Posts from October 2011

I blogged about the interview I'm doing with Carlota Perez tomorrow. I'm super excited about this. The details are in the post behind that link.

We only have 15 minutes so as Carlota and I have talked this over, we've decided that we can't do a deep dive into her research and her theories. Instead we will spend the time trying to make sense of where we've been over the past ten years and where we are heading now.

So, if you plan to attend the interview or watch via livestream, please review these slides in advance. They are from her talk this summer at Stanford at the Triple Helix conference at a session in memory of Chris Freeman, another brilliant economist whose work inspired much of Carlota's work.

 

 

Last week I pointed out that when your company is sold at price points around or below prices where you have financed your company then your proceeds in a sale transaction will not equal your fully diluted ownership percentage times the sale price. You will get less because some or all of the preferred shareholders will choose to take their liquidation preference instead of their percentage of the company.

And in that post last week, I promised to show you all how to model this out.

Before I do that, a couple acknowledgements. Andrew Parker and Christina Cacioppo had a hand in helping me put this liquidation model together (its the second tab in the google spreadsheet). Andrew built the original template when he was at USV and Christina modified it before sharing it with me.

One of the jobs of an analyst or an associate at a venture capital firm is building these models. They are complicated and time consuming. I took a close look at Andrew and Christina's work before creating this model. I built it from scratch (driven off the cap table model I shared a few weeks ago) and it took me a couple hours to do it. It's not a simple thing to build one of these.

I did it from scratch for a few reasons. First, I wanted it to be driven off the sample cap table and be part of that shared spreadsheet. Second, I wanted to do it slightly differently than Andrew and Christina's model. And mostly, I wanted to prove to myself that I can still do this work. I passed that final test by the way.

Ok, so with all of that out of the way, here's how you model out a liquidation scenario. First lay out the capitalization of the company. List each class of stock, how many shares there are, what the cost of that class was, what the liquidation preference of that class is, and how much of the company each class owns. You can see that work at the top of the liquidation analysis in the section called "shareholdings".

As part of that work, you need to figure out what the terms of the various classes of preferred are. You need to know if they are straight preferred or participating preferred. And you need to know if there are any dividends paid in liquidation. And you need to know if any of the classes have a liquidation mutiple (1.5x, 2x, etc). If any of those things are present, put them into the shareholdings section as well.

For the sake of this model, I assumed that all three classes of preferred (Srs A, Srs B, and Srs C) are straight preferred with no multiple or dividends. That makes all of this much simpler. I also assumed the Srs C is senior to the Series B which is senior to the Series A.

If you don't know what any of this stuff means, then I would suggest you head over to Brad Feld's awesome term sheet series and read the section on liquidation preference.

Ok, back to the model (again, its the second tab). The next thing you do is lay out across multiple columns a range of exit values (sale prices). I chose $5mm to $55mm in $5mm increments.

Then in the rows under those sale price headings, you lay out the liquidation waterfall. Start with the most senior class of stock (in this case Srs C), and figure out how much of the liquidation preference would be paid out in the specific sale price. Then figure out how much is left for the rest of the shareholder base after that class is liquidated. And then figure out how many fully diluted shares are outstanding after that class is liquidated and taken out of the cap table. And finally figure out what the value of that residual is per remaining share.

That residual value per fully diluted share number is imporant. If that number is higher than the cost per share of the next class, the next class will convert to common in a sale and will not take its liquidation preference. If that number is lower than the cost per share of the next class, the next class in the waterfall will choose to take its liquidation preference as well.

You do this work class by class until you get to the common and option holders. They do not have a liquidation preference so they simply share the remaining residual (if there is any) on the basis of how many shares they own divided by how many fully diluted shares are left in the cap table after the liquidation of various classes of preferred.

Once you have worked through the waterfall by class, you then sum up the proceeds by class of stock. There are a couple reasons you want to do this. First, you want to show how much each class is getting in each sale price scenario. But this also serves as a great check on your work. If the total proceeds of all the classes equals the sale price, your formulas are working right (that doesn't mean the model is right but it is one good check).

Finally, you should add up the proceeds for each shareholder (or major shareholder). Each major shareholder will want to see how much they are getting in the various sale price scenarios. And this is again a great check on your work.

A few final comments. First, I assumed that all of the options that are listed as "unissued" in the model cap table eventually get issued before the sale happens but that no additional options are added to the cap table. That is an unlikely scenario. Usually there are unissued options in the cap table at the time of sale and you need to take them out of the cap table before doing the liquidation analysis.

And the choice of $55mm for the final sale price was not accidental. That is the next price increment above the point where all the preferred will choose to convert to common. That scenario has every class taking their fully diluted ownership percentage of the sale price. From that point on, there is no need for a liquidation model. That is why I ended there.

Again, this is complex stuff. There are likely to be a ton of questions in the comments. And it is entirely possible that there are bugs in this model. If you find them, please point them out and I will fix them.

But as complicated as this is, it can get even more complicated. Things like participating preferred shares and dividends and multiples make this even worse. A good reason to avoid all of that when you set up your cap table!

Regular readers know that I've been thinking a lot about #occupywallstreet which I think is an example of the cultural revolutions I talked about on stage at TechCrunch Disrupt. 

My friend Dave Winer has built a beautiful web service that allows all of us to easily follow this movement in a river of images. He calls it occupyweb.org.

Check it out.

Matt Blumberg, CEO of our portfolio company Return Path, wrote an interesting post last week about the differences between building a company and building a business.

I've been an investor and board member of Return Path for over a decade and I've witnessed the company fail with its first product/business and then through a series of acquisitions build a very strong business and company. Matt and his team built the company first then the business, which is backwards, but it worked.

Matt is right that most of our portfolio companies build the product first, then the business, then the company. And building a company is often difficult for founders because they are so focused on the product. 

Roelof Botha, a leading VC with Sequoia, once gave me a great piece of advice in helping founders start to focus on company building. He said founders should think of their company as a product and build it and shape it with the same passion and care. I've taken that to heart and passed it on a few times. 

No matter how or when you do it, building a company is a required step to sustainability. Positive cash flow is not enough to keep the company independent and solvent. You need a culture, systems, and processes to keep everyone happy and functioning well. That is company building and Matt and his team are among the best I've seen at it.

I'm sure the AVC community has noticed a bit more comment spam slipping in. That's for a number of reasons. As the number of comments rises across multiple threads every day, it takes me longer to get through them all. One of the many reasons I read every comment is that I am also the moderator and I delete and report all comment spam, as well as very infrequently I'll delete an entirely inappropriate comment. It is also true that as the Disqus network has increased in size and reach, it has become a bigger target for comment spammers. Even if you filter out 99.9% of all comment spam, if enough comes at you, that 0.1% starts to amount to a real number.

I've made a small change in the AVC Disqus moderation settings. If enough people flag a comment (by clicking on the little red flag that comes up when you hover below a comment), that comment will no longer appear in the thread. I will still see the comment when I moderate the thread and I can reinstate it or delete and report it as spam. This puts the power of moderation into the hands of the community which is something I should have done a long time ago. I'm not going to say how many flags will do this. I don't want anyone gaming the system.

I do not want the community flagging comments you don't agree with. This is a community open to all voices, even when they express ideas that aren't popular. In particular, comments that hate on me personally should not be moderated. I can take the heat. I want the heat. I'd like to remain the only person who can moderate "entirely inappropriate comments." So if that kind of comment gets flagged off the thread, I will put it back.

Finally, I also do have the ablity to make certain community members moderators with the same powers I have. There are a few, not very many, who I would bestow this right onto. Shana and William come to mind in particular. If you would like to have mod powers and you think you've earned them, let me know in this thread and I will respond to the request in this thread. I will also report on this blog who I've given these powers to. I reserve the right to revoke them at any time.

I've leveraged the power of this community for so many things over the years, it is ironic that it has taken me so long to leverage the power of the community to keep the bar clean.

One of the distinctive features of canvas is the sticker tray in the upper left of the page.

When you use canvas, you drag and drop these stickers onto images to recognize great posts. You also drag and drop the stickers to share on social media services, and to do other things in canvas (like remix). The stickers are the key engagement gestures in canvas.

So it makes sense that the canvas bookmarklet would maintain these engagement gestures outside of the canvas service. Here's a screenshot of the canvas bookmarklet in action on the NY Times website:

If you are a Yankee/A-Rod hater like me, how can you resist adding a #1 sticker to that image?

If you want to add the canvas bookmarklet to your browswer, you can get it here.

I shed my tears when Steve Jobs stepped down less than six weeks ago. That's when I knew it was over. The news came to me last night during a board dinner. My 18 year old daughter kik'd me. I asked her if she was sure. She said "it's all over twitter". I interrupted the lively dinner conversation. "I've got some important news. Steve Jobs has passed away". Six entrepreneurs and VCs in that room. Among the best I've ever worked with. And not one of us said anything for a minute or two. What can you say?

The iconic entrepreneur of the information age is gone. We are all mortal. Steve more so than his peers it seems. But really he had no peer. There are great entrepreneurs all over the place. But Steve was better than all of them. He is a role model for entrepreneurs everywhere. And so many entrepreneurs use him as such.

So we've lost the man. He will no longer bring us great products. He will no longer bring us the future in the present.

But we've gained a legend. He will inspire others to bring us great products. He will inspire others to bring us the future in the present.

May he rest in peace.

There are many people who should get credit for Union Square Ventures' investment strategy.  The community here at AVC is certainly on that list. But possibly at the top of the list is Carlota Perez. Her book, Technological Revolutions and Financial Capital, was responsible for much of the foundational thinking Brad and I did at the start of Union Square Ventures back in 2003, which in turn led to our initial investment thesis.

I am super excited about an interview I am doing with Carlota next week in NYC at the Web 2.0 Expo. Carlota is from Venezuela and lives in the UK and doesn't visit the US very often so this is a pretty special event. The interview will take place next Tuesday, Oct 11th, from 5:05pm to 5:20pm in the plenary session of the event. Web 2.0 Expo is at the Sheraton Hotel and Towers in NYC.

I plan to talk to Carlota about bubbles, golden ages, where we are right now, and plenty more. I've written a fair bit about Carlota and her theories on this blog so if you have any suggestions for questions, please leave them in the comments.

If you'd like to attend in person, you can get a 25% discount on a admissions pass by using the discount code "webny11fos" when you register. You can register here.

The entire event will be livestreamed, including the interview, at http://www.web2expo.com/webexny2011 in case you want to see it but cannot make it there live.

I'm really looking forward to this.

I'm taking the day off today to celebrate the Gotham Gal's birthday with her. The AVC community should feel free to talk about whatever you want. Things on my mind include Occupying Wall Street and the unfortunate news that Chris Christie won't throw his hat in the ring.