
Ask YC: Advice after receiving seed funding offer? - stflory
I recently learned that my co-founder and I have been offered seed funding from a VC.  Our startup is working on a web app (I'm being purposely vague).   The terms they are offering are a $25,000 investment with 70% common stock for the two founders, 10% common stock for themselves, and a 20% option pool, and they keep the right to invest up to 25% in the next round.  They also propose a 3 person board - 1 of them, 1 of us, and 1 outside adviser.<p>How fair would you consider this offer, based on the information given?  It is about what I expected, but I don't really have much experience -- most of what I know comes from attending Startup School.  Also, are we allowed to make a counter-offer, or is that not really an option?<p>Thanks!
======
rms
It sounds like a terrible deal, but if you need the money you need the money.
I'm curious what geographical area you are located in -- you'd never get
something like that from a SV VC. Was this a verbal offer made quickly or do
you have a term sheet?

These guys are offering a valuation half what YC offers, _and_ they are
proposing a board structure that gives them defacto control over the company
board and the company. And they aren't YC.

Your response should be "how about convertible debt?" Convertible debt makes a
lot more sense than setting up a board of directors that they control and it
works out for everyone in the next round.

I would recommend reading <http://venturehacks.com> in its entirety along with
pmarca's relevant blog posts.
<http://blog.pmarca.com/2007/06/the_truth_about.html>,
<http://blog.pmarca.com/2007/06/the_truth_about_1.html>,
<http://blog.pmarca.com/2007/06/the_truth_about_2.html>, and more. After
reading pmarca, you should be able to answer the question if you actually want
to raise VC money or not. It only makes sense for a very specific type of
company.

~~~
sabat
Out of curiosity, what things make it such a bad deal? I can't figure out what
particular elements are bad.

~~~
rms
the board seats don't reflect the magnitude of the investment

~~~
michael_dorfman
Just out of curiousity, what would you propose instead?

~~~
rms
On the term sheet, a valuation that gives the VCs 5-6% of the company and no
company board. It's a reasonable valuation for an idea-stage startup when the
investor is not YC. Most investors I know of at this stage offer better
valuations than YC. A couple VC firms even give out free money. Of course none
of the other firms are Y Combinator, where like Sequoia it would be a good
deal to just give them equity for free. None of the other investors at this
stage have been proven to provide a compelling value to their startups, but it
seems obvious that a competent incubator that invests without asserting
control is much better off for a startup than no incubator.

I think I would refuse to do the deal if they refuse to negotiate, though
giving them 10% would be acceptable if they were reasonable about the process.
Though it's really a bad sign that they proposed such a manipulative deal. I
wouldn't want any of these guys on the board or to have a right to invest,
because it torpedoes future deals if they don't do a follow-on investment.
Lightspeed Summer Grants offers 500k investments to some startups coming
through their program, but it's an offer, not an obligation.

But, if the idea was mediocre, no other investor would talk to me, I didn't
have a job, I had no marketable skills, I had no place to live, and someone
was offering me $25k dollars in check form, I'd probably just start the
company and do whatever the VCs said. It's certainly possible that they will
run the company well.

If the idea was the next facebook, or already was, I'd make a new post sharing
the idea here as a document hosted on my site. At least one person has
successfully raised funding by posting their executive summary here (slide
deck or YC application would also be fine), I believe they offered to sell 5%
for $25,000.

There are more investors out there, some even answer cold emails. Try asking
for intros here, there are a lot of powerful lurkers. Or, make something great
and wait until the next round of incubators.

\--

These guys have usernames here and talked to me:
<http://www.tandementrepreneurs.com/>

<http://crv.com/quickstart> also responded to me.

------
pg
This doesn't seem like it could be a VC. A VC would not agree to be on your
board for such a small amount of money. Do you mean an individual angel
investor? In that case, it depends entirely who he is. $250k is a low
valuation, so it is only a good deal if the investor is someone you really
want as an advisor.

Though frankly, anyone you'd want as an advisor probably wouldn't want to be
on your board for such a small investment, any more than a VC would. In fact,
it's very anomalous for board composition even to be specified in such a small
deal.

On the whole, smells bad. You might have to take the money at this low
valuation if you don't have any other options, but push back about the board.

~~~
stflory
It's a VC, but this is a seed program of theirs.

~~~
rms
Compare to these VC seed programs with about the same dollar amounts:

<http://www.hcp.com/summer/>, <http://www.lightspeedvp.com/summergrants.aspx>

~~~
stflory
Thanks for the links.

~~~
mikkom
Have you checked <http://www.thefunded.com> too?

------
blader
It's an absolutely awful and egregious to the point of malicious deal.

For a tiny investment, you are getting an overblown option pool, a 25% ROFR on
your next round, and getting an investor leaning board.

When negotiating financing, you have to negotiate. In fact, not negotiating is
a sure way of signaling that you don't know what you are doing. What you
really want to do is to let the market price it out - you want a minimum of
2-3 term sheets to get a fair market value for it.

An actual, decent VC would just give you $25K as a grant.

------
bokonist
The valuation isn't very good when you consider the option pool. It might not
be completely awful though, depending on your background and means.

I agree with rms that it should be structured as convertible debt.

Push back hard on the board. 10% isn't enough for them to get that much power,
and giving that away can make your life very difficult later on.

Generally, rights for the next round are pro-rata. That means the angel has
the rights to put in enough money at the new valuation to maintain their
position. It's rare to give rights to an angel to increase their percentage
that much.

------
mattmaroon
If you're ok with the valuation, I'd suggest negotiating a 10% options pool.
Also say "we think the board should represent ownership" and give them at most
one of them and two of you.

Be sure to have a lawyer look over any term sheets as well. And definitely
don't pay any of the investor's legal fees out of your $25k.

My feeling is that this is shady. It's very unusual behavior for a VC to fund
a company for so little, or to even want to sit on the board of a tiny
company, let alone position themselves to potentially control it.

------
Flemlord
Options - Is the option pool meant to go to yourself and the other founder?
That isn't an unreasonable request, regardless of the size of the deal.
Without that guarantee, there's nothing to prevent you from closing down
tomorrow and taking your investor's money (less 10%). With my first startup,
my partner quit after 24 months, and walked away with all his stock, despite
the fact that it took two more years before we (I) sold the company.

Common Stock - Just because they're asking for common stock, doesn't mean they
can't build additional terms into the investment agreement. The fact that
they're asking for a board seat means they want rights beyond what common
stock would normally grant them.

Conclusion - Irregardless of whether the ownership percentage is fair, $25k
shouldn't be worth your time. Take the two months you'll burn getting this
deal done and put it into developing your product. Also, just the least bit of
legal shenanigans (and if it's a VC, there will be shenanigans), and you'll
have to hire a lawyer which will eat into the $25k.

Now stop screwing around on Hacker News and build your product. ;) Wait until
you have a working beta, with users and some press, then go get yourselves a
real deal.

------
dhouston
<http://venturehacks.com/term-sheet-hacks>

start reading :)

------
ingenium
Well, at least they don't drug test...

------
abijlani
Here are few questions you should answer:

1\. How far is 25k going to take you? Just to a prototype? A beta version?
Basically you have to setup goals and objectives and if this money will help
you get there.

2\. If you answered to yes to number 1. Then once you get there how much would
you value yourself then? Would it have been worth it to give up that % of the
company to reach there?

3\. What are the criteria for success? Will the VC help you get your next
round of funding?

4\. What else does the VC bring to the table? Relevant contacts? Better
exposure?

------
mynameishere
25K is what you get for about 1/3 a year of full time employment. Why not work
weekends for 4 months?

~~~
edw519
Or even a credit card while working full time on your startup. Normally I'd
never recommend that, but for such a low amount, you can keep all your equity
and control. A more realistic choice if you can plan the next event within a
year.

------
precipice
That is a horrible deal. Run away.

------
SwellJoe
The deal is bad on all counts, as others have mentioned, but the board
provision is simply horrible for seed level investment (actually, I would
never accept a board provision like that for _any_ level of investment).

You're effectively selling your company for $25k. You no longer own the
company if the investors hold two seats on the board to your one (and if they
get veto on who the outsider is, they definitely hold two seats).

You are always allowed to negotiate until paper is signed (or until you've
shook hands on the deal), but it sounds like these folks are either testing
your mettle or just hostile investors. Either way, it seems a little
problematic.

------
aston
Others have mentioned it, but definitely watch the size of the option pool.

<http://venturehacks.com/articles/option-pool-shuffle>

------
tomh
The board composition reminds me of the ArsDigita story:
<http://waxy.org/random/arsdigita/>. Definitely a problem.

------
bberry
Agree it's not a great deal... another way to look at it. Do you value your
company at more than $250,000? How far does $25,000 get you before you need to
raise another round (and then dilute further)?

------
omfut
i understand the amount might be a big deal for u at this time. However, if
you guys think long term. Its not a big deal. Since the amount is not big, i
would rather raise the money from friends and family than going to VC Or ask
for more money instead of $25,000.

Cheers, Omfut

------
LPTS
That's not an offer. That's a middle finger.

