Comments on: To Participate or Not (Participating Preferences) http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html Tue, 14 Feb 2012 01:23:00 +0000 hourly 1 http://wordpress.org/?v=3.3.1 By: Double-dipping in the Life Sciences http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-48214 Double-dipping in the Life Sciences Mon, 09 May 2011 15:57:51 +0000 http://www.feld.com/wp/?p=139#comment-48214 [...] what’s the impact of participation on returns?  This has also been blogged on by others, but here’s a biotech example.  Consider a biotech that has raised $75M to date in equity [...] [...] what’s the impact of participation on returns?  This has also been blogged on by others, but here’s a biotech example.  Consider a biotech that has raised $75M to date in equity [...]

]]> By: The Convertible Debt v. Equity Financing Omnibus Post http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-48210 The Convertible Debt v. Equity Financing Omnibus Post Sat, 30 Apr 2011 20:12:27 +0000 http://www.feld.com/wp/?p=139#comment-48210 [...] Brad Feld: A PP is the right of an investor, as long as they hold preferred stock, to get their money back before anyone else (the “preference” part of PP), and then participate as though they owned common stock in the business (or, more technically, on an “as converted basis” – the “participation” part of PP). It takes a preferred investment, which acts as either debt or equity (where the investor has to make a choice of either getting their money back or converting their preferred shares to common), and turns it into something that acts both as debt and equity (where the investor both gets their money back and participates as if they had converted to common shares). [...] [...] Brad Feld: A PP is the right of an investor, as long as they hold preferred stock, to get their money back before anyone else (the “preference” part of PP), and then participate as though they owned common stock in the business (or, more technically, on an “as converted basis” – the “participation” part of PP). It takes a preferred investment, which acts as either debt or equity (where the investor has to make a choice of either getting their money back or converting their preferred shares to common), and turns it into something that acts both as debt and equity (where the investor both gets their money back and participates as if they had converted to common shares). [...]

]]> By: » Seed Funding – Some New Considerations | StartupNorth http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-48194 » Seed Funding – Some New Considerations | StartupNorth Thu, 14 Apr 2011 15:06:58 +0000 http://www.feld.com/wp/?p=139#comment-48194 [...] Term Sheet: Participating Preference [...] [...] Term Sheet: Participating Preference [...]

]]> By: DoctorPreneur – What I’m Reading | Innovate Arkansas http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-42013 DoctorPreneur – What I’m Reading | Innovate Arkansas Wed, 03 Nov 2010 22:39:38 +0000 http://www.feld.com/wp/?p=139#comment-42013 [...] understand full ratchet anti-dilution clauses and 3x capped participating preferred stock only because it was important to my [...] [...] understand full ratchet anti-dilution clauses and 3x capped participating preferred stock only because it was important to my [...]

]]> By: Tweets that mention To Participate or Not (Participating Preferences) -- Topsy.com http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-41536 Tweets that mention To Participate or Not (Participating Preferences) -- Topsy.com Wed, 27 Oct 2010 22:34:52 +0000 http://www.feld.com/wp/?p=139#comment-41536 [...] This post was mentioned on Twitter by Antone Johnson, Antone Johnson. Antone Johnson said: In-depth expl. of participating preferred stock issues @jenniferland described at #FailCon panel - @bfeld blog: http://bll.la/C6 #startuplaw [...] [...] This post was mentioned on Twitter by Antone Johnson, Antone Johnson. Antone Johnson said: In-depth expl. of participating preferred stock issues @jenniferland described at #FailCon panel – @bfeld blog: http://bll.la/C6 #startuplaw [...]

]]> By: Finance Geek » Participating preferred shares http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-27279 Finance Geek » Participating preferred shares Tue, 04 May 2010 16:41:25 +0000 http://www.feld.com/wp/?p=139#comment-27279 [...] Like I said, this is an important issue for entrepreneurs to get their minds around, and there are complementary explanations (which you will like better if you prefer words to tables) in Fred’s post and on Brad Feld’s blog. [...] [...] Like I said, this is an important issue for entrepreneurs to get their minds around, and there are complementary explanations (which you will like better if you prefer words to tables) in Fred’s post and on Brad Feld’s blog. [...]

]]> By: An Evolved View Of The Participating Preferred : Invest My Money http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-27222 An Evolved View Of The Participating Preferred : Invest My Money Sun, 02 May 2010 22:09:13 +0000 http://www.feld.com/wp/?p=139#comment-27222 [...] Now some of you are wondering what a participating preferred is. I'll give you a brief explanation and then send you off to Brad Feld's blog for a complete description. [...] [...] Now some of you are wondering what a participating preferred is. I'll give you a brief explanation and then send you off to Brad Feld's blog for a complete description. [...]

]]> By: An Evolved View Of The Participating Preferred | Tehranpi.net http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-27215 An Evolved View Of The Participating Preferred | Tehranpi.net Sun, 02 May 2010 01:35:14 +0000 http://www.feld.com/wp/?p=139#comment-27215 [...] Now some of you are wondering what a participating preferred is. I’ll give you a brief explanation and then send you off to Brad Feld’s blog for a complete description. [...] [...] Now some of you are wondering what a participating preferred is. I’ll give you a brief explanation and then send you off to Brad Feld’s blog for a complete description. [...]

]]> By: DaveSF http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-27058 DaveSF Sun, 25 Apr 2010 19:09:31 +0000 http://www.feld.com/wp/?p=139#comment-27058 "VCs get very EMOTIONAL about the idea that their cash should have a liquidation preference. Why is that? Investors in an IPO don't get a liquidation preference, and their money is just as green." Why do you compare a very risky early stage investment with PP to an IPO? I don't see the relationship. Investors like PP because it prevents a misalignment, where founders have an incentive to sell at zero investor profits. It also allows investors to be less brutal about valuations, since a wash-sale still produces profits for them. Consider the scenerio where the author's example of a $5M investment at $5M premoney is made, giving investors a 50% equity stake. A year later, the company sells for $10M. Without PP, the investors just made a zero-interest loan while founders make $5M. With PP, the investors would receive their $5M back and both parties split the $5M "return" at $2.5M each. As the author mentioned, there is a valuation number at which the investor return on a given deal works out the same. For example, the above scenerio at a $3.75M pre-money puts the investors at 75% equity and the same return on the $10M sale. What this does _not_ equalize, is the incentives if the founders wish to sell at $7M, which is again a wash-sale for the investors but profit for the founders. I can see an argument for less than 100% participation, but founders walking away with all the profits on a wash-sale doesn't seem fair. PP allows the investors to fix this mis-alignment problem at sale values between the investment amount and at or just above the post-money investment valuation. As the author pointed out, once the ROI increases, the PP term diminishes. "VCs get very EMOTIONAL about the idea that their cash should have a liquidation preference. Why is that? Investors in an IPO don't get a liquidation preference, and their money is just as green."

Why do you compare a very risky early stage investment with PP to an IPO? I don't see the relationship.

Investors like PP because it prevents a misalignment, where founders have an incentive to sell at zero investor profits. It also allows investors to be less brutal about valuations, since a wash-sale still produces profits for them.

Consider the scenerio where the author's example of a $5M investment at $5M premoney is made, giving investors a 50% equity stake. A year later, the company sells for $10M. Without PP, the investors just made a zero-interest loan while founders make $5M. With PP, the investors would receive their $5M back and both parties split the $5M "return" at $2.5M each.

As the author mentioned, there is a valuation number at which the investor return on a given deal works out the same. For example, the above scenerio at a $3.75M pre-money puts the investors at 75% equity and the same return on the $10M sale. What this does _not_ equalize, is the incentives if the founders wish to sell at $7M, which is again a wash-sale for the investors but profit for the founders.

I can see an argument for less than 100% participation, but founders walking away with all the profits on a wash-sale doesn't seem fair. PP allows the investors to fix this mis-alignment problem at sale values between the investment amount and at or just above the post-money investment valuation. As the author pointed out, once the ROI increases, the PP term diminishes.

]]> By: Want to Raise Venture Capital More Easily? Clean Up Your Own Shite First | CloudAve http://www.feld.com/wp/archives/2004/08/to-participate-or-not-participating-preferences.html/comment-page-1#comment-26557 Want to Raise Venture Capital More Easily? Clean Up Your Own Shite First | CloudAve Wed, 14 Apr 2010 12:17:21 +0000 http://www.feld.com/wp/?p=139#comment-26557 [...] take most of the money unless there is a big upside scenario.  And it sometimes it creates “flat spots” where some investors become indifferent to the ultimate price you sell your company between wide [...] [...] take most of the money unless there is a big upside scenario.  And it sometimes it creates “flat spots” where some investors become indifferent to the ultimate price you sell your company between wide [...]

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