
Gowalla Founders v. Gowalla Investors - aaronbrethorst
http://uncrunched.com/2011/12/05/gowalla-founders-v-gowalla-investors/
======
danshapiro
Here's the right way to behave, in two simple steps:

 _Step 1_

Company management (in this case, the founders) have a fiduciary obligation to
get as much money for the company as possible. In the sale negotiation, they
should discuss the price of the company first. If the buyer tries to talk
about their compensation, they simply decline to engage in the conversation,
saying that their obligation is first and foremost to the shareholders, so the
company price is the first order of business. They should negotiate as hard as
they can to maximize the value returned to the shareholders.

 _Step 2_

Once the company price is set, the management/founders should negotiate the
best deal possible for the team - both themselves AND the other employees
(don't forget the latter). The company's already locked and loaded. There is
no reason for the team to hold the screws to the acquirer at this point for
maximum value.

There are two classic mistakes that get made. The founder mistake is easy to
make, because the company will encourage it: "How about if we lower the price
of the company by $X, and add $X to your retention package?" This is wrong and
possibly illegal (but it's hard to get caught). Taking this sells out your
shareholders and violates your duties as an officer of the company.

The second classic mistake is an investor one: thinking the employee
compensation belongs to the company. Employee comp is for future services
rendered, not past. There's no reason the shareholders should get a percentage
of the founder-cum-employee's stock grant unless they plan to do part of their
work for them.

tl;dr: get the best price for your company, then get the best price for
yourself and your team.

~~~
pyoung
>""How about if we lower the price of the company by $X, and add $X to your
retention package?" This is wrong and possibly illegal"

It would be good to clarify if this in fact illegal. If it is not illegal,
than saying that it is wrong is subjective. In the case of talent
acquisitions, the acquiring company has an incentive to focus more
compensation to the 'founder-cum-employee' for retention and incentive
purposes. I feel that it would be very reasonable for an acquiring company to
use this as a negotiation tool (unless it is illegal, of course) as they are
merely looking out for their own, longer-term interests.

~~~
jackgavigan
_> It would be good to clarify if this in fact illegal._

Well, as Dan mentioned - and I _believe_ (IANAL, etc.) that this is enshrined
is US law - the directors of a company have a fiduciary duty to the
shareholders.

The excuse here seems to be that the company was going nowhere but my gut
feeling is that opening negotiations with a potential acq/hirer is only
acceptable if you've had discussions with your investors and, ideally reached
some kind of agreement/consensus to recognise that the company isn't going
anywhere and the founders should explore whatever options are available.

(Afterthought: Given that negotiations with a view to being acq/hired involve
a clear conflict of interest for the founders, they should involve at least
one non-exec director or investor to ensure that the shareholders' interests
are protected.)

Otherwise, founders run the risk of being perceived as having spent millions
of other people's dollars to build up their own reputation in order to get
hired on a sweet compensation deal by Google or Facebook.

~~~
gavinballard
Definitely illegal in both Australia and the UK, and as far as my legal
knowledge extends to the US (directors' fiduciary duties are pretty similar
across these countries), illegal there as well.

In the situation described, founders are essentially sacrificing the valuation
of the company (an 'asset' of the company and its shareholders) for their own
personal gain - a clear violation of their duty to the company.

pyoung - whether the acquiring company is doing anything illegal is probably
more open to question (though whether it's unethical is pretty clear in my
opinion). It probably comes down to whether their behaviour gets to the point
where it could be held liable for inducement to breach a contract, or
inducement to breach fiduciary duty.

However, the focus of Dan's comment focuses the question (rightly, I believe)
on the obligations and behaviour of the founders, which is where most of the
responsibility lies.

------
DevX101
On the most recent TechStars/Bloomberg startup reality show, a couple of
investors tongue in cheek talked about investing in the career earnings of one
of the entrepreneurs whom they thought had a lot of promise. Although the
investors probably weren't too serious about this point, I don't think its a
bad idea. If Gowalla investors had struck such a deal with the founders of
Gowalla then of course they'd be entitled to some of the stock grants that
Facebook offered. But they didn't. They invested in the company which failed,
so they get nada.

And I give absolutely no credence to the argument that the investors funds
boosted the profile of Gowalla founders so they wouldn't have gotten great
deals from Facebook if it weren't for their investment. If that's the case,
then limited partners should be entitled to a share of the profits from a VC's
second fund if the first one goes bust. Because, you know, it was the limited
partners' money that gave you a name in the VC community in the first place.
Of course, no one takes such an argument seriously in the finance community,
and neither should you entrepreneurs.

~~~
Jasber
FYI this actually happened: <http://venturebeat.com/2010/03/03/life-
investment/>

~~~
jrockway
See also: taxes. The government subsidizes school (in some form) from
kindergarten to your PhD, and in return, you pay them back in the form of
taxes as soon as you use that knowledge to make money.

~~~
gyardley
Very odd example, no? While pooled revenue from taxes does pay for collective
benefits, any single individual's taxes are only tenuously related to the
benefits they receive.

If it worked like you described, I'd expect a break from the IRS since my
education mostly took place elsewhere, and I'd still be writing checks to the
Canadian government for the education and healthcare I got as a child. (That
wouldn't necessarily be a bad thing, but it's not how it works.)

~~~
nekojima
You'd be writing cheques to the Canadian govt. Checks are something on
clothing or you put in boxes. :-D

~~~
gyardley
Cut me a little slack, I've been down here for a decade now. :)

------
OoTheNigerian
No one is taliking about the users.

Maybe it is me but my 'moral antenna' says it wrong to leave users suddenly
stranded.

Yes it was a 'free service', but the free users made it possible to get
millions in investments. Users investest time and effort into making your
service valuable.

Here is how I would do things differently.

Depending on the cost, I will have a shut down period of 3-6 months. Longer if
possible.

I will make it easy for users to export AND import their data into a similar
service. In this case 4sq. That is the very least they should do. The data
from a users Gowalla account is ppractically useless if it is not put in
context of a similar app/service. Telling millions of users "take your shit
out by next month, thanks for your time" is not cool at all.

FriendFeed did it much better. Etacts is the worst I have come accross.

It is not cool for Gowalla, it will also not be cool for gmail.

~~~
ngkabra
If you're a user in the modern internet, it is not cool for you to keep
yourself so much at the mercy of companies whom you don't pay.

I always keep a Thunderbird client running in the background of my laptop,
which sucks out all emails from gmail and keeps a local copy. Yes, it would
not be cool for gmail to one day suddenly cut me off, and yes, I feel Google,
with its "Do no Evil" policy will not do that to me. But still, I prefer to
make my copy of important data right now, thank you very much, instead of
whining later that this is not cool.

Same with my Flickr pics and Delicious links (downloaded using a script). And
my Facebook data I really don't care about.

~~~
bravura
I would pay for a single service that does this across most major internet
properties. i.e. pulls my data for me onto, say, an S3 share.

~~~
ConstantineXVI
Like Backupify? (not to be confused with Backify) <https://www.backupify.com/>

(PS: Rob, if you're on here, you still owe me a beer next time you're in town.
:)

------
jackgavigan
Just a Point of Information...

There's no actual confirmation that Facebook is _acquiring_ Gowalla as a
company. In fact, Facebook's statement (as quoted on various news sites) seems
to suggest the opposite:

”While Facebook isn’t acquiring the Gowalla service or technology, we’re sure
that the inspiration behind Gowalla will make its way into Facebook over
time."

It wouldn't surprise me if it turns out that what's actually happening is that
the core Gowalla team is quitting Gowalla to work for Facebook, and Gowalla
will be shut down, with the remaining funds being returned to the investors
(i.e. the "twenty or thirty cents ... for every dollar invested" that
Arrington refers to).

No doubt we'll find out in time.

------
tptacek
Gowalla lost. This is what happens to investments when companies lose. The
"side deals" the team makes after their company fails are irrelevant. Nobody
is better off going down with the ship; not the founders, not the employees,
and not the investors.

~~~
vannevar
_Gowalla lost. This is what happens to investments when companies lose._

Not necessarily. Sometimes they pivot from a failed product to a successful
one, in which case the investors are rewarded for sticking with the team
(which often requires follow-on investment in such cases). VCs often say that
they invest primarily in teams, not ideas. It's not clear that the team really
lost here, but the investors obviously did.

~~~
tptacek
Two responses.

First, when you "pivot" after losing a fight for a market _and_ take an A
round of funding, you failed. Not all failures are fatal, but the word "pivot"
isn't a magic startup 1-up mushroom.

Second, whatever you want to call it, nobody is better off not selling if
Gowalla 2012 was destined to fail anyways. It is among other things (very)
hard to retain talent at a company facing (at best) a heavily dilutive future
round just to keep the lights on for a (very) uncertain new product.

Ultimately though, I'm just repelled by the idea that people think operators
owe it to financiers to go down with the ship. I think the real issue cuts in
rather the other direction: founder-operators who kowtow to VC partners to
preserve their reputations and future fundability, come what may to the
employees they recruited to their doomed company.

~~~
vannevar
_First, when you "pivot" after losing a fight for a market and take an A round
of funding, you failed._

The _product_ failed. You (and your investors) might take the lessons of that
failure forward and enjoy wild success with a different product. The question
is whether the team has a new idea to pivot to, and whether the investor has
confidence that the team will do better the second time around. I don't know
the facts of the Gowalla situation, but suppose the 'new idea' here was that
while the Gowalla product didn't make sense on its own, it could be combined
with Facebook to create a profitable feature for them. If so, the investors
who helped create that value should not be cut out of the deal.

 _Second, whatever you want to call it, nobody is better off not selling if
Gowalla 2012 was destined to fail anyways._

Just because Gowalla had no value as an independent company doesn't mean the
company had no value. Obviously Facebook valued something about it, and like
anything else, a company is worth what someone is willing to pay for it. Now
maybe Facebook just really valued the founders' skills and work ethic, in
which case I'd agree with you. But maybe they want the founders to reproduce
Gowalla as a Facebook feature, in which case the total price they pay to
acquire that expertise should in fairness be distributed to the shareholders
and not just to the founders. In the software business there is a fuzzy line
between a talent acquisition and a straight-up acquisition.

~~~
tptacek
Who cares how well the second go-round is going to go? The company burned $N
MM on the first product; it is $N MM in the hole on the next product. What
rational top-tier engineer stays on to do a next product with extra dilution
overhead, when there's hundreds of excellent next products to do without that
dilution?

You're pretending like the _company_ and the _product_ are just abstractions.
That's one of the perils of thinking about startups in the airless vacuum of
Hacker News. In reality, you run out of money, you have to get more, and the
more times you hit the money dispenser, the lower your upside.

Here you run off the end of the moralizing cliff, because whatever it is you
think the _founders_ should do, top engineers aren't idiots, and financiers
have _no_ moral claim on them --- the opposite is true, in fact, since most
startup engineers are morally investors in the company as well having
sacrificed market salaries in exchange for options.

Which places the founding team in a bit of a pickle, since not only do they
have the prospect of a reduced upside, but they are also on a path towards
losing the engineering talent they'll need to differentiate their product.

This is one of the problems with the VC model of product development. It
shoots your company out of a cannon. It's awfully hard to course-correct. It's
a good reason to bootstrap (I recommend consulting): consulting gigs actually
_are_ magic 1-up mushrooms for product startups.

~~~
vannevar
Remember, we're talking about _founders_ here, officers of the company with a
fiduciary duty to shareholders. It's one thing to hire a top employee away---
he's bound by whatever IP clause is in his employment contract, but beyond
that he has no duty to the company. It's another thing entirely to acquire a
company's IP assets indirectly by hiring the founders via a big equity
package, leaving the shareholders pennies on the dollar. I don't know that
that's the case here at all, I'm just saying that it raises the issue.
Obviously it matters how much they got. If it was a $500K incentive, no
problem. But $50M would be a problem. Somewhere in between those numbers a
line gets crossed, and it becomes an ethical (and perhaps legal) issue.

~~~
tptacek
When the primary asset of the company is its team, the investors lose both
their moral and practical claim on the value of those "assets".

Morally, it is wrong (and without foundation in contract law) to prevent an
employee of a company from finding more gainful employment somewhere else
simply to maximize the value of your investment. While it's true that every
retention policy of every company is designed precisely to keep employees from
finding better offers, those are carrot policies, never sticks (the sticks
tend to get shot down in court).

Practically, there's no effective way to compensate investors for the value of
the team, because every dollar you don't give the team decreases the
likelihood of retaining team members, which is the whole point of making a
talent acquisition.

All of this is a long way of making a simple point.

Gowalla lost. Its investors knew it might lose when they made their
investment. Trying to claw ROI back from the _value of the individual
employees on the market_ is simply not a reasonable investor goal.

~~~
vannevar
Your assertion that employees are never under a moral or contractual
obligation to their employers is simply wrong. An employee in a sensitive
position, under a non-compete, cannot take trade secrets from his employer and
give them to another company. This is both immoral and illegal, and contrary
to your statement, sometimes the 'stick' _is_ enforced.

Even if you were right about employees, as I noted above, the situation is
_very different_ for founders. It is morally (and in extreme cases legally)
wrong to accept a payoff in order to circumvent the investors _to whom you
have a legal and ethical duty as corporate officers._

If I invest $10M in Startup X to develop and market Cool Service, and a year
later the founders accept a $50M stock package from Company Y so that _it_ can
offer Cool Service, and I'm left with nothing, then "trying to claw ROI back"
is _absolutely_ a reasonable goal. (I'm not saying this was the situation with
Gowalla, only that your position that it's never justified seems extreme.)

------
mikkom
> If a founder leaves stockholders behind to take a lucrative side deal,
> they’re not acting ethically. I’ve mostly taken this position in the past,
> before becoming a VC.

As if VCs are acting "ethically". I have seen many VC cases (and been involved
with a few) and be assured, VCs are not "ethical" or think founders AT ALL.
All they think about is their money. If they could exchange founders future
for a fat pile of cash, they will do it.

If the VCs are minority owners (as it seems in case like this), they can just
accept what is decided. This is also the case with founders when VCs have
majority. They will always do what they want (what's best for their money)
without thinking founders best interest or "ethics" of their actions.

------
pyoung
Considering that the founders will be taking positions at facebook, these
'side deals' appear to be closer to salary/compensation negotiations than
anything else. Just because you invested in a company, it doesn't mean you own
the founders. While the company may not have succeeded, these guys are
probably very valuable assets and should be compensated by FB accordingly.

------
kloncks
One of the highlights of this article was hearing how SV Angel thinks about
this. It was sane, pragmatic, intelligent and succinct.

I haven't yet had a chance to work with them, but my opinion of them is
constantly increasing.

~~~
keeptrying
Con ways and SV angels marketing strategy is to be extremely pro entrepreneur.
It's their inherent differentiation strategy. I love it!

------
sturadnidge
Arrington mentions 2 ways to look at it (both from the investor perspective),
but there's a third - entrepreneurs raising a stiff middle finger to investors
who have fucked them over (or tried to).

I'm not saying it was the case with Gowalla, nor am I saying all VC's are
assholes. Just saying that it it's another motive for deals like this.

------
gyardley
I don't get the reason for this article's existence. Nothing is new or unusual
here.

In any acquisition, the CEO and senior staff simultaneously negotiate their
compensation packages with the acquiring company.

This always leads to major conflicts of interest, which is why the board gets
to approve the acquisition, and why in larger transactions there's often some
outside help brought in to negotiate.

If the board doesn't like the proportion of the proceeds going to the
employees, they can always block the acquisition. They have that power
precisely for situations like this. Since Gowalla's board approved the
Facebook acquisition, they're presumably fine with it.

As for the minor investors who've been kept in the dark - I'm sure they agreed
to drag-along provisions in their investor rights agreements, which meant they
didn't have to be consulted. You have the rights you agree to.

~~~
viscanti
It makes sense from the investor's perspective. They weren't going to get a
better, more lucrative exit. Gowalla would probably just whither and die
eventually. Instead, now the investors get to talk about how they had a
"successful" exit, which might help them get future deals (most startups would
prefer to raise money from someone with several exits). It seems like it was
the best deal for all involved.

------
learc83
What's the problem, it appears the company was dead anyway, and had no real
assets so the investors get 30 cents on the dollar instead of nothing.

------
bambax
> _Parakey investors got they’re money back_

How can one write for a living and spell like this? English is not my mother
tongue and yet I now the difference between _they're_ and _their_ , _it's_ vs.
_its_.

Or is this the result of poor speech-recognition software?

~~~
286c8cb04bda
It's an artifact of how native learners acquire language, compared to adult
learners. Our native tongues are acquired rather ad hoc, and most people
'think' in speech. (As evidence, watch a slow reader. Often times they will
sub-vocalize the text as they read. This is a side effect of their brain
turning the text back into sound.)

So, to somebody who learned English as a child -- and is therefore aurally
dominant -- the words "they're", "there", and "their" will all basically
occupy an overlapping space in their mind. Somebody who learned English later
will use textbooks to support the process; Things like contractions will be
give special emphasis, etc.

~~~
bambax
You make an interesting point, and what makes it very interesting is that it's
testable: are native speakers worse spellers than non-native speakers? And
which words do each group have the most difficulty spelling?

It doesn't seem likely that non-native speakers are better general spellers
than native speakers; but it's possible that some words are especially
difficult for native speakers and not for non-native ones.

Are you aware of existing studies on that subject?

~~~
286c8cb04bda
Aye, there have been numerous investigations into it. Among linguists, it
seems to be basically taken as a given that homophones, particularly when
compared to less skilled native readers, are going to be easier for the non-
native, because of acquisition methods. I should've prefaced that with the
disclaimer that I am not a linguist, but I have worked in the past with
linguists on language-related work, both in L1 (native) and L2 (non-native)
contexts. Here are a couple of references I was given on this specific
subject:

1\. Van Orden, Guy C. (1987). A ROWS is a ROSE: Spelling, sound and reading.

2\. Binder, K. & Borecki, C. (2007). The use of phonological, orthographic,
and contextual information during reading.

3\. Ota, M., Hartsuiker, R. J., & Haywood, S. L. (2010). Is a FAN always FUN?

Full texts for all of those are available online.

------
notbitter
This is why Gowalla's investors are diversified across multiple startups. For
them this is just one setback in a much larger game.

The people getting screwed here are Gowalla's employees, who put years of
effort into a single project and whose options are now worth zero.

------
mathattack
A couple thoughts here: 1) As the article states, Facebook has fiduciary duty
to Facebook and nobody else. 2) Same with the VCs. 3) This isn't unique to
high tech. Sometimes a CEO will accept a bad merger price to become the CEO of
a larger firm. This is called the principal-agent problem and is why boards
should be involved in all M and A. 4) Unless there are competing bids it is
hard to prove a failure of fiduciary duty. In the end it's reputation. If the
Angel and VC feel screwed then the execs won't get money again. If not it is
ok. It is lie Prisoners Dilemna - you play nice in a repeated game.

------
kariatx
I think a more interesting question is what sort of responsibility Gowalla
founders had to its employees. I've noticed that a good number of employees
aren't staying on with the Facebook transition (by my count, only a small
minority are going on to Palo Alto). Maybe they had better offers elsewhere,
but considering some people are opting for uncertainty / unemployment, my
speculation is that they got the short end of the stick with this one.

~~~
rdouble
Early stage startup employees usually get hosed except in IPOs.

------
hkarthik
Those complaining should look back to 2000 when a deadpooled startup left a
gaping hole in the economy with lost jobs, bad investments with ordinary
Americans, and a negative impact on every other startup in the space.

Given the alternative, I'll take founders selling out and moving on over what
we went through 10 years ago.

------
Shenglong
_Parakey investors got ---they’re--- money back and a little more,_

Arrgh. I have nothing constructive to post about this, but this mistake annoys
me.

------
wavephorm
Is Arrington essentially saying when he invests in a business he wants a cut
of all future salaries and compensation of the founders should the company get
liquidated?

Wake up buddy. A VC invests in the business, not the people. A shareholder is
insulated from liability and for that privilege they are not entitled to
anything outside the scope of the corporation.

~~~
bambax
Umm, no. He's saying the exact opposite:

> _Focus on the winners, and don’t lose sleep over the losers. Seems like a
> good investment philosophy to me._

