
Why VCs prefer firing founders - messel
http://www.victusspiritus.com/2010/06/12/why-vcs-prefer-firing-founders/
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tybris
In the end you as a founder have to realize the VC is not there in your
interest, but in its own. If you agree to a deal which gives huge incentive to
fire you and leave you with a much smaller share, you're either desperate or
stupid. Make sure your VC is not your bank, your laywer or your accountant or
your owner. Just your investor.

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asdflkj
History is full of precedents where a certain kind of deal routinely has the
parties trying to screw each other, and then gradually this kind of deal
becomes based on trust, and everyone is better off. Attitudes like yours get
in the way of this process.

If you're a founder and a VC screwed you, you may have made a mistake, but
you're not "stupid" and you should warn others and not be overly embarrassed
about the whole thing.

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hga
Indeed, in the situations like this that I've been around, seriously diluting
founder shares was clearly the reason, not the health of the enterprise.

A lot of investors prefer more of a share even if it's of a smaller enterprise
and in one extreme case all of nothing.

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boundlessdreamz
How does firing a founder dilute his share? Vesting schedule?

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grellas
Classic case example: founders A, B, and C each get 2M shares, owning one-
third each of the startup; they build value over, say, two years and take in
$4 million in VC funding at, say, $6 million pre-money valuation; VCs require
them to reverse-split their shares to 4 million, VCs take 4 million at $1/sh,
with 2 million in pool, of which 1 million goes to an outside CEO brought in
by the VCs; as part of funding, founders have to agree that one-fourth of
their shares are vested while the balance vest over 4 years; this means each
founder now owns about 1.3 million shares measured against a model of 10
million, or about 13% of the company but only slightly over 4 million (4%) of
those shares are vested; arrangement is theoretically "shared control" (4
million to founders, 4 million to VCs, with maybe a board-seat deal of 2/2/1,
with the one being the new CEO). Net result: founder who might have built
incredible value in the first two years of effort on behalf of the startup
finds himself, immediately after the VC funding, cut back from 33% to 4%
equity stake, typically with no acceleration provisions for his stock in the
event he is fired without cause. In such a scenario, the founder can be highly
vulnerable to losing most of his stake in the venture if the VC investors and
their favored CEO decide that he is immediately dispensable.

Specifics can go all over the board in different cases but the above example
typifies what tends to happen with founder interests in a typical Series A
funding. Founders can resist but, if they want the money, they often have to
agree to just such terms.

I have seen all sorts of cases where such scenarios lead to bad outcomes for
the founders. I have seen many others where things work out great for all
concerned. It is just one of the risks of taking in VC funding but it is a
very real one for the founders.

Even where a founder has largely vested his interest, or where his termination
triggers enough accelerated vesting that he largely vests, he will find
himself vulnerable in any down-round scenario. In that case, I have seen VCs
(in the most abusive types of cases) do as much as a 100 to 1 "reverse split,"
reducing _everyone_ in the company to 1/100th of the interest that person held
before a new funding, and then inject new funding (at a much-lowered company
valuation from that used in the most previous round) that leaves the VCs with
substantially all the ownership in the company (they being the only ones with
the funds to participate in the highly dilutive round) apart from the
employees they wish to keep and such persons will then have their options
"refreshed" to give them modest equity pieces as incentives to keep going
forward. While the 100-to-1 cram-down is absurdly extreme, many cases will
arise of more modest ratios used by VCs that have the effect of sharply
reducing the early-stage equity interests in a company and that clear the way
for new grants to be made to continuing founders who, because of such grants,
will keep something close to their original percentage in the company while a
terminated founder gets sharply reduced.

Hate to sound boring with logistical details but these two illustrations are
among the most common techniques used.

~~~
messel
Appreciate the example case. Is there a public web listing for VCs that use
and have activated these type of clauses. I'll do whatever I can to avoid this
color of money.

