Get Venture: Venture Made Transparent

Alex's News Picks: July 14th

2009-07-14T11:26:32-04:00

Management Equity Compensation Benchmarks

2009-07-13T08:47:39-04:00

I'm often asked by entrepreneurs for equity compensation benchmarks. They want to know how much equity they should give a COO, a VP or a CEO. Understanding these numbers is important for sizing an option pool and important for creating compensation plans for new members of the team.

Wilson Sonsini Goodrich & Rosati, a venture law firm, recently published the results of a study on the typical equity compensation packages for key managers after a Series A investment. These numbers provide pretty useful guidance not only for compensation at the time of the Series A, but also for compensation at the Seed or Series B round as these metrics can be adjusted for likely dilution to back into a benchmark for equity at the Seed stage or otherwise.

It is worth noting that these numbers are not the end-all be-all for equity compensation. They might fluctuate as market dynamics change and may not be representative of the entire market. That said, they should provide entrepreneurs with some directional guidance.

Why VCs Take Dividends

2009-07-10T09:42:05-04:00

In my post, Dividends: Common Structures, I talk about the three commonly used structures by which VCs accrue dividends. The motivation behind each dividend structure varies.

When Declared
The when declared structure is designed to ensure that the VCs aren't excluded from dividend payments. This prevents the board from declaring dividends that only pay other share classes and leave the VCs out.

Cumulative
Cumulative dividends enable VCs to be compensated for investments that take longer to liquidate. From an investor perspective this makes sense as the longer it takes to realize an investment (have the company exit) the worse their returns looks to the investors in the venture capital fund. As a result, by accruing dividends a VC's return can be enhanced partially offsetting the effect of having a longer duration to liquidation.

Compounding
Compounding dividends can substantially increase investor returns over time. While some VCs will use this structure simply to enhance returns, this approach may also be used to create incentive alignment. In unique situations where there is either 1) additional risk to holding onto an investment for an extended period (e.g., a patent expiring) or 2) where the is concern that the entrepreneur will not be seeking an appropriately timed exit.

In the situation of the patent expiration, the value of the exit may decline over time. Having compounding dividends enables an investor to increase their liquidity preference thereby increasing the percentage of the exit value that they will have rights to as the company's value declines. This may have the effect of stabilizing a return. Conversely, in this scenario the operators will receive a smaller percentage of the payout as time passes creating an incentive from them to sell the company early.

In the second situation, where the investors are concerned about the entrepreneur's intent to pursue an exit, the compounding dividends does create an incentive for the entrepreneur to consider the timing of the sale (in addition to the size of the exit).

It's worth noting that it's most common to see the when declared or cumulative dividend structures in term sheets.

Alex's News Picks: July 9th

2009-07-09T11:16:39-04:00

Dividends: Common Structures

2009-07-08T07:59:13-04:00

Term sheets may include some provision for dividends to be "paid" to the investor. These dividends are commonly structured in one of three ways: when declared, cumulative and compound.

When Declared
In this structure investors only get dividends when the board declares a dividend for the firm. The legal language will often ensure that a dividend cannot be paid to another share class without also paying the same dividend to the preferred shareholders (investors). To be clear, if the board doesn't declare a dividend, then one isn't paid. If the board does declares a dividend, the investors get to participate.

Cumulative
Another common structure is for the investor to require that an annual dividend be paid to them. Usually the dividend amount is a percentage of their initial investment.

Most early-stage companies do not have excess cash to pay dividends, however. If they do generate excess cash they typically re-invest it into the company. As a result, investors accumulate their dividends as liquidity preference, to be paid before common shareholders get to participate.

Compounding
Compounding dividends are structured much like cumulative dividends. They are paid based on a predetermined percentage and accumulate as liquidity preference. Compounding dividends differ in that the annual dividend amount is not determined as a percentage of initial investment, it is determined as a percentage of the initial investment plus the total accrued dividends. Investors are paid dividends on dividends.

Alex's News Picks: July 7th

2009-07-07T09:27:04-04:00

Being International On July 4th

2009-07-03T12:06:25-04:00

Tomorrow is the anniversary of America's independence - a great time to be thinking about how to be a better citizen both at home and globally.

With that spirit in mind, as of yesterday this blog has become internationalized. I added (per the recommendation of my rock star intern Wayne) Google translator. If you don't read English well, fear not - you can now read this blog in dozens of languages. Hopefully this content will be able to help entrepreneurs everywhere.

Alex's News Picks: July 2nd

2009-07-02T10:54:25-04:00

Not Everyone Can Be On The Board - Observer Rights

2009-07-01T07:29:41-04:00

In my post, Don't Let Your Board Get Too Crowded, I made the point that large boards can become cumbersome - early stage firms generally should limit the board to 5 to 7 directors.

There are, however, situations where there are more than 7 people who feel entitled to having a seat on the board. This might arise when there are numerous founders, angels or VCs involved with the company.

When this happens you will need to help your constituents negotiate against this constraint. One way to keep some of the involved parties engaged without giving them a board seat is to give them observer rights. Board observers are entitled to attend meetings and participate in the group's leadership, even though they don't have a formal vote on the board.

Board observer rights are also often requested by VCs when boards are not already over crowded. This right enables them to bring junior members of their team to the meetings to give the junior staff more experience and provide more support for the company.

Alex's News Picks: June 30th

2009-06-30T10:23:57-04:00