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The Right Way to Grant Equity to Your Employees

Andy Rachleff is President and CEO of Wealthfront, a software-based financial advisor. Prior to Wealthfront, Rachleff co-founded and was general partner of Benchmark Capital. He also teaches courses on technology entrepreneurship at Stanford Graduate School of Business. Follow him on Twitter @arachleff.

“The defining difference between Silicon Valley companies and almost every other industry in the U.S. is the virtually universal practice among tech companies of distributing meaningful equity (usually in the form of stock options) to ordinary employees. Before companies like Fairchild and Hewlett-Packard began the practice fifty years ago, distributing stock options to anyone other than top management was virtually unheard of. But the engineering tradition that spawned Silicon Valley was much more egalitarian than traditional corporate culture.”

— Steven Johnson, The Peer Society

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The equity culture among young technology companies is almost universal. When implemented properly, broad employee ownership within a company can:

• Align the risk and reward of employees betting on an unproven company.
• Reward long-term value creation and thinking by employees.
• Encourage employees to think about the company’s holistic success.

Unfortunately, despite decades of experience building new hire option plans, many startups still fail to put in place an equity compensation plan that adequately rewards long term employees over time.

When I was a venture capitalist, I noticed companies that seldom lost employees due to recruitment had a lot in common. Sure they offered challenging and inspiring work environments sought by top-tier talent. But you might be surprised to learn they all rewarded outstanding performance through the issuance of additional stock options (or as is now the case, RSUs) in a similar way. 

The Wealthfront Equity Plan

Based on my observations, I created an equity allocation plan that I encouraged all my portfolios to adopt. It worked so well that executives and my fellow board members usually brought my plan with them when they got involved with other companies. Over the years, I am proud to say that hundreds of companies, including Equinix, Juniper Networks and Opsware, adopted this plan because it just made sense.  

Not surprisingly, we’ve put this plan in place at Wealthfront. 

How It Works

The Wealthfront Equity Plan is designed to specifically handle the four most important cases for granting equity to employees. Each year, you create a new option pool that addresses the following needs:

1. New Hires: These grants are used to hire new employees at market levels.
2. Promotion: These grants are intended to reward employees who have been promoted. Promotion grants should bring the recipient up to the level you would hire her at today for her new position.
3. Outstanding Performance: These grants, made once each year, are only intended for your top 10% to 20% of employees who truly distinguished themselves on the basis of amazing accomplishments over the past year. Individual performance grants should represent 50% of what you would hire that person at for their position today. This pool should be reserved for non-executives.
4. Evergreen: These grants, which are appropriate for all employees, start at an employee’s 2½-year anniversary and continue every year thereafter. The idea is you don’t want to wait until the employee’s initial grant has been fully vested to give a new grant because by that time the employee will evaluate new opportunities. Annual evergreen grants should equal 25% of what that employee would receive if she were hired for her same position today. Giving 25% of the market rate for a position each year, rather than a lump sum grant that covers the next four years, will smooth out the vesting process so the employee never reaches a cliff. As I said before, cliffs cause people to raise their heads to consider alternatives and should be avoided at all costs.

The Key: Consistent, Early Evergreen Grants

Most companies put considerable effort into the size of their equity grants for new hires. It’s rare these days to find new hires that haven’t used a tool, like the Wealthfront Start-Up Salary & Equity Compensation Tool, to determine the appropriate amount of salary & equity to expect for a given position.

Fewer companies, especially young ones, put significant effort into thinking about follow-on grants. If you tell your employees to “think like an owner,” then you need to consistently align equity with their contribution to the success of the company.

Evergreen grants are the most common area where technology startups fail to invest time until far too late in their development.

“The average tenure for most technology employees is two to three years, and waiting until your first employees hit year four is just too late.”

Instead of an ad-hoc process, the Wealthfront Equity Plan offers a transparent, consistent and fair program of equity grants that employees can build into their long-term expectations. As a result, not only do you avoid cliffs, but you also tie both long-term tenure and contribution to their ownership stake. The best part is that, as your company grows, you always grant stock in proportion to what is fair today rather than in proportion to their original grant.

What About Dilution?

Based on our calculations, the Wealthfront Equity Plan should result in approximately 3.5% to 5% annual dilution assuming no executives need to be hired. (Please see our Slideshare presentation for the details of how to allocate stock for a 50-person private company). As a point of reference, most public technology companies increase their option pools by 4% to 5% per year, so the proposed dilution is well within the reasonable range.

The Wealthfront Equity Plan might result in 0.5% to 1% extra annual dilution relative to less generous plans. One way to think about the trade-off is to ask yourself, if you’re a stockholder, would you rather be assured of retaining a much higher percentage of your key employees and own 97% of what you would have owned without the Wealthfront plan over your four-year vesting period (4x the mid-point of 0.5% to 1%), or deal with the risk of losing valued team members and not suffer the additional dilution? I would take the extra dilution 11 times out of 10.

That being said, there are a number of board directors who think that is too much dilution for a company to absorb. A few months ago, a fellow I recruited as CEO to two of my Benchmark portfolio companies told me he never appreciated the value of the Wealthfront Equity Plan until he joined a board where the board members were too cheap to do the right thing for their employees. Needless to say, he implemented the Wealthfront Equity Plan when he started his own company.

Investors and employees make much more money by increasing the size of the pie rather than their share of the pie. The only reason not to implement the Wealthfront Equity Plan is greed, and greed seldom leads to a good outcome.

An Equity Plan that Works for Employers & Employees

One final observation about companies that successfully retain employees: They usually create a culture that treats options as something dear that aren't offered as an alternative to a cash bonus. They encourage employees to think about increasing the value of their options through accomplishment rather than asking for more upon completion of a task. It has been my experience that companies granting options for completion of milestones seldom build a culture that values equity — and therefore suffer greater turnover. 

A well-designed equity allocation plan works for both the employer and the employees. The Wealthfront Equity Plan creates a tremendous incentive for people to stay at a company without costing the employer too much. That’s the kind of win-win to which we should all aspire.

Read more: http://firstround.com/article/The-Right-Way-to-Grant-Equity-to-Your-Employees#ixzz2qJ7BLaAA

It’s time to rethink startup equity

By Jay Adelson, Opsmatic

Nov. 13, 2013 - 8:00 AM PST

photo: Shutterstock / AnatolyM

Summary: For a place that prides itself on disrupting tradition, Silicon Valley is still using a pretty traditional method for compensating startup hires and employees with stock. Here’s another idea.

Change is the only constant in life and this is especially true in Silicon Valley. We live in a time of constant change and rebirth, which we optimists think is for the better. One thing hasn’t changed: How Silicon Valley companies — especially startups — use stock to compensate and incentivize their employees.

Traditional stock options are failing to create the ownership culture we want from employees and it’s killing our ability to build companies for long-term success.

For employees, a one-year term ending on the vesting cliff date is increasingly common. This leaves a big hole in the team and the cost to hire a replacement is significant. We all want to eliminate bad matches sooner, but it’s no surprise so many employees wait for the equity. Having more non-employee equity holders causes resentment among current employees doing the hard work to create stock value.
On the other side of the equation, founders and investors are increasingly tight-fisted with company ownership, allocating smaller stock pools to employees — most of which are eaten up by very early hires, rock stars or senior execs — leaving very small amounts for later hires, which does little to nurture their commitment to the company.

I’ve been involved with startups for a long time and have seen these patterns over and over. After working at a number of startups, I co-founded Equinix in 1998, Revision3 in 2005 and was the chief executive of Digg, Revision3 and SimpleGeo. I’ve also been an active advisor to several early-stage startups. After nearly twenty years of using the same recipe for employee equity, I’m taking a new approach at my new startup, Opsmatic. We are sharing equity in a new way, one we believe builds a true ownership culture that will be a key to our success.

I’ll explain more later, but in addition to a traditional stock option grant, we’re offering our first fifteen employees, or however fewer it takes to get to the next financing, an equal share of 15 percent of the company, which they will receive if they stay with the company through a liquidity event.
Why do this? We are focused on attracting and retaining the best possible team over the long term. Our employees are key to our success, and we are determined to change their (and our) behavior to avoid the downsides of the traditional approach to stock allocation. As I talk to CEOs, I’ve uncovered some of the causes of these patterns.

Employee behavior

Burned by booms and busts, employees often look to maximize their compensation up front, hopping from company to company in an attempt to scale compensation or title. Most stock options have a one-year cliff; if they leave at that point, they can purchase 25 percent of their equity with no further commitment to the company, giving them the ability to diversify their equity portfolio and reduce risk.

The rise of secondary markets has complicated matters and created a pervasive myth that employees can sell their stock early. While private stock sales are available to a minority of high-value, successful companies that support these transactions, it’s not an option for most early companies. According to SecondMarket’s 2012 data, the median number of employees for companies with private stock transactions was 347 with an age of seven years and a market cap of $569.5M, and 66 percent of transactions were made by existing employees, not former employees.

Founder behavior

Founders and CEOs typically distribute equity in a long tail, most of which goes to very early employees after a first financing, leaving increasingly smaller amounts for later hires. This does not build a sense of shared ownership.

The rationale I hear is that early employees take more risk around an uncertain future, so they should get higher compensation. Lately, in conversations, I surprisingly found that people joining later often feel they are taking a larger risk around getting paid!

This may seem backward, but upon reflection, there’s always the non-trivial chance of the next round not happening or revenue not coming in before cash is burned away. A fresh, recently funded startup has more money in the bank and has made fewer execution errors, so risk is a matter of perspective.
To make matters worse, I’ve talked to dozens of founders who confirmed that in retrospect, there was little correlation between the distribution of stock options and the actual value the employee brought to the company. Independent of contribution, the larger option packages are dolled out to super early employees (or co-founders) and rock stars.

A rock star hire is a hire in which founders and CEOs pay above market rates for someone they deem super-critical. Maybe you’re developing software and would benefit from someone who is famous for inventing the concept. Perhaps you need to build a new sales force, so you go after a famously successful head of sales veteran from another company. Maybe you want to recruit new talent, so you hire someone that new employees would kill to work with.

Rock stars are typically fought over, so equity distribution increases due to competition, giving these employees a larger share. Nevertheless, years later, post exit, often the unsung heroes — like employee number fifteen — weren’t benefiting in a way that reflected their contribution. As far as I’m concerned, when combined with the long-tail distribution, this is not the best way to motivate employees or engender team loyalty.

The details of our approach

To address these issues, we’ve created a new approach to equity called the Dynamic Stock Pool (DSP).
This pool is designed to be a long-term incentive, encouraging loyalty and reinforcing that we will win or lose as a team. While each of our employees will get a traditional stock option grant, the majority of Opsmatic’s employee stock — 15 percent of the company — is allocated to the DSP.

The DSP pool is egalitarian, shared equally amongst the first fifteen employees we hire. So it’s a rich incentive at 1 percent of the company (before any future dilution). Typically, equity numbers of that level are reserved for VPs, CxOs and rock stars, so this is a significantly more generous offer than most early hires receive, particularly outside of management or founders.

However, here’s the catch: The stock in this pool is only distributed to employees who remain at the company through a liquidity event, such as an IPO or acquisition. If you leave before then, you don’t get any of your DSP shares — so this is truly an incentive to play for the long-term. In fact, the employees who stay through the liquidity event continue to share equally in the pool. For example, if only five of the first fifteen employees remain, each would receive 3 percent (pre-dilution).

What about…

Clearly this is different from how things have been done since companies started handing out stock options, so of course it raises a few questions.

Some feel that varying skills and experience merit differential grants. Beyond accompanying salary differences, we also have a traditional option pool to address a legitimate reason to give one employee more than another. Another challenge involves the perception of the ‘value’ of different kinds of employees. For example, some people have asked, “What if you hire a receptionist or a janitor? Should they have as much value as a developer?” Because each employee is equally diluted in the DSP, this model creates a strong incentive to only hire critical employees. This means hiring fewer non-essential personnel and prioritizing the hiring of great, mission-critical people first. If your team truly needs a receptionist to succeed, the equity is justified. As for early departures, employees who unexpectedly leave would still have their traditional vested options, and measures are in place to prevent a manager from firing someone at the end, like a game of Survivor.

There are other edge cases we have thought of and resolved, and probably complications that arise out of the longer-term nature of this incentive. However, I spent the greater part of two years working with great attorneys closing all the legal loopholes that may arise, and I’m confident enough that I’m using Opsmatic as the first test bed for the DSP.

Of course, I welcome feedback, and I’ll definitely share what I learn as we put this new approach to work.

Jay Adelson is a serial entrepreneur, having built companies such as Equinix, Digg, Revision3 and SimpleGeo. Jay founded Opsmatic in early 2013, and currently serves as Chairman and Founder.
Featured photo courtesy Shutterstock user Shutterstock user AnatolyM

Convertible Note Insights

by Keith White

Convertible notes are all the rage in early-stage financings.  Here is our guide to convertible notes with what we’ve garnered from our experience with them.  In short, they are neither the panacea their proponents promote them as nor the blight their critics complain of.  They are a potentially useful tool that must be understood to be used properly.

Note: These points are listed roughly from beginner to advanced, so experts might want to read bottom-to-top. 

• A convertible note combines features of a loan or debt, typically interest and priority in a default, with the ability to convert into equity, giving greater financial upside to the investor if the firm flourishes. 
• Startups typically defer the interest rather than pay it in cash, meaning it gets added to the value the noteholders will convert.
• Notes often include “discounts,” the ability to convert to equity at a lower price than subsequent investors in the next round.  We sometimes hear subsequent investors grumbling about this but we think that’s unreasonable since the noteholders invested earlier and earlier investors deserve more upside.
• In big corporations, the conversion feature is usually considered a fallback option, but with startups conversion is expected because it’s hoped the company value will increase dramatically.
• If you issue equity, you generally give all investors the same terms for legal and expectational reasons.  Notes can give the flexibility of offering different terms to different investors.  However, the same feat can be accomplished with equity through warrants.  We can show you how.

Valuation Caps

•  Startups often offer convertible notes with valuation “caps,” which allow a note investor to gain value for company growth between the purchase of the note and its conversion in the next round.  If the note has no cap, the investor would only benefit from growth AFTER conversion.
• People often hear “cap” and think the return is capped, but in fact it’s the dilution that’s capped.  This means a cap favors the investor, not the founders. 
• An example:  If an investor invests in a convertible note with a $4M cap and the firm is subsequently valued at $8M, the investor has doubled their money.
• Don’t confuse the “cap” in a valuation cap with the “cap” in the “cap table.”  In the former, cap means limit.  In the latter it is short for “capitalization.”
• Convertible notes with caps can give investors high, equity-like upside with low, debt-like downside.

Potential Misconceptions

•  Many notes are described as having a valuation cap AND a discount.  This is grammatically imprecise.  When converting to equity, most deals apply a cap OR a discount, whichever is better for the INVESTOR.  We can show you how to calculate which applies.  Generally, the higher the valuation at conversion, the stronger the case for applying the cap.  It’s analogous to the “make-or-buy” problem you may have seen in business or economics class.
• Some say convertible notes are faster & easier to negotiate than priced equity offerings.  We consider this “sort of true.”

−  The initial paperwork can be easier since noteholders usually don’t get ownership rights like board seats and voting rights, which are complicated terms to negotiate.

−  Notes avoid having to set a valuation on the company, essentially “punting” that until the next round.

But…

−  Reasonable professionals can often negotiate valuation & terms quickly in an equity offering, mitigating notes’ advantage.

−  Notes have other terms to negotiate like interest, caps, discounts, maturity dates and conversion terms.

−  A valuation cap acts like an implied valuation if triggered, so if a cap is offered you still have to think about valuation.

−  Tracking the accumulation of interest can mean more paperwork later, especially if you offer different investors different terms.

Still…

·   Issuing notes means you don’t have to create a valuation for tax purposes, which is required in an equity offering.

Important But Often Overlooked Elements

• In a down-round, the face value of notes doesn’t decline with the value of the company, so they act like “full ratchet anti-dilution” clauses.  If there’s a discount, it may still apply and notes are even more dilutive.  Expensive capital in these cases.
• Notes typically have maturity dates.  If a firm can’t raise another round before maturity to force conversion, they technically have to pay back the loan (and interest) with cash, often causing a default.  In reality the company tries to renegotiate, but that’s no fun and success is uncertain. This maturity problem is exacerbated by the development of the Series A crunch, where many firms get seed funding but can’t get Series A funding because VCs are now preferring bigger deals (Series B+).
• If a note converts into a class of equity with a liquidation preference, the noteholder gets that preference too.  For example, investing $500K in a note with a $4M cap and converting into equity with a 1x participating preference at an $8M valuation means a noteholder quadruples their money in a liquidation (doubling once due the the cap and doubling again due to the preference).
•  Note terms are often expressed as price-per-share in calculations & contracts.  If you find that confusing, try calculating percentage ownership and investment value first.  Many clients find that more intuitive.  We can show you how.

Start Exploring the Start Up Universe

The Startup Universe displays and explores the relationships between startup companies and their founders and investors (Venture Capitalists) since 1990. Click the pic to check it out.

How Funding Works – Splitting The Equity Pie With Investors

FUNDERS AND FOUNDERS

Anna Vital  /  May 9, 2013

 

A hypothetical startup will get about $15,000 from family and friends, about $200,000 from an angel investor three months later, and about $2 Million from a VC another six months later. If all goes well. See how funding works in this infographic:


First, let’s figure out why we are talking about funding as something you need to do. This is not a given. The opposite of funding is “bootstrapping,” the process of funding a startup through your own savings. There are a few companies that bootstrapped for a while until taking investment, like MailChimp and AirBnB.
If you know the basics of how funding works, skim to the end. In this article I am giving the easiest to understand explanation of the process. Let’s start with the basics.
Every time you get funding, you give up a piece of your company. The more funding you get, the more company you give up. That ‘piece of company’ is ‘equity.’ Everyone you give it to becomes a co-owner of your company.

Splitting the Pie

The basic idea behind equity is the splitting of a pie. When you start something, your pie is really small. You have a 100% of a really small, bite-size pie. When you take outside investment and your company grows, your pie becomes bigger. Your slice of the bigger pie will be bigger than your initial bite-size pie.
When Google went public, Larry and Sergey had about 15% of the pie, each. But that 15% was a small slice of a really big pie.

Funding Stages

Let’s look at how a hypothetical startup would get funding.

Idea stage

At first it is just you. You are pretty brilliant, and out of the many ideas you have had, you finally decide that this is the one. You start working on it. The moment you started working, you started creating value. That value will translate into equity later, but since you own 100% of it now, and you are the only person in your still unregistered company, you are not even thinking about equity yet.

Co-Founder Stage

 As you start to transform your idea into a physical prototype you realize that it is taking you longer (it almost always does.) You know you could really use another person’s skills. So you look for a co-founder. You find someone who is both enthusiastic and smart. You work together for a couple of days on your idea, and you see that she is adding a lot of value. So you offer them to become a co-founder. But you can’t pay her any money (and if you could, she would become an employee, not a co-founder), so you offer equity in exchange for work (sweat equity.) But how much should you give? 20% – too little? 40%? After all it is YOUR idea that even made this startup happen. But then you realize that your startup is worth practically nothing at this point, and your co-founder is taking a huge risk on it. You also realize that since she will do half of the work, she should get the same as you – 50%. Otherwise, she might be less motivated than you. A true partnership is based on respect. Respect is based on fairness. Anything less than fairness will fall apart eventually. And you want this thing to last. So you give your co-founder 50%.
Soon you realize that the two of you have been eating Ramen noodles three times a day. You need funding. You would prefer to go straight to a VC, but so far you don’t think you have enough of a working product to show, so you start looking at other options.
The Family and Friends Round: You think of putting an ad in the newspaper saying, “Startup investment opportunity.” But your lawyer friend tells you that would violate securities laws. Now you are a “private company,” and asking for money from “the public,” that is people you don’t know would be a “public solicitation,” which is illegal for private companies. So who can you take money from?

1. Accredited investors – People who either have $1 Million in the bank or make $200,000 annually. They are the “sophisticated investors” – that is people who the government thinks are smart enough to decide whether to invest in an ultra-risky company, like yours. What if you don’t know anyone with $1 Million? You are in luck, because there is an exception – friends and family.
2. Family and Friends – Even if your family and friends are not as rich as an investor,  you can still accept their cash. That is what you decide to do, since your co-founder has a rich uncle. You give him 5% of the company in exchange for $15,000 cash. Now you can afford room and ramen for another 6 months while building your prototype.

Registering the Company

To give uncle the 5%, you registered the company, either though an online service like LegalZoom ($400), or through a lawyer friend (0$-$2,000). You issued some common stock, gave 5% to uncle and set aside 20% for your future employees – that is the ‘option pool.’ (You did this because 1. Future investors will want an option pool;, 2. That stock is safe from you and your co-founders doing anything with it.)

The Angel Round

 With uncle’s cash in pocket and 6 months before it runs out, you realize that you need to start looking for your next funding source right now. If you run out of money, your startup dies. So you look at the options:

1. Incubators, accelerators, and “excubators” – these places often provide cash, working space, and advisors. The cash is tight – about $25,000 (for 5 to 10% of the company.) Some advisors are better than cash, like Paul Graham at Y Combinator.
2. Angels – in 2013 (Q1) the average angel round was $600,000 (from the HALO report). That’s the good news. The bad news is that angels were giving that money to companies that they valued at $2.5 million. So, now you have to ask if you are worth $2.5 million. How do you know? Make your best case.  Let’s say it is still early days for you, and your working prototype is not that far along. You find an angel who looks at what you have and thinks that it is worth $1 million. He agrees to invest $200,000.

Now let’s count what percentage of the company you will give to the angel. Not 20%. We have to add the ‘pre-money valuation’ (how much the company is worth before new money comes in) and the investment
$1,000,000 + $200,000=              $1,200,000  post-money valuation
(Think of it like this, first you take the money, then you give the shares. If you gave the shares before you added the angel’s investment, you would be dividing what was there before the angel joined. )
Now divide the investment by the post-money valuation $200,000/$1,200,000=1/6= 16.7%
The angel gets 16.7% of the company, or 1/6.

How Funding Works - Cutting the Pie

What about you, your co-founder and uncle? How much do you have left? All of your stakes will be diluted by 1/6. (See the infographic.)
Is dilution bad? No, because your pie is getting bigger with each investment. But, yes, dilution is bad, because you are losing control of your company. So what should you do? Take investment only when it is necessary. Only take money from people you respect. (There are other ways, like buying shares back from employees or the public, but that is further down the road.)

Venture Capital Round

Finally, you have built your first version and you have traction with users. You approach VCs. How much can VCs give you?   They invest north of $500,000. Let’s say the VC values what you have now at $4 million. Again, that is your pre-money valuation. He says he wants to invest $2 Million. The math is the same as in the angel round. The VC gets 33.3% of your company. Now it’s his company, too, though.
Your first VC round is your series A. Now you can go on to have series B,C – at some point either of the three things will happen to you. Either you will run out of funding and no one will want to invest, so you die. Or, you get enough funding to build something a bigger company wants to buy, and they acquire you. Or, you do so well that, after many rounds of funding, you decide to go public.

Why Companies Go Public?

There are two basic reasons. Technically an IPO is just another way to raise money, but this time from millions of regular people. Through an IPO a company can sell stocks on the stock market and anyone can buy them. Since anyone can buy you can likely sell a lot of stock right away rather than go to individual investors and ask them to invest. So it sounds like an easier way to get money.
There is another reason to IPO. All those people who have invested in your company so far, including you, are holding the so-called ‘restricted stock’ – basically this is stock that you can’t simply go and sell for cash. Why? Because this is stock of a company that has not been so-to-say “verified by the government,” which is what the IPO process does. Unless the government sees your IPO paperwork, you might as well be selling snake oil, for all people know. So, the government thinks it is not safe to let regular people to invest in such companies. (Of course, that automatically precludes the poor from making high-return investments. But that is another story.) The people who have invested so far want to finally convert or sell their restricted stock and get cash or unrestricted stock, which is almost as good as cash. This is a liquidity event – when what you have becomes easily convertible into cash.
There is another group of people that really want you to IPO. The investment bankers, like Goldman Sachs and Morgan Stanley, to name the most famous ones. They will give you a call and ask to be your lead underwriter – the bank that prepares your IPO paperwork and calls up wealthy clients to sell them your stock.  Why are the bankers so eager? Because they get 7% of all the money you raise in the IPO. In this infographic your startup raised $235,000,000 in the IPO – 7% of that is about $16.5 million (for two or three weeks of work for a team of 12 bankers). As you see, it is a win-win for all.

Being an Early Employee at a Startup

Last but not least, some of your “sweat equity” investors were the early employees who took stock in exchange for working at low salaries and living with the risk that your startup might fold. At the IPO it is their cash-out day.
Inspired by: How to Fund a Startup, Paul Graham

Written by Anna Vital

Startup Evangelist and Infographic Author

Want To Raise A Million Bucks? Here’s What You’ll Need (Re-post From TechCrunch)

Greg Kumparak

Monday, April 22nd, 2013

So, you’ve built yourself a nice little product. Maybe you’ve raised a small friends-and-family round; maybe you’re still bootstrappin’ on your own. Either way, now you’re looking to raise at least a million dollars to help with the next steps.

While there’s no perfect formula for stuff like this, these stats from AngelList’s Ash Fontana are a pretty good indication of the metrics you should be aiming for.

As part of the FirstTuesday startup gathering in Santiago, Chile, this evening, Ash presented a slide outlining some ballpark metrics that startups should aim for before swoopin’ in for a big first round:


[Photo Credit: César Salazar of 500Startups]

As a Venture Hacker at AngelList, Ash’s job involves poring over tons of deals to try and work out exactly what makes a good deal go down. In a conversation I had with Ash earlier, he asked me to note that these numbers are just his rough estimates based on this insight; they’re not crunched directly from AngelList’s database.

The bulk of the slide is pretty self-explanatory — just consider each bullet point a sort of theoretical entry bar for companies looking to raise a $1M+ round in a given category.

If you’re a social company, you’d do well to have at least 100,000 downloads and/or signups before going after your million-dollar round. If you’re running a marketplace or e-commerce company, you should be aiming for around $50K in revenue each month. If you’re going after the enterprise, you’ll want at least 1,000 paid seats at $10 per seat per month (or the equivalent for your pricing model); if you’re focused on big enterprise, you should lock down at least two huge (pilot) contracts.

You may note that “Product” and “Team” are crossed off at the top of the slide. This is from earlier in the presentation, when Ash reaffirmed just how important traction seems to be. Assuming that we’re talking about an average team with an average product (that is, unless your team has a very well-proven entrepreneur or two on its roster, or you’ve built some truly hardcore, one-of-a-kind tech), traction is everything.

These numbers, of course, aren’t concrete. In fact, they’re very much ballpark figures. You shouldn’t expect to hit your 100,000th download and suddenly have every VC in the valley bangin’ on your door. If you’re able to get your stats up in these ranges and can score yourself some meetings, however, you probably won’t have too much trouble sealin’ the deal.