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How important is a liquidation preference on a $500m round which values Uber at $40b? Not very.

Moreover, most of the institutions doing these late stage rounds and secondaries are the same banks and asset management firms that float the IPOs.

One of the unintended consequences from SOX is the creation of this public-private funding environment where huge private firms and high net worth individuals can invest, but small retail investors are shut out until the venture firms believe the company's value has plateaued (Slide 30). We saw this happen with Facebook, for which there is a ton of second market valuation data from 2007 through the IPO to the present. If you believe that small retail investors should be protected from themselves when it comes to early stage investing, this is a good thing.




> How important is a liquidation preference on a $500m round which values Uber at $40b? Not very.

It's substantial. If VCs get a 1x liquidation preference, then it's (effectively) a no-downside investment since Uber is worth (worst-case) $500M+. If they get >1x and are the last investor (most-preferred), then they are virtually guaranteed solid return. Late stage VCs know what they're doing and valuation is still only half the equation.

As for private firms and high net worth individuals.... that's an entirely different issue; I'm certainly not a fan of accredited investor regulation. I'm also not a huge fan of my retirement (401k funds) being invested into the startup ecosystem without any say in the matter either.


I personally wouldn't call it substantial. You can quantify the value of the liquidation preference by looking at the difference between the value of the preferred shares and the value of common shares available on secondary markets. Once you have a company that owns its market, has healthy and growing revenue, etc, there is very little difference. This is what happened to Facebook and Twitter. I'm not familiar with Uber but I do track Pinterest and Airbnb and right now their common stock (no preference) sells for about a 10% discount to the latest preferred rounds. Square and Palantir, which people seem to have less faith in (for whatever reason), trade at a steeper but still not what I'd consider substantial discount.


Preferred shares have different terms, they don't all have liquidation preferences. Even if they do, the preference is worth much less once the stock appreciates significantly. For example, if I get a preferred with liquidation preference at some price P then that is worth far more than the same security once the price appreciates to 3*P (since it acts more like a common share, the value of the preference being reduced [since the chance of it being useful is less]).

And which secondary markets are those?


The most active secondary markets I see today are the broker dealer successors to Frank Mazzola/Felix Advisor type outfits who use company approved (or tolerated) LLCs to vacuum up stock from ex employees who want liquidity. You have to find them or be referred to them and then they will periodically pitch you inventory as it becomes available. Chris Sacca is doing the same thing but it looks like a venture fund and (as far as I know) he holds to IPO, where on the east coast it looks like a private equity fund and they will allow intra-fund exchanges between old and new investors. Very little transparency in this market and probably the perfect breeding ground for the next Bernie Madoff style Ponzi scheme (not Frank or Chris who are both legitimate).


>If you believe that small retail investors should be protected from themselves when it comes to early stage investing, this is a good thing.

Alternately, the small retail investor isn't getting the chance to make life changing amounts of money by putting 1k into Microsoft or Amazon.

I suspect I (and lots of other people) would have been willing to invest in Facebook when it was a 1 billion company. That would be a 270x return from now. If you bought at IPO you'd be a little more than 2x now. Alternately, if you bought at the absolute bottom it's ever been you'd be at 4x.

Certainly 2x and 4x are nice, but they don't make you wealthy in the way 270x does.


Just for an accurate number Uber has ~4bn of liq prefs currently.


> How important is a liquidation preference on a $500m round which values Uber at $40b? Not very.

Why is that?


A 1X liquidation preference on a $500m investment is only relevant if the price of Uber declines by 98.75%. If it is 2X, then only relevant if price of Uber declines by 97.5%.

[Edit: Wow was I not awake when I wrote this. Retracted but left up for posterity.]


You are incorrect. Liquidation preference matters for ANY liquidation valuation less than the fundraising valuation.

Let's say a VC invests $500M into Uber at a $50B valuation (1% equity). If Uber gets acquired for sub-$50B, then the VC gets their $500M back despite their ownership percentage. As an example, if Uber were acquired for $25B, then the VC would get their $500M back rather than the equity value of their shares (1% of $25B => $250M). And if they had 2x liquidation preference, they'd earn $1B on a $25B liquidation.

This downside protection (sale of company for less than valuation at fundraise) is a key term on all priced rounds for this very reason. That's why these terms matter so much.


> A 1X liquidation preference on a $500m investment is only relevant if the price of Uber declines by 98.75%. If it is 2X, then only relevant if price of Uber declines by 97.5%.

No, that's wrong. The investor loses nothing until the value declines to $500 million and then suffers linear losses afterward (i.e. if value is $100M then they lose $500-100=$400M).


Uber has raised almost 6B. It's very unlikely their valuation drops to a few hundred millions as they must still have a few billions cash. However it's not impossible to see it drops to the 10B level or less if the economy tanks or they fail to execute, leaving little to the common shares. If I were an early employee at Uber, I would've been looking for anyway to liquidate my shares :), even if it that means shorting the NASSAQ.




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