The Ideal First Round Term Sheet
Chris Dixon is killing it on his blog right now. My post on saturday was inspired by a blog post of his and I am going to repeat that today.
Chris laid out the ideal set of first round terms and I agree with them. What's interesting is that Chris is a serial entrepreneur and I am a VC. And yet we agree on what the term sheet should say. That's progress.
In fact, Chris' favorite law firm, Gunderson, has put together a term sheet and a set of documents that we've been using lately to do a "quick closing". We were inspired by a number of people, most notably Paul Graham and Y Combinator who do this as well.
We are in the process of closing our first investment with the Gunderson docs. We (the VCs) don't have a law firm on this investment and we are not negotiating the documents. We agreed on the term sheet and we are closing on a set of documents we've signed off on prior to issuing the term sheet. They are "boilerplate documents."
There are multiple benefits to doing it this way. First, it leads to a very fast close. Second, the legal costs are minimal, certainly less than $10k and they should be less than $5k. And third, it sets the company up well for future rounds of financing because there is nothing funky in the docs.
It certainly doesn't hurt that the company's counsel, Gunderson, is a firm that we have used on multiple transactions as well. We trust them and so does the company.
I'd like to see this practice become standard in our industry. We need to lower the time and cost of raising capital. We need to eliminate a lot of bad terms that have caused a lot of harm (tranched investments, mutiple liquidation preferences, super pro-ratas, etc, etc). We need to converge on a set of standard Series A terms that everyone uses.
I'm really pleased to see that entrepreneurs, VCs, and the lawyers are all coming together on this issue. That's a very good sign
Amen. Thanks for bringing this issue and solution to the table @cdixon and @fredwilson.
Here’s hoping this post will bring you closer to writing the one I most want to read: “Fred Wilson on Liquidation Preferences”.
I can do it in twitter spaceInvestors should always have the option to get their cost back before founders take anything out
I’ll do both our keyboards a favour and just say “um…”
I get the feeling you were looking for more Dave ;)?
Not really Mark. I know Fred’s views on this subject, and can understand why he holds them. I have just as strong views on the other side. So what happens when the infinite force meets the immovable object? Answer: not much – so let’s both use our time more productively by not even starting the discussion…
I try to stay clear of belief based args as well, point taken. But if there is more to it I’d love to hear your perspective, and I’m pretty sure Fred’s virtual home he wouldn’t mind an opposing view that’s well founded in rational assumptions (you have my email and friendfeed dm if you think those are better places)
Belief based on 26 years of investing experience in this case. I didn’t start out a zealot about this but I’ve become one
Fred – would love to hear an expanded post about this and have some more discussion around it. To me, it seems like employees and founders have far more at stake than investors – you have a portfolio, the company is our one shot. So it seems only fair that there are no liquidation preferences – everyone put something in, we should split what we get back out. Doesn’t seem fair that somehow money is valued far more than producing product when the personal risks are far greater for those producing product. But there may be a side to this that I’m not seeing.
I think if you can get a deal from the investor where they’re willing to take less than they put in (by sharing any remaining capital), you should probably consider it (all other things being equal).I had imagined VC funding as a type of loan where you pay back more the larger your business grows (you both have something at stake now). But the real power a good VC can provide is guidance, and connections to potential partners and clients.If I could still retain some influence and ownership, I wouldn’t mind the entire world having a stake in my success. Who wouldn’t mind a few billion folks rooting for them to make it.
I may post about it. But think about this. I invest 2mm for 20pcnt of a startup and get common. Founders sell it for 5mm the next day, take out 4mm and I get 1mm. I just lost 1mm while the founders made 4mmThat’s what preferred stock fixes and its the reason it exists
Yes, but what if the $8m pre was made-up entirely of founders’ cash?That never happens, you say. But often founders do confer more than just an idea. I see it all in terms of ‘tangibility’, and inflicted my logic on Mark Suster here
If that’s the case, then they should have preferred too. Preferred is for cash invested and common is for sweat equity
Yes, but ….Nah, another time – it is your birthday after all….
The other reason why I don’t want to get started is that I don’t want to deflect attention from the good momentum this post is generating on the core topic – ie. standardized early stage deal terms. It’s clearly a great idea which shouldn’t be railroaded by (if not off-topic, at least tangential) discussions.
I concur. We can argue about liquidation preference another time. Ideally with beer involved
Done. And at least we agree on our liquid preferences 🙂
I like the sound of that negotiation. But make mine an iced coffee, that’s my chosen elixir.
I think that’s a given if founders want to take another shot. If investors get burnt who’s going to want to back you again.And you might not hit it out of the park on your first swing due to any number of unpredictable influences.
I see both sides of it – way to align interests for the VC, but much riskier for employees. Should look to get all sides as whole as possible, so neither party benefits or gets ruined sales at lower than hoped for valuations.
Would Gunderson be willing to publish the docs in open source spirit? I bet it would help lots of US entrepreneurs.
they may have already done thati’ll ask them to come visit this comment thread and explain what’savailable and what is not
Great thought of the bigger picture.
I’d also love to see the boilerplate term sheet.
Great approach. The “get the most you can” model has information asymmetries that serve as a barrier of entry for start-ups. Lower that barrier and there will be more companies, more deals, more value creation AND less drag!
(comment removed, not well thought through).
Having standard, non-negotiated docs for the 1st financing would be great for angels as well. When you have multiple individuals looking at and worrying about a complete set of deal docs, it slows things down
Speaking as a lawyer in the UK, this all makes good sense from our perspective as well and the fee level looks about right for a small first round. However, working on these sorts of deals, the terms outlined above are not the time consuming bit to deal with, rather it is the reps and warranties that investors want. In the UK there is typically a long set of warranties which are then set against a disclosure letter – this is the document which takes up virtually all of my time as it is bespoke for each transaction.You might argue that warranties etc are a waste of time in the land of tech start ups, but investors do typically insist on seeing some warranties and where a company has been bootstrapping for more than a year or so, there can be a fair amount to sort out. There is probably a difference here with US and UK startups – I am guessing the US ones spend more to sort out their IPR etc up front, whereas with UK ones, some of it is left to chance and sorted out at investment time.Fred – Is this an issue in the US – do you get warranties from your start ups? I’d be fascinated to know your attitude.
Reps and warranties are customary in the US as well. But when the startup is two or three people, with no bank account as of yet, and maybe not even an incorporated entity, then its not a big deal. There’s not a lot to rep to other than IP ownership and the like
Huh, I hadn’t realized union square invested before a corporate entity was formed and a proven track record was provided (in my head that was mortgage your house and angel investment time frame).
Delicious had close to 100k monthly regular users before it was incorporated and we invested.We’ve done a few deals like that where the founder(s) bootstrapped it to the point where it was obvious that there was a business to be hadIn many cases they don’t incorporate or get a bank account until they do an external investment
I’m a fan to that type of natural growth, if you can survive and grow with a zero burn rate it paints a great picture for running a ship on a tight budget.
Of course that leads to all sorts of tax issues for the founders but hey who needs lawyers anyway.
Its logical- you want to stay away as far as you can. At point of incorporation, everyone wants the best terms and to incorporate in Deleware for a reason, and its easier if everything is bootstrapped up to a point of a business actually existing. Then it’s pretty clear what you would want out of a structure (trust me, I’ve had long nights hanging around some lawyer people when you have to extract out of badly done versions of these things, you don’t like it when terms blow up and you need to consult everyone and their mom.)
It’s true Chris is a serial entrepreneur but he’s turned in his entrepreneur shoes and traded them for an investor hat. I think his term sheet is fair and good but wanted to be careful with the representation you made.
Well serial entrepreneurs often are also active angels. I would bet we haven’t seen the last of chris’ startup activity
Hey furqan – I’m full time as co-founder Hunch and just invest on the side.
Shows you what I know… 😉
That’s a great step. Bravo for taking the lead, Fred.Now if only something similar could be adopted across the world (and at least in the Anglo-Saxon jurisdictions), it will save a lot of drag. In a couple of rather extreme cases, I have seen the entrepreneurs giving up the idea of funding or delaying it as much as they can just because of the legal issues and ‘funky’ terms that were going around.
Do you think that if there is a standardization of documentation – that it will try to be all inclusive rendering it useless – especially as each deal is its own animal? I am just afraid that in trying to CYA – these standard docs will get extremely bloated. I think that the only way you may get something that you really want is to use the same syndication – like you said – “It certainly doesn’t hurt that the company’s counsel, Gunderson, is a firm that we have used on multiple transactions as well. We trust them and so does the company.”
I hope gunderson makes these docs public as you’ll see they are the opposite. Very lean and clean
TechStars put together a very similar version with Cooley in February and open sourced them. http://www.techstars.org/20…YC also open sourced theirs (don’t remember the date – around the same time) – these were docs developed with Wilson Sonsini.Now all we need to do it get Gunderson, Cooley, and WSGR to agree!I think first round investments should be able to be done on a napkin. Or in twitter. Chris is completely right – there are only two terms that should have to be negotiated – price and amount.
Thanks Brad. This is so great. Its a movement and long overdue!
IMHO needs to be like shopping with a credit card….i.e. “what’d you do today?” “oh the usual…laundry, baked some cookies, went swimming, bought a few startups, etc” one click checkout, amazon style. of course will need provisions for refunds on accidental clicks
I love this vision but the gov’t (your criminals kid) might not like it
no worries boss they will collapse under their own greed, as all empires do. that is our big opportunity, but if we do not seize it the international banking cartel will do the whole “there’s a problem, guess we have to centralize things even more to solve it” scam. i am confident though that after legs two and three of the crisis (leg one was oct 2008) folks will get the picture and seize the oppty.
That’s why they are lawyers and not VC…FYI I sent this to a friend at MOFO, gotta love a firm with that name.
I think that everyone (even us lawyers) are in agreement here.I encourage people to have a look at what Orrick (my firm) has done to assist US startups with the Startup Toolkit: http://www.orrick.com/pract… There is not only a term sheet generator but also the documentation for founders of a US company.Here in Europe, we’ve worked with Seedcamp (www.seedcamp.com), similar to Y-Combinator, to produce standard documentation. This is available online (like the WSGR produced Y-Combinator documentation). However, Europe has many jurisdictions and we’ve only produced the English version to date.As to standardised documentation, here in the UK there is a growing trend towards using the BVCA documentation. The more law firms that use it the better. An abbreviated version certainly works well for angels.Finally, it was a pleasure to work with you (albeit on the other side) on the Zemanta transaction.
Hi chris. Yes it was a pleasure working with you on zemantaIt is so great to see everyone jumping on this bandwagon. All we need now is to reconcile all these first round docs and get to one we all like
Your comment re ISDA master cracks me up. I’ve thought for years that the most complex transactions, all shapes and sizes of deriviatives, in the world run off an ISDA master because lawyers don’t understand them. Lawyer’s, and I’m one, make VC financings much harder than they should be.
I’m the investor on the other side of a seed deal where Chris/Orrick are doing docs for the Company and I can vouch that they are some of the best I’ve seen: clean, concise, simple yet complete.As an aside (as an old capital markets person) what struck me as dead obvious a couple years ago when I started focusing professionally on the start-up space was the need for a standard base document like an ISDA Master Agreement, then you just do the equivalent of a pricing supplement for the details and idiosyncrasies specific to the deal. If you had this it would also allow the creation of a proper secondary market…I’ve got it all mapped out in my head but on the back burner while we raise capital. 😉
Great point on the value of standard docs for secondary markets. I had not focused on that in the past. Now its on my mind
Great to hear! Considering how fast technology moves, we can’t play by the old “rules” any longer. I think you guys are dead-on about the efficiency & simplicity that needs to emerge in order to get deals done. I wonder how many companies have been dramatically affected due to the pitfalls associated with the old way of doing things…
nailed it boss. in many ways the current finance revolution is about creating new standards — new standards for investment terms is a nice step. new standards for accounting practices is not far behind. once accounting standards are in place, valuation standards can be borne….once we have valuation standards, well, why not just create new public markets? which, to do, we’ll need to new regulatory standards (we can learn what not to do by studying the SEC).of course, the most crucial standard standard is the currency standard. and it is the change in this standard that will be the biggest catalyst for everything else, IMHO.
hi kidmercury. always like your thoughts on these topics. how do you see the sequence of events? timeframes? thanks.
hey marko,great question. i hope if there are others here at AVC that also have thoughts on this matter they will chime in.of course no one knows for sure, but here are my thoughts regarding sequence of events and timeframes:1. the US dollar troubles is the catalyst for everything, until that happens we just get baby steps in the journey towards standardized microfinance. the reason for that is because the investing community in the USA is very dependent upon public markets, so long as those are functional, even if barely, it will be hard to disrupt the professional investor industry because no one has incentive to embrace change. when the dollar’s troubles get big enough, the public markets will break.2. when will the dollar’s problems get big enough? some economists i trust say when annual price inflation reaches 40% financial markets breakdown.3. although i don’t think it is a sure thing, i view reaching annual price inflation of 40% or more in the US to occur by end of 2012, probably sooner. we are on the path to this outcome and while it is possible to turn it around the powers that be do not seem to be taking actions to do so, but rather continue to print and spend money on wars and stuff. the people generally do not know or care to know, and are just hoping they don’t have to deal with whatever problems do happen. but with that said, anger is brewing, government approval ratings are lower than they have been in a long, long time.4. if we get a dollar-induced breakdown of financial markets, it’s pandemonium. this introduces a lot of problems, the majority of which are entirely unpredictable.5. one thing that seems likely in this scenario is that local, state, and national governments stop working. bureaus disagree with each other, governments lack the funds to operate, government employees reach the conclusion that they are getting screwed too so why are they enforcing this system, and the clash between real patriots and corrupt govt employees becomes more obvious and undeniable. this is apparent to some now, although folks will get a lot angrier about it when their money is worthless.6. so who steps in to restore order? local communities. they will start their own currency and take the power back themselves. however, i think local communities also includes online local communities, and even more so those that create an online environment for local communities in the real world, like some of fred’s portfolio companies (meetup, outside.in)7. so now we have a community that will build its own currency out of survival needs. but we need to build an economy, otherwise, the currency cannot really get used. what i would like to see happen, and what i think is somewhat feasible (although admittedly i’m a dreamer 🙂 ), is for VCs to work together to create the standards that will enable them to rapidly build an economy. standards that will facilitate microfinance are: accounting standards (how are books keeped), technology standards (i.e. API standardization, what software languages are used, what open source technology is embraced, etc), liquidation/trading standards, investing standards, cultural standards, data sharing standards. basically i think things will become so standardized that the VC is like a platform, and they just plug their investments into the platform. we see some early signs of this, google launched google gadget ventures or somethign like that which invests in firms that build on top of google’s platform. facebook i think has talked about similar stuff. in this way i think microfinance will drastically reduce the risk involved in being an entrepreneur. even today we saw ycombinator announce the thing where they give you the strategy and you execute it. if they tell you what to do and they give you the money, you’re basically working for them. 🙂 but i think this is good, fair, and most importantly will create real economic value for all if done properly. it is also consistent with the web’s nature to reduce entrepreneurial risk and empower “the little guy.” i also think this is how microfinance firms will compete with each other — based largely on the standards they create. entrepreneurs will need to find the microfinance firm that works with the standards most compatible with the entrepreneur’s goals. here we start to see the investment of standards and value created around standards rather than the investment of capital becoming the dominant factor. the microfinance VCs at techstars and ycombinator have talked about this trend, so they see it coming.of course the biggest obstacle is psychological. no matter how bad things get or how logical change is, nothing can happen so long as people are afraid to take big steps. even talking about a lot of this stuff is taboo. but revolutions tend to happen quickly, as anger brews beneath the surface for a while before exploding — similar to how an economy can be troubled, but it will often take a market panic for this trouble to be externally realized.phew, too long of a post, but you got me on one of my favorite topics. 🙂
Hi Fred,A simple boiler plate template for most documents makes good sense.I was planning on setting up a website to help startups to access these boilerplate documents (not just capital raising but NDAs, Development/engagement contracts etc etc)If you want to email any boilerplate documents you have the right to ‘open source’ to [email protected] i’ll add them to the library.Cheers,Dean
Dean — need another email address as the one you have up there doesn’t seem to work.
sorry, forgot one small tweak on setting up the email – give it another [email protected]
Mr. Wilson:Can you weigh in on “appropriate” (for lack of a better term) salaries for (a) founders and (b) non-founding but very-early stage employees? I’ll withhold my opinion in hopes that you offer yours. 🙂
I’m with chris in the idea that founders should take cash comp equal to what they need to live on and put all of their ‘weath accumulation’ comp into equityThat should be revisited after a few years of course. But that’s how it should be at the start
I agree on the principle, but what happen when the founders have a different background: one a young graduate and one a gray hairs exec? Their burn rate can be pretty different.
I suspect that they both go as lean as possible in your case.I learned a lot from reading a book a while back, called “Retire on Less than you think”. I revamped my monthly budget and expenses, and swapped to working part time at my day job so I could begin to explore other challenges. But living on Long Island requires a pretty high relative salary for baseline bill covering with minimal extras (new sneaks for walking!).
I was talking about that yesterday with a friend, nothing is going to change until a) electrical costs come downB) they build a bridge across the sound (sorry CT and RI)c) They rezone, particularly around the LIRR so that the trains become like intercity transit around things to do, so that there is stuff to do and places to live if you are under the age of 35. Even if you are young and married with a baby under the age of 35. It says a lot that my local library held a symposium out in Nassau about trying to get people who grew up here to move back…But it isn’t like there are huge amounts of apartments or small baby houses that are easy to take care of while we run around doing the rest of our lives, you know? Most of my friends plan on moving into tiny apartments with lots of people, and having their groceries delivered while they work, and then go out and party a little on the weekends. This is not conducive to an area famous for Levittown and being close to the city.Don’t expect it to change so fast…
They should each take out what they need to live on. If its an issue between the two of them, it can be fixed with a different equity allocation. But ideally they will just acknowledge the different personal cost structures each has
What about early (pre-A but, say, post-seed/angel) employees?
Employees are different than founders. I think you need to pay them a market rate. But you can offer equity in lieu of cash. The trick is how they value the equity
good sign; for the most part, money is not made or lost for the entrepreneurs or VCs on the legal docs. The majority of the long (and expensive) docs deal with all kinds of downside protection scenario and if, in an early stage company, you are worrying about reducing risk via legal docs, you are missing the point. The lawyers have a deep incentive to make the docs more complicated – when they do so, they bill more hours and make more money. It’s rare for people to not ultimately act inline with their financial incentives. It happens but depending on lawyers to be altruists is a good way to have a non trivial percentage of a fundraising of extremely expensive capital go up in legal smoke.
Au contraire.If you know any lawyers doing VC deals who advocate complex legal docs so that they can bill more hours, you know the wrong lawyers.Most VC deals are done by law firms on a fixed fee basis. If anything, the less complexity and fewer bilable hours, the better for the lawyers.Please don’t tar VC lawyers with the brush of the billable hour.
I’ve used both Fenwick and Gunderson and have not found them willing to do fixed price deals. Who have you used that is?
Perhaps you are speaking to the wrong people at such firms (or they feel uncomfortable, for whatever reason, in giving you a fixed price quote).If you have a straightforward Series A financing, you should be able to get a fixed price quote (or a capped fee) from each of the leading firms. In no particular order, they are WSGR, Cooley, Gunderson, Fenwick and Orrick (my firm).If you have a term sheet in hand, with a capped fee for the VC’s lawyers, you should be able to get a comparable fixed fee from your own law firm.
I agree with chris on this. The only caveat is if there is ‘hair on the deal” lawyers can get killed with fixed price engagements
hear hear. 🙂 (reply to Chris)
Could not disagree more re lawyer comment, as having a “deep incentive to make docs more complicated” is akin to having a deep incentive to lose money.My firm, Reitler Kailas & Rosenblatt, routinely agrees to capped deals (and routinely loses money on Series A deals when we are the first lawyers that are involved with a Company’s corporate records); however, the upside of fixed fee (we hope) is a client believing they received good value for their money, as well as looking to use us again for the next transaction.
I agree with chris on this one
How big was the round you used standard docs for? Is there a size for a first round beyond which you wouldn’t use them?
I don’t know the answer to the last question. But its a good question. This one we are doing is just north of a million
thanks for the reply 🙂
I’m surprised there is not a wiki-legal yet that lets everyone come up with a standard set of documents (tweaked over time) that smaller startups can pick and use freely.
That’s a good idea, but what you really need is a standard non-legalese framework in which all the parties can agree, and afterwards is just sent to the lawyers to get ‘written up’.Rick Segal (VC turned entrepreneur) puts it much more eloquently here: http://ricksegal.typepad.co…
As a society we’ve been able to come up with standards for other stuff, so I don’t see why we can’t come up with standards for legal stuff to agree on too.
Because not all deals are the same.
That’s not a reason to not try to create a baseline. Creative Commons is trying to create a standard for all content on the web, and it could have easily said not all content is the same.
The reason not to is to more easily put lawyers’ kids though college. Some deals are different, but there have been enough early stage tech financings that it’s a rare deal that needs special terms. And even in that case, it’d be more efficient to make changes off a known standard set of documents so the lawyers only have to look at the changes rather than read the whole thing.I once had a lawyer who was working on a pretty standard doc tell me they do custom work and it’s higher quality because of that. I’m still scratching my head over that to this day.
Ha that’s funny.We actually had a similar situation. Funny that us entrepreneurs don’t unite against this. Maybe we are too busy disrupting other industries that we forget to disrupt the industry that are the gatekeepers to letting us disrupt others.
Harder to disrupt a business that is entrenched by law, policy, and regulation. Lots of problems trying to disrupt the real estate business or anything around alcohol.Lawyers are self-regulated and guard the “public interest” through the Bar Association. Add to that the immense number of politicians who are lawyers or rely on lawyers for campaign work. Not shocking that its incredibly difficult to disrupt the industry. Plus your case will be heard in front of a judge, who’s a lawyer. Hard to get people to let you destroy the system that they are part of and which they view as being a key part of the country.
I’ve always used http://www.findlaw.com which has been available since at least 2000 when I started using their site. all the samples that you would need are at http://contracts.corporate….
Wow, lots of great comments!Just for the record: I’m a full time entrepreneur (hunch.com) who invests on the side. The terms I describe in my blog post are the exact same terms we have at Hunch and that I had at my previous startup SiteAdvisor. I think most good VCs (like Fred, and my VCs – Rob Stavis and Hemant Taneja) agree these are fair terms.And, some people questioned me on this, so for the record I do work for no salary at Hunch. In fact everyone here works at far below market salaries here. One guy is literally making 1/3 of his last job. I realize working for no salary is a luxury I can afford but I’ll also say that at SiteAdvisor when we were all broke we also worked for subsistence salaries. I think its crazy that industry average salaries for post Series A companies are >$200K.In my view, working for no salary isn’t a selfless act. I think the additional runway it gives us will be worth more to me in terms of the equity increasing in value than the cash comp today would be worth. If you don’t believe this too, you shouldn’t be at a startup.Finally, I’m not saying the entrepreneur shouldn’t negotiate aggressively – just negotiate over the right things (e.g. valuation).
Thanks for the posts (that inspired Fred) and the comments here. Great information!
How much of your own money did you invest in Hunch? Forgoing salary is one approach but not the ultimate sign of confidence for someone self-described as “wealthy”.
I invested a lot. But that wasn’t my point. Nor was I trying to say I’m “wealthy.” I think the reason the startup world is so much better for society than, say, the hedge fund world is most people in startups really believe in what they are doing and get compensated when they create products/services of real value.
I agree with you chris on most of this. But I don’t think valuation is the most important point in a financing. The most important things are dilution, runway, and governance (and who you are in business with)
From Dixon’s original article:”not worry about money but not save any”So what does that mean? No retirement savings? No 401k? No 529 Savings for kids’ colleges?If I weren’t saving for that stuff, I’d be worried.
That’s what the equity is for. Its risky for sure, but that’s what startups are all about
Fred, I hope more investors follow your lead. It’d be great if VCs published their preferred set of docs on their websites so entrepreneurs knew what they’re getting into before the term sheet or even the first pitch, as Y Combinator (http://www.ycombinator.com/… and TechStars (re: Brad’s commen,t http://www.techstars.org/20… did.I wrote a blog post related to this issue but focused on angel deals last August when the Y Combinator posted their standard docs. You might appreciate the cartoon if not the post:http://www.venturevoice.com…
I’ll check out the post. There are some reasons why we might not want to share our standard set of terms. That becomes the baseline for negotiation and we just give from there. I don’t like negotiating very much and would love it if everyone started with their bottom line. But that’s not the way life works
This was very good information. I hope Gunderson let a people have a look at their term sheet.Fred , if an entrepreneur goes to VC with a term sheet but without a lawyer , is this discouraged ?
No. We can recommend some of the best and you can choose
This is absolutely the right approach. Saves money, makes future rounds easier, and saves the VC and the entrepreneur from wasting time and energy over-negotiating simple docs.Transaction documentation is slowly moving in this direction. It is easier for consumer deals (think home mortgage paperwork – imagine what a nightmare that would be if not standardized), but we see it in more complex commercial deals as well. The most successful example that I can think of is the ISDA form for hedges. Basically it is a very complex standard form, with an annex for variances.There are some comments calling on Gunderson to open up their form, and others citing forms produced by other firms. I don’t see that as solving the problem. You need buy-in from the entire industry. If you can get a broad group of prominent VCs and entrepreneurs to agree on this project under the umbrella of an industry association or somesuch, the law firms can be forced to follow, and that group can then refine and promulgate the standard forms. But it won’t work as long as it is allowed to be a marketing tool for one law firm at the expense of the other leaders in the field.Standard forms will benefit everyone, but they won’t completely remove the need for legal in all deals. In some deals, you may still need lawyers to assist with due diligence, and there will always be some deals where the form doesn’t work without modification.
“Tex” is in the house! Big grin on my face
Interesting you think deals should be straight preferred or common and not participating preferred. I thought I’ve read/heard you say that participating preferred is the new birthright (or at least highly desirable) of top VCs.
i used to think that matt, but i’ve changed my mind. we do use participating preferred when the valuation is too high for us to be comfortable about an exit in the short term. but we make it go away at 3x.but we would rather get the valuation right and do a straight preferred.
I think that a rough idea of the terms in the term sheet should be available to the entrepreneur before discussing the term sheet. For example, Y combinator states that they invest about 20K for 3 founders and take between 2-10% of equity. If an investor does not agree with these terms, then he/she will not pitch to them.Having a standard term sheet would solve this issue, but I think the terms of a term sheet depend on offer and demand.IMO, a marketplace where VC firms would be allowed to log in and look at pitches by entrepreneurs would lead to better (=fair) deals for both the entrepreneurs and the VCs, and might lead to a commonly used set of terms by VCs (as opposed to a “standard”). It could work as follows:1) Only VCs could look at entrepreneurs pitches (log in with an email address from a VC firm).2) Entrepreneurs provide a video presentation of their startup (maybe 1 mn, 5mn, 15 mn pitches) or any type of information that would be relevant to the VCs (tbd).3) VCs provide the minimum terms they require. The terms would be chosen from a list of all possible terms and the terms would be explained in plain English with example. The terms can be different for all VC firms but the entrepreneur will be able to see the pros and cons of each term sheet.4) Entrepreneurs state what they are looking for.5) There can be VC – entrepreneur conversations and VC-VC conversations (to refer good opportunities).6) VCs can select what type of projects they are interested in (industry, minimum number of users, available demo).The benefit for the entrepreneurs is that their pitch can be seen by many VCs.The benefit for the VCs is that they can view more ideas and get the deals closed faster.The pool of VCs and entrepreneurs would be large enough to have a more fluid market, resulting in fair terms for both the VCs and entrepreneurs at the time of the deal.If a VC is interested in investing, the term sheets used would be finalized faster because the expectations from the VCs and entrepreneurs had been outlined before.
Gunderson… I like that 🙂 Gil Gunderson (of Simpsons fame) used to be the only well know Gunderson out there.
hey fred. i’m trying for a trifecta with this one. i think i’m all out of ammo after this final one 🙂 http://www.cdixon.org/?p=259
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This may seem like a dumb question, but how is the board / control rights usually structured in a first round term sheet?It seems kind of unfair to me that an investor / VC can oust a founder, despite owning less than 50% of the company per say…
Its not likely that the vc would control the board if the founder owns more than 50pcnt of the company
Its not likely that the vc would control the board if the founder owns more than 50pcnt of the company
Its not likely that the vc would control the board if the founder owns more than 50pcnt of the company
Hi Fred. Generally I agree with Chris and you — and I wildly applaud this open public discussion and the movement for simple standard deals.But I am troubled by the notion that founders and entrepreneurs and people who work at startups deserve less than market cash compensation. Certainly they receive equity compnesation also — but the equity is worthless in what, 80% of the cases? And startups are exceedingly high risk, period. Combat pay is usually higher than scale!Also, in a world where startup teams are expected to starve or go skinny for the cause, I would hope VC partners and staffs would also do the smae — after all, the tasks are the same: take venture capital and create venture returns.So I’m curious — do you and the folks at USV work for no salary? Or nearly none? Or “substinence” wages? If you’re comfortable, please be specific
i didn’t say employees. i said founders. employees need to be paid market, but they can and should consider trading cash comp for equity comp as long as the total is still market. founders own the vast majority of the company at the start and in that period, it is appropriate for them to behave as owners.we don’t take any salaries but we do draw on any excess cash that is in our firm at year end. i would prefer to work for no cash comp and take all of my comp in carry, but i would want a better carry deal than the one i have to do that
with respect, what you wrote in your post is “Chris laid out the ideal set of first round terms and I agree with them.”chris wrote “Founder salaries …should be “subsistence” level and no more. If the founders are wealthy, the number should be zero. If they aren’t, it should be whatever lets them not worry about money but not save any. This is very, very important. Peter Thiel said it best here. (I would actually go further and say this should be true of all employees at all non-profitable startups – but that is a longer topic).”so chris clearly advocates all employees be at “subsistence” level. and if you click and listen to thiel’s remarks, he also advocates setting founders comp extremely low for, amongst other reasons, the purpose of setting a very low bar for all employees comp (no one gets to earn more than the founders and ceo)i’m not against Vcs and VC staff making high comp. but i am against startup people — even founders — being asked to take below market comp, *especially* when the investors proposing this condition themselves do nothing of the sorthow much excess cash is generated per annum? divided by how many people? sorry, i don’t mean to pry, but the investors of the world are setting the example by airing out founders comp in detail and in public so i assume its fair game to do the same with investors?
Second comment -The best way to standardize term sheets AND control legal costs would be to have VCs pay their own legal bills.Its a bit unfair to view attorneys as the principal factor driving up legal costs — having done a fair number of deals, I can say one of the main reasons legal costs balloon is that every VC in every deal expects to be able to have their own law firms review every word.And these law firms are under no pressure to keep it lean and mean — they are not being paid by their clients (the VC firms) but rather by their clients opponents sitting across the table!Imagine if VCs had to pay their own legal bills (and, um, isn’t that what management fees were supposed to be for?) Deals would quickly be near-standardized as attorneys would be under tremendous pressure to make it neat clean and fast (after all, a startup is a short term, small file client for a law firm, but a VC firm is usually a longterm, cash cow for them.)Even better, all that portfolio company funding money would (drum roll please) actually go to work in the portfolio company, and not to give VCs de facto compensation raises (by freeing up management fee dollars which end up going to pay bigger salaries.)I know, I know. It’s a crazy fantasy. But a guy’s got to dream, doesn’t he?
in the deal i referenced in this post, there are no VC legal fees because we aren’t using a lawyer.
got it.but, what do you think about the idea of VCs paying their own legal bills?
i will add a few points.1. pre money valuation should value the company as it exists today. if investors want to ask for an option pool that is reducing the value of the company as it exists today and is therefore a lower pre money. i’ve always thought this was a bs way for vc’s to sell you an emotional value but make you take a third less.2. if a company is profitable the entrepreneur should NEVER give up control. if it’s not, the vc’s can negotiate for that. control is hire/fire the ceo and set budgets.3. msg to vc’s. if you like an industry, company, team back them. if you dont dont. entrepreneurs – dont work with vc’s that demand anything beyond normal preferred with 1x liquidation. if they ask for 8% dividends and a 5 yr forced payback, tell them to go be bankers and lend their money out.4. control – entrepreneurs, assume that if a vc can fire you they will. it can happen bc you performed badly and also bc you performed too well, and you have never managed such a big business.5. relationships – matter a lot. go with people you know and trust, not the highest bidder. go 10% below your market price, choose your investor and hopefully they will feel priviledged. my advice is pick people you would like to have beer and sushi with like fred.6. ref check – ask to interview founders of failed companies the vc backed, especially ones who have been replaced. remember, some should be replaced.
This is seriously good advice mark. You should blog it. I am going to reblog this at fredwilson.vc
I am very selective what I add to Google Reader but Chris Dixon looks excellent! Thanks Fred for pointing him out.
We use Gunderson and their standard terms for all transactions.
Example investor pitch deck: I recently created a 11-slide EXAMPLE investor pitch deck here: http://bit.ly/ScOYK this deck includes both example slides and descriptions / discussion for each; the powerpoint deck template is also available for download
Late to the table here, but have to say this is the best stream I have read in a very long time. IMHO, there is a significant pent up demand that is going to break through over the next 6 months. Thinking like this is an accelerator. The faster everyone can be on the same field, the faster all can get to the business of doing the business they all want to be doing — creating great solutions that, as a bi-product, create wealth for those willing to work hard.
Very good sign indeed. So where is that standard sheet? Is it posted online somewhere?