public solicitation,” which is illegal for private companies. So who can you take money from?
1.Accredited investors – People who either have $1 Million in the bank or make $200,000 annually. They are the “sophisticated investors” – that is people who the government thinks are smart enough to decide whether to invest in an ultra-risky company, like yours. What if you don’t know anyone with $1 Million? You are in luck, because there is an exception – friends and family.
2.Family and Friends – Even if your family and friends are not as rich as an investor, you can still accept their cash. That is what you decide to do, since your co-founder has a rich uncle. You give him 5% of the company in exchange for $15,000 cash. Now you can afford room and ramen for another 6 months while building your prototype.
Registering the Company
To give uncle the 5%, you registered the company, either though an online service like LegalZoom ($400), or through a lawyer friend (0$-$2,000). You issued some common stock, gave 5% to uncle and set aside 20% for your future employees – that is the ‘option pool.’ (You did this because 1. Future investors will want an option pool;, 2. That stock is safe from you and your co-founders doing anything with it.)
The Angel Round
With uncle’s cash in pocket and 6 months before it runs out, you realize that you need to start looking for your next funding source right now. If you run out of money, your startup dies. So you look at the options:
1.Incubators, accelerators, and “excubators” – these places often provide cash, working space, and advisors. The cash is tight – about $25,000 (for 5 to 10% of the company.) Some advisors are better than cash, like Paul Graham at Y Combinator.
2.Angels – in 2013 (Q1) the average angel round was $600,000 (from the HALO report). That’s the good news. The bad news is that angels were giving that money to companies that they valued at $2.5 million. So, now you have to ask if you are worth $2.5 million. How do you know? Make your best case. Let’s say it is still early days for you, and your working prototype is not that far along. You find an angel who looks at what you have and thinks that it is worth $1 million. He agrees to invest $200,000.
Now let’s count what percentage of the company you will give to the angel. Not 20%. We have to add the ‘pre-money valuation’ (how much the company is worth before new money comes in) and the investment
$1,000,000 + $200,000= $1,200,000 post-money valuation
(Think of it like this, first you take the money, then you give the shares. If you gave the shares before you added the angel’s investment, you would be dividing what was there before the angel joined. )
Now divide the investment by the post-money valuation $200,000/$1,200,000=1/6= 16.7%
The angel gets 16.7% of the company, or 1/6.
How Funding Works - Cutting the Pie
What about you, your co-founder and uncle? How much do you have left? All of your stakes will be diluted by 1/6. (See the infographic.)
Is dilution bad? No, because your pie is getting bigger with each investment. But, yes, dilution is bad, because you are losing control of your company. So what should you do? Take investment only when it is necessary. Only take money from people you respect. (There are other ways, like buying shares back from employees or the public, but that is further down the road.)
Venture Capital Round
Finally, you have built your first version and you have traction with users. You approach VCs. How much can VCs give you? They invest north of $500,000. Let’s say the VC values what you have now at $4 million. Again, that is your pre-money valuation. He says he wants to invest $2 Million. The math is the same as in the angel round. The VC gets 33.3% of your company. Now it’s his company, too, though.
Your first VC round is your series A. Now you can go on to have series B,C – at some point either of the three things will happen to you. Either you will run out of funding and no one will want to invest, so you die. Or, you get enough funding to build something a bigger company wants to buy, and they acquire you. Or, you do so well that, after many rounds of funding, you decide to go public.
Why Companies Go Public?
There are two basic reasons. Technically an IPO is just another way to raise money, but this time from millions of regular people. Through an IPO a company can sell stocks on the stock market and anyone can buy them. Since anyone can buy you can likely sell a lot of stock right away rather than go to individual investors and ask them to invest. So it sounds like an easier way to get money.
There is another reason to IPO. All those people who have invested in your company so far, including you, are holding the so-called ‘restricted stock’ – basically this is stock that you can’t simply go and sell for cash. Why? Because this is stock of a company that has not been so-to-say “verified by the government,” which is what the IPO process does. Unless the government sees your IPO paperwork, you might as well be selling snake oil, for all people know. So, the government thinks it is not safe to let regular people to invest in such companies. (Of course, that automatically precludes the poor from making high-return investments. But that is another story.) The people who have invested so far want to finally convert or sell their restricted stock and get cash or unrestricted stock, which is almost as good as cash. This is a liquidity event – when what you have becomes easily convertible into cash.
There is another group of people that really want you to IPO. The investment bankers, like Goldman Sachs and Morgan Stanley, to name the most famous ones. They will give you a call and ask to be your lead underwriter – the bank that prepares your IPO paperwork and calls up wealthy clients to sell them your stock. Why are the bankers so eager? Because they get 7% of all the money you raise in the IPO. In this infographic your startup raised $235,000,000 in the IPO – 7% of that is about $16.5 million (for two or three weeks of work for a team of 12 bankers). As you see, it is a win-win for all.
Being an Early Employee at a Startup
Last but not least, some of your “sweat equity” investors were the early employees who took stock in exchange for working at low salaries and living with the risk that your startup might fold. At the IPO it is their cash-out day.
How to Fund a Startup
http://www.paulgraham.com/startupfunding.html
November 2005
Venture funding works like gears. A typical startup goes through several rounds of funding, and at each round you want to take just enough money to reach the speed where you can shift into the next gear.
Few startups get it quite right. Many are underfunded. A few are overfunded, which is like trying to start driving in third gear.
I think it would help founders to understand funding better—not just the mechanics of it, but what investors are thinking. I was surprised recently when I realized that all the worst problems we faced in our startup were due not to competitors, but investors. Dealing with competitors was easy by comparison.
I don't mean to suggest that our investors were nothing but a drag on us. They were helpful in negotiating deals, for example. I mean more that conflicts with investors are particularly nasty. Competitors punch you in the jaw, but investors have you by the balls.
Apparently our situation was not unusual. And if trouble with investors is one of the biggest threats to a startup, managing them is one of the most important skills founders need to learn.
Let's start by talking about the five sources of startup funding. Then we'll trace the life of a hypothetical (very fortunate) startup as it shifts gears through successive rounds.
Friends and Family
A lot of startups get their first funding from friends and family. Excite did, for example: after the founders graduated from college, they borrowed $15,000 from their parents to start a company. With the help of some part-time jobs they made it last 18 months.
If your friends or family happen to be rich, the line blurs between them and angel investors. At Viaweb we got our first $10,000 of seed money from our friend Julian, but he was sufficiently rich that it's hard to say whether he should be classified as a friend or angel. He was also a lawyer, which was great, because it meant we didn't have to pay legal bills out of that initial small sum.
The advantage of raising money from friends and family is that they're easy to find. You already know them. There are three main disadvantages: you mix together your business and personal life; they will probably not be as well connected as angels or venture firms; and they may not be accredited investors, which could complicate your life later.
The SEC defines an "accredited investor" as someone with over a million dollars in liquid assets or an income of over $200,000 a year. The regulatory burden is much lower if a company's shareholders are all accredited investors. Once you take money from the general public you're more restricted in what you can do. [1]
A startup's life will be more complicated, legally, if any of the investors aren't accredited. In an IPO, it might not merely add expense, but change the outcome. A lawyer I asked about it said: When the company goes public, the SEC will carefully study all prior issuances of stock by the company and demand that it take immediate action to cure any past violations of securities laws. Those remedial actions can delay, stall or even kill the IPO. Of course the odds of any given startup doing an IPO are small. But not as small as they might seem. A lot of startups that end up going public didn't seem likely to at first. (Who could have guessed that the company Wozniak and Jobs started in their spare time selling plans for microcomputers would yield one of the biggest IPOs of the decade?) Much of the value of a startup consists of that tiny probability multiplied by the huge outcome.
It wasn't because they weren't accredited investors that I didn't ask my parents for seed money, though. When we were starting Viaweb, I didn't know about the concept of an accredited investor, and didn't stop to think about the value of investors' connections. The reason I didn't take money from my parents was that I didn't want them to lose it.
Consulting
Another way to fund a startup is to get a job. The best sort of job is a consulting project in which you can build whatever software you wanted to sell as a startup. Then you can gradually transform yourself from a consulting company into a product company, and have your clients pay your development expenses.
This is a good plan for someone with kids, because it takes most of the risk out of starting a startup. There never has to be a time when you have no revenues. Risk and reward are usually proportionate, however: you should expect a plan that cuts the risk of starting a startup also to cut the average return. In this case, you trade decreased financial risk for increased risk that your company won't succeed as a startup.
But isn't the consulting company itself a startup? No, not generally. A company has to be more than small and newly founded to be a startup. There are millions of small businesses in America, but only a few thousand are startups. To be a startup, a company has to be a product business, not a service business. By which I mean not that it has to make something physical, but that it has to have one thing it sells to many people, rather than doing custom work for individual clients. Custom work doesn't scale. To be a startup you need to be the band that sells a million copies of a song, not the band that makes money by playing at individual weddings and bar mitzvahs.
The trouble with consulting is that clients have an awkward habit of calling you on the phone. Most startups operate close to the margin of failure, and the distraction of having to deal with clients could be enough to put you over the edge. Especially if you have competitors who get to work full time on just being a startup.
So you have to be very disciplined if you take the consulting route. You have to work actively to prevent your company growing into a "weed tree," dependent on this source of easy but low-margin money. [2]
Indeed, the biggest danger of consulting may be that it gives you an excuse for failure. In a startup, as in grad school, a lot of what ends up driving you are the expectations of your family and friends. Once you start a startup and tell everyone that's what you're doing, you're now on a path labelled "get rich or bust." You now have to get rich, or you've failed.
Fear of failure is an extraordinarily powerful force. Usually it prevents people from starting things, but once you publish some definite ambition, it switches directions and starts working in your favor. I think it's a pretty clever piece of jiujitsu to set this irresistible force against the slightly less immovable object of becoming rich. You won't have it driving you if your stated ambition is merely to start a consulting company that you will one day morph into a startup.
An advantage of consulting, as a way to develop a product, is that you know you're making something at least one customer wants. But if you have what it takes to start a startup you should have sufficient vision not to need this crutch.
Angel Investors
Angels are individual rich people. The word was first used for backers of Broadway plays, but now applies to individual investors generally. Angels who've made money in technology are preferable, for two reasons: they understand your situation, and they're a source of contacts and advice.
The contacts and advice can be more important than the money. When del.icio.us took money from investors, they took money from, among others, Tim O'Reilly. The amount he put in was small compared to the VCs who led the round, but Tim is a smart and influential guy and it's good to have him on your side.
You can do whatever you want with money from consulting or friends and family. With angels we're now talking about venture funding proper, so it's time to introduce the concept of exit strategy. Younger would-be founders are often surprised that investors expect them either to sell the company or go public. The reason is that investors need to get their capital back. They'll only consider companies that have an exit strategy—meaning companies that could get bought or go public.
This is not as selfish as it sounds. There are few large, private technology companies. Those that don't fail all seem to get bought or go public. The reason is that employees are investors too—of their time—and they want just as much to be able to cash out. If your competitors offer employees stock options that might make them rich, while you make it clear you plan to stay private, your competitors will get the best people. So the principle of an "exit" is not just something forced on startups by investors, but part of what it means to be a startup.
Another concept we need to introduce now is valuation. When someone buys shares in a company, that implicitly establishes a value for it. If someone pays $20,000 for 10% of a company, the company is in theory worth $200,000. I say "in theory" because in early stage investing, valuations are voodoo. As a company gets more established, its valuation gets closer to an actual market value. But in a newly founded startup, the valuation number is just an artifact of the respective contributions of everyone involved.
Startups often "pay" investors who will help the company in some way by letting them invest at low valuations. If I had a startup and Steve Jobs wanted to invest in it, I'd give him the stock for $10, just to be able to brag that he was an investor. Unfortunately, it's impractical (if not illegal) to adjust the valuation of the company up and down for each investor. Startups' valuations are supposed to rise over time. So if you're going to sell cheap stock to eminent angels, do it early, when it's natural for the company to have a low valuation.
Some angel investors join together in syndicates. Any city where people start startups will have one or more of them. In Boston the biggest is the Common Angels. In the Bay Area it's the Band of Angels. You can find groups near you through the Angel Capital Association. [3] However, most angel investors don't belong to these groups. In fact, the more prominent the angel, the less likely they are to belong to a group.
Some angel groups charge you money to pitch your idea to them. Needless to say, you should never do this.
One of the dangers of taking investment from individual angels, rather than through an angel group or investment firm, is that they have less reputation to protect. A big-name VC firm will not screw you too outrageously, because other founders would avoid them if word got out. With individual angels you don't have this protection, as we found to our dismay in our own startup. In many startups' lives there comes a point when you're at the investors' mercy—when you're out of money and the only place to get more is your existing investors. When we got into such a scrape, our investors took advantage of it in a way that a name-brand VC probably wouldn't have.
Angels have a corresponding advantage, however: they're also not bound by all the rules that VC firms are. And so they can, for example, allow founders to cash out partially in a funding round, by selling some of their stock directly to the investors. I think this will become more common; the average founder is eager to do it, and selling, say, half a million dollars worth of stock will not, as VCs fear, cause most founders to be any less committed to the business.
The same angels who tried to screw us also let us do this, and so on balance I'm grateful rather than angry. (As in families, relations between founders and investors can be complicated.)
The best way to find angel investors is through personal introductions. You could try to cold-call angel groups near you, but angels, like VCs, will pay more attention to deals recommended by someone they respect.
Deal terms with angels vary a lot. There are no generally accepted standards. Sometimes angels' deal terms are as fearsome as VCs'. Other angels, particularly in the earliest stages, will invest based on a two-page agreement.
Angels who only invest occasionally may not themselves know what terms they want. They just want to invest in this startup. What kind of anti-dilution protection do they want? Hell if they know. In these situations, the deal terms tend to be random: the angel asks his lawyer to create a vanilla agreement, and the terms end up being whatever the lawyer considers vanilla. Which in practice usually means, whatever existing agreement he finds lying around his firm. (Few legal documents are created from scratch.)
These heaps o' boilerplate are a problem for small startups, because they tend to grow into the union of all preceding documents. I know of one startup that got from an angel investor what amounted to a five hundred pound handshake: after deciding to invest, the angel presented them with a 70-page agreement. The startup didn't have enough money to pay a lawyer even to read it, let alone negotiate the terms, so the deal fell through.
One solution to this problem would be to have the startup's lawyer produce the agreement, instead of the angel's. Some angels might balk at this, but others would probably welcome it.
Inexperienced angels often get cold feet when the time comes to write that big check. In our startup, one of the two angels in the initial round took months to pay us, and only did after repeated nagging from our lawyer, who was also, fortunately, his lawyer.
It's obvious why investors delay. Investing in startups is risky! When a company is only two months old, every day you wait gives you 1.7% more data about their trajectory. But the investor is already being compensated for that risk in the low price of the stock, so it is unfair to delay.
Fair or not, investors do it if you let them. Even VCs do it. And funding delays are a big distraction for founders, who ought to be working on their company, not worrying about investors. What's a startup to do? With both investors and acquirers, the only leverage you have is competition. If an investor knows you have other investors lined up, he'll be a lot more eager to close-- and not just because he'll worry about losing the deal, but because if other investors are interested, you must be worth investing in. It's the same with acquisitions. No one wants to buy you till someone else wants to buy you, and then everyone wants to buy you.
The key to closing deals is never to stop pursuing alternatives. When an investor says he wants to invest in you, or an acquirer says they want to buy you, don't believe it till you get the check. Your natural tendency when an investor says yes will be to relax and go back to writing code. Alas, you can't; you have to keep looking for more investors, if only to get this one to act. [4]
Seed Funding Firms
Seed firms are like angels in that they invest relatively small amounts at early stages, but like VCs in that they're companies that do it as a business, rather than individuals making occasional investments on the side.
Till now, nearly all seed firms have been so-called "incubators," so Y Combinator gets called one too, though the only thing we have in common is that we invest in the earliest phase.
According to the National Association of Business Incubators, there are about 800 incubators in the US. This is an astounding number, because I know the founders of a lot of startups, and I can't think of one that began in an incubator.
What is an incubator? I'm not sure myself. The defining quality seems to be that you work in their space. That's where the name "incubator" comes from. They seem to vary a great deal in other respects. At one extreme is the sort of pork-barrel project where a town gets money from the state government to renovate a vacant building as a "high-tech incubator," as if it were merely lack of the right sort of office space that had till now prevented the town from becoming a startup hub. At the other extreme are places like Idealab, which generates ideas for new startups internally and hires people to work for them.
The classic Bubble incubators, most of which now seem to be dead, were like VC firms except that they took a much bigger role in the startups they funded. In addition to working in their space, you were supposed to use their office staff, lawyers, accountants, and so on.
Whereas incubators tend (or tended) to exert more control than VCs, Y Combinator exerts less. And we think it's better if startups operate out of their own premises, however crappy, than the offices of their investors. So it's annoying that we keep getting called an "incubator," but perhaps inevitable, because there's only one of us so far and no word yet for what we are. If we have to be called something, the obvious name would be "excubator." (The name is more excusable if one considers it as meaning that we enable people to escape cubicles.)
Because seed firms are companies rather than individual people, reaching them is easier than reaching angels. Just go to their web site and send them an email. The importance of personal introductions varies, but is less than with angels or VCs.
The fact that seed firms are companies also means the investment process is more standardized. (This is generally true with angel groups too.) Seed firms will probably have set deal terms they use for every startup they fund. The fact that the deal terms are standard doesn't mean they're favorable to you, but if other startups have signed the same agreements and things went well for them, it's a sign the terms are reasonable.
Seed firms differ from angels and VCs in that they invest exclusively in the earliest phases—often when the company is still just an idea. Angels and even VC firms occasionally do this, but they also invest at later stages.
The problems are different in the early stages. For example, in the first couple months a startup may completely redefine their idea. So seed investors usually care less about the idea than the people. This is true of all venture funding, but especially so in the seed stage.
Like VCs, one of the advantages of seed firms is the advice they offer. But because seed firms operate in an earlier phase, they need to offer different kinds of advice. For example, a seed firm should be able to give advice about how to approach VCs, which VCs obviously don't need to do; whereas VCs should be able to give advice about how to hire an "executive team," which is not an issue in the seed stage.
In the earliest phases, a lot of the problems are technical, so seed firms should be able to help with technical as well as business problems.
Seed firms and angel investors generally want to invest in the initial phases of a startup, then hand them off to VC firms for the next round. Occasionally startups go from seed funding direct to acquisition, however, and I expect this to become increasingly common.
Google has been aggressively pursuing this route, and now Yahoo is too. Both now compete directly with VCs. And this is a smart move. Why wait for further funding rounds to jack up a startup's price? When a startup reaches the point where VCs have enough information to invest in it, the acquirer should have enough information to buy it. More information, in fact; with their technical depth, the acquirers should be better at picking winners than VCs.
Venture Capital Funds
VC firms are like seed firms in that they're actual companies, but they invest other people's money, and much larger amounts of it. VC investments average several million dollars. So they tend to come later in the life of a startup, are harder to get, and come with tougher terms.
The word "venture capitalist" is sometimes used loosely for any venture investor, but there is a sharp difference between VCs and other investors: VC firms are organized as funds, much like hedge funds or mutual funds. The fund managers, who are called "general partners," get about 2% of the fund annually as a management fee, plus about 20% of the fund's gains.
There is a very sharp dropoff in performance among VC firms, because in the VC business both success and failure are self-perpetuating. When an investment scores spectacularly, as Google did for Kleiner and Sequoia, it generates a lot of good publicity for the VCs. And many founders prefer to take money from successful VC firms, because of the legitimacy it confers. Hence a vicious (for the losers) cycle: VC firms that have been doing badly will only get the deals the bigger fish have rejected, causing them to continue to do badly.
As a result, of the thousand or so VC funds in the US now, only about 50 are likely to make money, and it is very hard for a new fund to break into this group.
In a sense, the lower-tier VC firms are a bargain for founders. They may not be quite as smart or as well connected as the big-name firms, but they are much hungrier for deals. This means you should be able to get better terms from them.
Better how? The most obvious is valuation: they'll take less of your company. But as well as money, there's power. I think founders will increasingly be able to stay on as CEO, and on terms that will make it fairly hard to fire them later.
The most dramatic change, I predict, is that VCs will allow founders to cash out partially by selling some of their stock direct to the VC firm. VCs have traditionally resisted letting founders get anything before the ultimate "liquidity event." But they're also desperate for deals. And since I know from my own experience that the rule against buying stock from founders is a stupid one, this is a natural place for things to give as venture funding becomes more and more a seller's market.
The disadvantage of taking money from less known firms is that people will assume, correctly or not, that you were turned down by the more exalted ones. But, like where you went to college, the name of your VC stops mattering once you have some performance to measure. So the more confident you are, the less you need a brand-name VC. We funded Viaweb entirely with angel money; it never occurred to us that the backing of a well known VC firm would make us seem more impressive. [5]
Another danger of less known firms is that, like angels, they have less reputation to protect. I suspect it's the lower-tier firms that are responsible for most of the tricks that have given VCs such a bad reputation among hackers. They are doubly hosed: the general partners themselves are less able, and yet they have harder problems to solve, because the top VCs skim off all the best deals, leaving the lower-tier firms exactly the startups that are likely to blow up.
For example, lower-tier firms are much more likely to pretend to want to do a deal with you just to lock you up while they decide if they really want to. One experienced CFO said: The better ones usually will not give a term sheet unless they really want to do a deal. The second or third tier firms have a much higher break rate—it could be as high as 50%. It's obvious why: the lower-tier firms' biggest fear, when chance throws them a bone, is that one of the big dogs will notice and take it away. The big dogs don't have worry about that.
Falling victim to this trick could really hurt you. As one VC told me: If you were talking to four VCs, told three of them that you accepted a term sheet, and then have to call them back to tell them you were just kidding, you are absolutely damaged goods. Here's a partial solution: when a VC offers you a term sheet, ask how many of their last 10 term sheets turned into deals. This will at least force them to lie outright if they want to mislead you.
Not all the people who work at VC firms are partners. Most firms also have a handful of junior employees called something like associates or analysts. If you get a call from a VC firm, go to their web site and check whether the person you talked to is a partner. Odds are it will be a junior person; they scour the web looking for startups their bosses could invest in. The junior people will tend to seem very positive about your company. They're not pretending; they want to believe you're a hot prospect, because it would be a huge coup for them if their firm invested in a company they discovered. Don't be misled by this optimism. It's the partners who decide, and they view things with a colder eye.
Because VCs invest large amounts, the money comes with more restrictions. Most only come into effect if the company gets into trouble. For example, VCs generally write it into the deal that in any sale, they get their investment back first. So if the company gets sold at a low price, the founders could get nothing. Some VCs now require that in any sale they get 4x their investment back before the common stock holders (that is, you) get anything, but this is an abuse that should be resisted.
Another difference with large investments is that the founders are usually required to accept "vesting"—to surrender their stock and earn it back over the next 4-5 years. VCs don't want to invest millions in a company the founders could just walk away from. Financially, vesting has little effect, but in some situations it could mean founders will have less power. If VCs got de facto control of the company and fired one of the founders, he'd lose any unvested stock unless there was specific protection against this. So vesting would in that situation force founders to toe the line.
The most noticeable change when a startup takes serious funding is that the founders will no longer have complete control. Ten years ago VCs used to insist that founders step down as CEO and hand the job over to a business guy they supplied. This is less the rule now, partly because the disasters of the Bubble showed that generic business guys don't make such great CEOs.
But while founders will increasingly be able to stay on as CEO, they'll have to cede some power, because the board of directors will become more powerful. In the seed stage, the board is generally a formality; if you want to talk to the other board members, you just yell into the next room. This stops with VC-scale money. In a typical VC funding deal, the board of directors might be composed of two VCs, two founders, and one outside person acceptable to both. The board will have ultimate power, which means the founders now have to convince instead of commanding.
This is not as bad as it sounds, however. Bill Gates is in the same position; he doesn't have majority control of Microsoft; in principle he also has to convince instead of commanding. And yet he seems pretty commanding, doesn't he? As long as things are going smoothly, boards don't interfere much. The danger comes when there's a bump in the road, as happened to Steve Jobs at Apple.
Like angels, VCs prefer to invest in deals that come to them through people they know. So while nearly all VC funds have some address you can send your business plan to, VCs privately admit the chance of getting funding by this route is near zero. One recently told me that he did not know a single startup that got funded this way.
I suspect VCs accept business plans "over the transom" more as a way to keep tabs on industry trends than as a source of deals. In fact, I would strongly advise against mailing your business plan randomly to VCs, because they treat this as evidence of laziness. Do the extra work of getting personal introductions. As one VC put it: I'm not hard to find. I know a lot of people. If you can't find some way to reach me, how are you going to create a successful company? One of the most difficult problems for startup founders is deciding when to approach VCs. You really only get one chance, because they rely heavily on first impressions. And you can't approach some and save others for later, because (a) they ask who else you've talked to and when and (b) they talk among themselves. If you're talking to one VC and he finds out that you were rejected by another several months ago, you'll definitely seem shopworn.
So when do you approach VCs? When you can convince them. If the founders have impressive resumes and the idea isn't hard to understand, you could approach VCs quite early. Whereas if the founders are unknown and the idea is very novel, you might have to launch the thing and show that users loved it before VCs would be convinced.
If several VCs are interested in you, they will sometimes be willing to split the deal between them. They're more likely to do this if they're close in the VC pecking order. Such deals may be a net win for founders, because you get multiple VCs interested in your success, and you can ask each for advice about the other. One founder I know wrote: Two-firm deals are great. It costs you a little more equity, but being able to play the two firms off each other (as well as ask one if the other is being out of line) is invaluable. When you do negotiate with VCs, remember that they've done this a lot more than you have. They've invested in dozens of startups, whereas this is probably the first you've founded. But don't let them or the situation intimidate you. The average founder is smarter than the average VC. So just do what you'd do in any complex, unfamiliar situation: proceed deliberately, and question anything that seems odd.
It is, unfortunately, common for VCs to put terms in an agreement whose consequences surprise founders later, and also common for VCs to defend things they do by saying that they're standard in the industry. Standard, schmandard; the whole industry is only a few decades old, and rapidly evolving. The concept of "standard" is a useful one when you're operating on a small scale (Y Combinator uses identical terms for every deal because for tiny seed-stage investments it's not worth the overhead of negotiating individual deals), but it doesn't apply at the VC level. On that scale, every negotiation is unique.
Most successful startups get money from more than one of the preceding five sources. [6] And, confusingly, the names of funding sources also tend to be used as the names of different rounds. The best way to explain how it all works is to follow the case of a hypothetical startup.
Stage 1: Seed Round
Our startup begins when a group of three friends have an idea-- either an idea for something they might build, or simply the idea "let's start a company." Presumably they already have some source of food and shelter. But if you have food and shelter, you probably also have something you're supposed to be working on: either classwork, or a job. So if you want to work full-time on a startup, your money situation will probably change too.
A lot of startup founders say they started the company without any idea of what they planned to do. This is actually less common than it seems: many have to claim they thought of the idea after quitting because otherwise their former employer would own it.
The three friends decide to take the leap. Since most startups are in competitive businesses, you not only want to work full-time on them, but more than full-time. So some or all of the friends quit their jobs or leave school. (Some of the founders in a startup can stay in grad school, but at least one has to make the company his full-time job.)
They're going to run the company out of one of their apartments at first, and since they don't have any users they don't have to pay much for infrastructure. Their main expenses are setting up the company, which costs a couple thousand dollars in legal work and registration fees, and the living expenses of the founders.
The phrase "seed investment" covers a broad range. To some VC firms it means $500,000, but to most startups it means several months' living expenses. We'll suppose our group of friends start with $15,000 from their friend's rich uncle, who they give 5% of the company in return. There's only common stock at this stage. They leave 20% as an options pool for later employees (but they set things up so that they can issue this stock to themselves if they get bought early and most is still unissued), and the three founders each get 25%.
By living really cheaply they think they can make the remaining money last five months. When you have five months' runway left, how soon do you need to start looking for your next round? Answer: immediately. It takes time to find investors, and time (always more than you expect) for the deal to close even after they say yes. So if our group of founders know what they're doing they'll start sniffing around for angel investors right away. But of course their main job is to build version 1 of their software.
The friends might have liked to have more money in this first phase, but being slightly underfunded teaches them an important lesson. For a startup, cheapness is power. The lower your costs, the more options you have—not just at this stage, but at every point till you're profitable. When you have a high "burn rate," you're always under time pressure, which means (a) you don't have time for your ideas to evolve, and (b) you're often forced to take deals you don't like.
Every startup's rule should be: spend little, and work fast.
After ten weeks' work the three friends have built a prototype that gives one a taste of what their product will do. It's not what they originally set out to do—in the process of writing it, they had some new ideas. And it only does a fraction of what the finished product will do, but that fraction includes stuff that no one else has done before.
They've also written at least a skeleton business plan, addressing the five fundamental questions: what they're going to do, why users need it, how large the market is, how they'll make money, and who the competitors are and why this company is going to beat them. (That last has to be more specific than "they suck" or "we'll work really hard.")
If you have to choose between spending time on the demo or the business plan, spend most on the demo. Software is not only more convincing, but a better way to explore ideas.
Stage 2: Angel Round
While writing the prototype, the group has been traversing their network of friends in search of angel investors. They find some just as the prototype is demoable. When they demo it, one of the angels is willing to invest. Now the group is looking for more money: they want enough to last for a year, and maybe to hire a couple friends. So they're going to raise $200,000.
The angel agrees to invest at a pre-money valuation of $1 million. The company issues $200,000 worth of new shares to the angel; if there were 1000 shares before the deal, this means 200 additional shares. The angel now owns 200/1200 shares, or a sixth of the company, and all the previous shareholders' percentage ownership is diluted by a sixth. After the deal, the capitalization table looks like this:
shareholder shares percent
-------------------------------
angel 200 16.7
uncle 50 4.2
each founder 250 20.8
option pool 200 16.7
---- -----
total 1200 100
To keep things simple, I had the angel do a straight cash for stock deal. In reality the angel might be more likely to make the investment in the form of a convertible loan. A convertible loan is a loan that can be converted into stock later; it works out the same as a stock purchase in the end, but gives the angel more protection against being squashed by VCs in future rounds.
Who pays the legal bills for this deal? The startup, remember, only has a couple thousand left. In practice this turns out to be a sticky problem that usually gets solved in some improvised way. Maybe the startup can find lawyers who will do it cheaply in the hope of future work if the startup succeeds. Maybe someone has a lawyer friend. Maybe the angel pays for his lawyer to represent both sides. (Make sure if you take the latter route that the lawyer is representing you rather than merely advising you, or his only duty is to the investor.)
An angel investing $200k would probably expect a seat on the board of directors. He might also want preferred stock, meaning a special class of stock that has some additional rights over the common stock everyone else has. Typically these rights include vetoes over major strategic decisions, protection against being diluted in future rounds, and the right to get one's investment back first if the company is sold.
Some investors might expect the founders to accept vesting for a sum this size, and others wouldn't. VCs are more likely to require vesting than angels. At Viaweb we managed to raise $2.5 million from angels without ever accepting vesting, largely because we were so inexperienced that we were appalled at the idea. In practice this turned out to be good, because it made us harder to push around.
Our experience was unusual; vesting is the norm for amounts that size. Y Combinator doesn't require vesting, because (a) we invest such small amounts, and (b) we think it's unnecessary, and that the hope of getting rich is enough motivation to keep founders at work. But maybe if we were investing millions we would think differently.
I should add that vesting is also a way for founders to protect themselves against one another. It solves the problem of what to do if one of the founders quits. So some founders impose it on themselves when they start the company.
The angel deal takes two weeks to close, so we are now three months into the life of the company.
The point after you get the first big chunk of angel money will usually be the happiest phase in a startup's life. It's a lot like being a postdoc: you have no immediate financial worries, and few responsibilities. You get to work on juicy kinds of work, like designing software. You don't have to spend time on bureaucratic stuff, because you haven't hired any bureaucrats yet. Enjoy it while it lasts, and get as much done as you can, because you will never again be so productive.
With an apparently inexhaustible sum of money sitting safely in the bank, the founders happily set to work turning their prototype into something they can release. They hire one of their friends—at first just as a consultant, so they can try him out—and then a month later as employee #1. They pay him the smallest salary he can live on, plus 3% of the company in restricted stock, vesting over four years. (So after this the option pool is down to 13.7%). [7] They also spend a little money on a freelance graphic designer.
How much stock do you give early employees? That varies so much that there's no conventional number. If you get someone really good, really early, it might be wise to give him as much stock as the founders. The one universal rule is that the amount of stock an employee gets decreases polynomially with the age of the company. In other words, you get rich as a power of how early you were. So if some friends want you to come work for their startup, don't wait several months before deciding.
A month later, at the end of month four, our group of founders have something they can launch. Gradually through word of mouth they start to get users. Seeing the system in use by real users—people they don't know—gives them lots of new ideas. Also they find they now worry obsessively about the status of their server. (How relaxing founders' lives must have been when startups wrote VisiCalc.)
By the end of month six, the system is starting to have a solid core of features, and a small but devoted following. People start to write about it, and the founders are starting to feel like experts in their field.
We'll assume that their startup is one that could put millions more to use. Perhaps they need to spend a lot on marketing, or build some kind of expensive infrastructure, or hire highly paid salesmen. So they decide to start talking to VCs. They get introductions to VCs from various sources: their angel investor connects them with a couple; they meet a few at conferences; a couple VCs call them after reading about them.
Step 3: Series A Round
Armed with their now somewhat fleshed-out business plan and able to demo a real, working system, the founders visit the VCs they have introductions to. They find the VCs intimidating and inscrutable. They all ask the same question: who else have you pitched to? (VCs are like high school girls: they're acutely aware of their position in the VC pecking order, and their interest in a company is a function of the interest other VCs show in it.)
One of the VC firms says they want to invest and offers the founders a term sheet. A term sheet is a summary of what the deal terms will be when and if they do a deal; lawyers will fill in the details later. By accepting the term sheet, the startup agrees to turn away other VCs for some set amount of time while this firm does the "due diligence" required for the deal. Due diligence is the corporate equivalent of a background check: the purpose is to uncover any hidden bombs that might sink the company later, like serious design flaws in the product, pending lawsuits against the company, intellectual property issues, and so on. VCs' legal and financial due diligence is pretty thorough, but the technical due diligence is generally a joke. [8]
The due diligence discloses no ticking bombs, and six weeks later they go ahead with the deal. Here are the terms: a $2 million investment at a pre-money valuation of $4 million, meaning that after the deal closes the VCs will own a third of the company (2 / (4 + 2)). The VCs also insist that prior to the deal the option pool be enlarged by an additional hundred shares. So the total number of new shares issued is 750, and the cap table becomes:
shareholder shares percent
-------------------------------
VCs 650 33.3
angel 200 10.3
uncle 50 2.6
each founder 250 12.8
employee 36* 1.8 *unvested
option pool 264 13.5
---- -----
total 1950 100
This picture is unrealistic in several respects. For example, while the percentages might end up looking like this, it's unlikely that the VCs would keep the existing numbers of shares. In fact, every bit of the startup's paperwork would probably be replaced, as if the company were being founded anew. Also, the money might come in several tranches, the later ones subject to various conditions—though this is apparently more common in deals with lower-tier VCs (whose lot in life is to fund more dubious startups) than with the top firms.
And of course any VCs reading this are probably rolling on the floor laughing at how my hypothetical VCs let the angel keep his 10.3 of the company. I admit, this is the Bambi version; in simplifying the picture, I've also made everyone nicer. In the real world, VCs regard angels the way a jealous husband feels about his wife's previous boyfriends. To them the company didn't exist before they invested in it. [9]
I don't want to give the impression you have to do an angel round before going to VCs. In this example I stretched things out to show multiple sources of funding in action. Some startups could go directly from seed funding to a VC round; several of the companies we've funded have.
The founders are required to vest their shares over four years, and the board is now reconstituted to consist of two VCs, two founders, and a fifth person acceptable to both. The angel investor cheerfully surrenders his board seat.
At this point there is nothing new our startup can teach us about funding—or at least, nothing good. [10] The startup will almost certainly hire more people at this point; those millions must be put to work, after all. The company may do additional funding rounds, presumably at higher valuations. They may if they are extraordinarily fortunate do an IPO, which we should remember is also in principle a round of funding, regardless of its de facto purpose. But that, if not beyond the bounds of possibility, is beyond the scope of this article.
Deals Fall Through
Anyone who's been through a startup will find the preceding portrait to be missing something: disasters. If there's one thing all startups have in common, it's that something is always going wrong. And nowhere more than in matters of funding.
For example, our hypothetical startup never spent more than half of one round before securing the next. That's more ideal than typical. Many startups—even successful ones—come close to running out of money at some point. Terrible things happen to startups when they run out of money, because they're designed for growth, not adversity.
But the most unrealistic thing about the series of deals I've described is that they all closed. In the startup world, closing is not what deals do. What deals do is fall through. If you're starting a startup you would do well to remember that. Birds fly; fish swim; deals fall through.
Why? Partly the reason deals seem to fall through so often is that you lie to yourself. You want the deal to close, so you start to believe it will. But even correcting for this, startup deals fall through alarmingly often—far more often than, say, deals to buy real estate. The reason is that it's such a risky environment. People about to fund or acquire a startup are prone to wicked cases of buyer's remorse. They don't really grasp the risk they're taking till the deal's about to close. And then they panic. And not just inexperienced angel investors, but big companies too.
So if you're a startup founder wondering why some angel investor isn't returning your phone calls, you can at least take comfort in the thought that the same thing is happening to other deals a hundred times the size.
The example of a startup's history that I've presented is like a skeleton—accurate so far as it goes, but needing to be fleshed out to be a complete picture. To get a complete picture, just add in every possible disaster.
A frightening prospect? In a way. And yet also in a way encouraging. The very uncertainty of startups frightens away almost everyone. People overvalue stability—especially young people, who ironically need it least. And so in starting a startup, as in any really bold undertaking, merely deciding to do it gets you halfway there. On the day of the race, most of the other runners won't show up.
Notes
[1] The aim of such regulations is to protect widows and orphans from crooked investment schemes; people with a million dollars in liquid assets are assumed to be able to protect themselves. The unintended consequence is that the investments that generate the highest returns, like hedge funds, are available only to the rich.
[2] Consulting is where product companies go to die. IBM is the most famous example. So starting as a consulting company is like starting out in the grave and trying to work your way up into the world of the living.
[3] If "near you" doesn't mean the Bay Area, Boston, or Seattle, consider moving. It's not a coincidence you haven't heard of many startups from Philadelphia.
[4] Investors are often compared to sheep. And they are like sheep, but that's a rational response to their situation. Sheep act the way they do for a reason. If all the other sheep head for a certain field, it's probably good grazing. And when a wolf appears, is he going to eat a sheep in the middle of the flock, or one near the edge?
[5] This was partly confidence, and partly simple ignorance. We didn't know ourselves which VC firms were the impressive ones. We thought software was all that mattered. But that turned out to be the right direction to be naive in: it's much better to overestimate than underestimate the importance of making a good product.
[6] I've omitted one source: government grants. I don't think these are even worth thinking about for the average startup. Governments may mean well when they set up grant programs to encourage startups, but what they give with one hand they take away with the other: the process of applying is inevitably so arduous, and the restrictions on what you can do with the money so burdensome, that it would be easier to take a job to get the money.
You should be especially suspicious of grants whose purpose is some kind of social engineering-- e.g. to encourage more startups to be started in Mississippi. Free money to start a startup in a place where few succeed is hardly free.
Some government agencies run venture funding groups, which make investments rather than giving grants. For example, the CIA runs a venture fund called In-Q-Tel that is modelled on private sector funds and apparently generates good returns. They would probably be worth approaching—if you don't mind taking money from the CIA.
[7] Options have largely been replaced with restricted stock, which amounts to the same thing. Instead of earning the right to buy stock, the employee gets the stock up front, and earns the right not to have to give it back. The shares set aside for this purpose are still called the "option pool."
[8] First-rate technical people do not generally hire themselves out to do due diligence for VCs. So the most difficult part for startup founders is often responding politely to the inane questions of the "expert" they send to look you over.
[9] VCs regularly wipe out angels by issuing arbitrary amounts of new stock. They seem to have a standard piece of casuistry for this situation: that the angels are no longer working to help the company, and so don't deserve to keep their stock. This of course reflects a willful misunderstanding of what investment means; like any investor, the angel is being compensated for risks he took earlier. By a similar logic, one could argue that the VCs should be deprived of their shares when the company goes public.
[10] One new thing the company might encounter is a down round, or a funding round at valuation lower than the previous round. Down rounds are bad news; it is generally the common stock holders who take the hit. Some of the most fearsome provisions in VC deal terms have to do with down rounds—like "full ratchet anti-dilution," which is as frightening as it sounds.
Founders are tempted to ignore these clauses, because they think the company will either be a big success or a complete bust. VCs know otherwise: it's not uncommon for startups to have moments of adversity before they ultimately succeed. So it's worth negotiating anti-dilution provisions, even though you don't think you need to, and VCs will try to make you feel that you're being gratuitously troublesome.
Thanks to Sam Altman, Hutch Fishman, Steve Huffman, Jessica Livingston, Sesha Pratap, Stan Reiss, Andy Singleton, Zak Stone, and Aaron Swartz for reading drafts of this.
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