As an ex-founder I never understood why people make this argument because it's completely symmetric. I.e. I could rephrase it as "I imagine if a company becomes enormous, I'd care less whether my outcome was $200m or $250m as a VC"
I agree with the advice in the article but would phrase it slightly differently -- work hard to structure your company such that you can get away with raising as much as you need and still give away only 10%-15% each round. (Or, yet another way to put it, build a company so successful that you can dictate the terms)
If the valuation feels unreasonably high then I'll try to negotiate, or I'll just pass. If the valuation is low and results in too much dilution, then I'll try to figure out with the founder if they can make progress with less money/dilution, or I'll just pass -- because overdiluting sucks for the founder and will also eventually suck for me as an investor by capping the upside.
I think this framing works for the founder, too: if you need $X for your near term plans, and you're getting a fair valuation that doesn't overdilute you, then that's good. If the valuation is unfairly low, try to find other options. If it's unreasonably high, then that's okay if you are good with cash management -- but be mindful that the higher your current valuation, the higher investors' expectations will be for your next round.
Specifically: don't worry about valuation because success is binary. You either make enough money that you don't care too much about percentage or you make zero dollars in which case you don't care about percentage.
The idea of constraints helping to focus a team sounds true, as long as people have enough to not worry about money. Note that this advice comes from Sam, who literally got scurvy from eating too much Ramen while a founder of Loopt.
I do agree that there is a market opportunity to fund $50m/year businesses, but that's not what VCs are for.
VCs: Invest in 100 companies, 90 fail, 5 return capital, 3 return 10x, 2 return 100x | 2.35x return on capital over a 10 year period (hopefully)
Index fund: 6% yearly return | 1.79x return on capital over 10 year period
Traditional small business loans average 6-9% APR and have a higher failure rate than an index fund but lower than an index fund. Unfortunately, for startups, they require collateral and/or historical financials.
Most startups either fail or become small businesses. Investors are giving you money to fund a business that you own. Depending on the terms you can, and should, use that money for whatever you want.
Its the investors problem if 5x returns aren't good enough, not yours. Does the bank call you to complain that your mortgage interest rate is too low? No. They gave you the loan with what they thought was reasonable terms at the time. It's not your fault they gave you the money too easily.
You should be focused 100% on building a successful sustainable business. Investors can fuck right off if they push for risks that could turn their 5x return into 0.
No, a VC doesn't hate you at the end of the game if they get paid 5x. That's different than answering the question "Will they invest for a promise of a 5x return?"
If your seed investors are "name brand", and they pass and say, "Ah yes, they're very nice guys. Wonderful conscience, very punctual. Unfortunately I can't follow on, my capital's already allocated. I wish them luck.", you'd better have a plan for profitability.
2) If you can bootstrap to enough revenue, you can try bank loans or things like http://www.saas-capital.com/
3) Unfortunately, the numbers don't work out for VCs if your goal isn't "$1b+ or bust." Almost all companies will exit for much, much less than $1b, but if there's no chance of $1b+ then there's basically no chance that a company will product very meaningful returns for its investors.
From the VC's point of view how is a 5% chance of a $200m exit different from a 1% chance of a $1b exit? (etc.)
Also, if one company is a 5% chance chance at $200m but 0% chance of being worth more than that, while another company is a 1% chance of $1b, the second company might still be a better investment because it's probably 1% chance of $1b AND a 5% chance of $200m if it doesn't go all the way to $1b.
Binary success ultimately comes from the customer: from their perspective, either the product satisfies their need or it doesn't. As soon as some other product satisfies their need better, they'll switch. And since customers talk to one another and largely like the same things, they tend to do so en-masse, and even $multi-billion giants can find their market evaporates in the span of a couple years.
Of course they're going to tell you not to worry about giving more of the company away, they don't care who owns it. More money flying around is almost invariably a good thing for early investors.
You don't really need advice about funding from anyone, just look at some successful companies and see what they did. Funding is one of the few aspects where you can mimic your startup idols because it's public info.
The fact is, all the biggest unicorns had enough promise and brains behind them to retain majority ownership, or at least full control well into billion dollar territory. If you're good enough investors will be practically begging to give you their money.
Yeah, so fuck the advice from investors. Make sure you keep as much ownership and control over your company as possible until it's sending people to the moon.
Survivorship bias, anyone? You can look backwards at all the success stories. That tells less than 1% of the story, though. What about all the failed companies that did the same thing as the successes? What about all the factors that were irrelevant to success, yet apparent in the success stories?
> The fact is, all the biggest unicorns had enough promise and brains behind them to retain majority ownership
Isn't that pretty close to saying, "All the successful unicorns had apparent qualities of successful unicorns along the way"? How do I become tall? Ensure the top of your head is far away from your feet.
I agree, this is hard to do. Because most investors triangulate on 15-25% per round, and use the amount of money you expect to raise as a way to back into a valuation.
As a founder, the best way to do this in a seed round would be to raise (all or most of) your seed round from Angels, who are more likely to sign off on a note / safe at a specific cap without knowing the total amount raised, and then you can triangulate on 10%.
It's worth noting that this game is even harder outside of the valley, because while operating costs are significantly lower, so are valuations, and most companies will bump into minimum cash needs for 12-18 months.
Sam made a good point: running out of money is way worse than optimizing for your cap table.
Let me make a second point: Optimizing for success is way more important than optimizing your cap table. In other words: If you believe a specific investor meaningfully adds to the probability of a success state for your company, then its probably a good bet even if you are not happy about the dilution.
In order of what you should care about:
1. Not running out of money.
2. Finding people who can be value-add and help you prevent mistakes and find success.
...
3. Dilution (within reason).
Also, you can always recap founders in later stages. It happens.
60% is one funding deal away from becoming a minority stake, while 80% leaves room to do another deal while still maintaining control. Money is not the only concern here.
Maybe I've just been around for too many decades, and seen too many shady deals proposed. But my trust comes slowly -- control issues come first in my mind.
I've known of founders who wouldn't take a deal because they liked being, to use Zuckerberg's honorific, CEO, bitch. And then they rode that into the ground.
I think you're saying they're two forms of the same thing. That's true but they're not two reversible forms. Moreover, there is no control after exit.
So the point is that taking a little less at a concrete exit might be worth more than taking a little more of a sleigh ride.
Maybe it's different if you're a shit-hot YC company, but man. I thought you were successful if you stayed below 20% at seed.
I don't agree with this advice. Well, in theory, I strongly agree that avoiding excessive dilution is ideal. But the suggested numbers (10% dilution for a seed round) feel very unrealistic to me. It's very hard to get far on that kind of money for a seed stage company. If anything, the proliferation of bridge rounds and seed extensions and series of convertible notes show that even after raising seed rounds, many companies need more capital to get to a series A.
It's also interesting to note that the 10% figure is coming from YC, which takes 7%. That's a considerable amount of dilution, too (and very worth it, IMO).
Finally, I've never been a founder, but I imagine if a company becomes enormous, I'd care less about whether my net worth was $200m or $250m as a founder. So the dilution seems less important than having enough capital for a successful outcome. I'd rather have 60% of a small exit than 80% of a $0 exit.
I do believe in constraints and good cash management, so regardless of how much founders raise, they should be conservative with spend until they have strong product market fit.