29 posts categorized "Emerging Companies"

Three longer reads for where we are after General Solicitation Day

We are now living in the second day after General Solicitation Day. All trying to take stock of what has happened, and how the landscape is different.

And there is no shortage of media coverage! (Here, from a news angle, is a good overview from the Wall Street Journal: General Solicitation Brings Startups Capital, Risks. I was interviewed for this article and love the quote they got from me: "The government is doubling down on the idea that accredited investors can fend for themselves.")

PhotoBut today I wanted to call out three different, longer-form pieces of writing, each published within the last week. Each, in a different way, lends a deeper perspective on where we in the startup financing ecosystem are now.

Each will be a reference piece in the weeks and months to come.

1. Paul Spinrad's take on where we are, how we got here, and how all the different pieces fit together.

Here is an article that Paul Spinrad published on a PBS website: Online Platforms Give the First Public Look at Private Equity. As I said on Twitter yesterday, Paul's is the best written, broadest article yet on general solicitation and the changes to private financing rules.

Among the delights of Paul's well written survey are: an explanation of how public offerings came to be squeezed into a private exemption framework; the balance or contrast of considerations when approaching policy for accredited and non-accredited crowdfunding; and how private equity platforms are rolling out new features to facilitate the new rule set.

On Monday in GeekWire, I tried, not very effectively, to point out some of the new features on some of the leading online platforms. Paul's take on the same topic is far more accomplished. And that topic is only one facet of his survey.

2. Trent Dykes', Megan Muir's and Kiran Lingam's whitepaper on do's and do not's at demo days and pitch events.

This one, Demo Days, Pitch Events and the New Reg D, is controversial. I've had an earful from several people already on how this whitepaper may get one or another thing wrong.

But I greatly admire the ambition and timeliness of it. The question that the rest of us hem and haw about – am I automatically generally soliciting if I show up at a demo day or pitch event? - they tackle.

Whether or not you agree with the protocols and checklists they lay out, Dykes, Muir and Lingam are calling out the right factors to consider and giving laypeople the means to educate themselves about general solicitation.

3. The Gunderson law firm's comment letter to the SEC on the proposed Reg D rules.

This is a letter published on the SEC's received comments page, signed by a Gunderson partner, Sean Caplice.

There are a ton of comment letters on the proposed rules, none too few from big law firms.

What's remarkable about the Gunderson letter is that it provides answers to all 101 "requests for comment" posed by the SEC in its proposing release.

Most commentators either cherry pick which of the SEC's questions they want to answer, or skip the agency's questions altogether and comment from the perspective of the commentators' own agenda or frames of reference. For tackling all 101 requests for comment, and for that reason alone, I think the Gunderson comment letter is a touchstone. (Kudos to Joe Wallin for pointing the letter out to me.)

Liquidation preferences matter!

Today's post is a shout-out to a piece by Trent Dykes on The Venture Alley.

Trent gives us the up-shot of a much-watched case having to do with the legal duties faced by directors in approving the sale of a company where the preferred shareholders will receive proceeds, but the common shareholder will receive nothing.

5486734383_26a5db3611_zIn this particular case, In re Trados Incorporated Shareholder Litigation, the directors were found to have not breached duties to common shareholders.

Big picture, the case is a reminder that liquidation preferences really do matter. Directors will have duties to all shareholders, of course, when considering whether or not to sell a venture. But it's also quite possible, and not at all uncommon, for a company to be sold in circumstances where the preferred shareholders will see a return and the common shareholders will receive . . . nothing.

I find this excerpt from Trent's post to be particulary instructive:

"Private equity and venture-backed company can sometimes find themselves in the difficult situation where the timing of the major investors’ need for liquidity (due to such investors’ investment time horizon) does not align with the company’s ability to obtain an optimal liquidity event (either in time or value)."

That's the tension, isn't it.

Almost all venture investors want liquidity at some point, but some venture investors have institutional imperatives for it. That's a critical factor to consider, not just when constructing liquidation preferences but in choosing what investors to let in.

Photo: schmechf / Flickr.

Boldly embracing one's vowel-deficient ways

I saw somebody on Twitter quote the comedian Albert Brooks, to the effect that Yahoo should next spend some money to buy a vowel (Tumblr being a second, prominent acquisition of a company that lacked the letter "e" in its name; Flickr being the first).

CaptureSo I thought this Flickr ad, which I got by mail today, was especially funny.

If you don't got it, flaunt your lack of it!

Wilson Sonsini's 2012 private financing report

The new Wilson Sonsini report on private company financing trends is out, and it's even more interesting than usual.

In addition to keeping tabs on median valuations by round and other trends in VC preferred stock investment terms, the 2012 report is now tracking convertible note terms.

You've always been able to go the latest WSG&R report to buttress your argument, say, that pari passu liquidation preferences were normative and trending stronger. Well, now you can go to the report and confirm that a 20% discount on a pre-Series A convertible note is normal.

And there is new, useful, graphic rendering of historical data in the report.

Chart5wsgrreport

This chart, from the report, shows the impact of first-round equity deals, in which Wilson Sonsini has been involved for the past five years, on the relative equity split between founders and investors. Among other things, it shows that founders keep more of the company post Series-A.

But the founders' line includes the option pool. This passage from the report explains:

"Many founders assume that the split in ownership between investors and founders in the first financing is about even. Since the option reserve almost always comes out of the founders' share, this would result in an approximate split of 50%/30%/20% among investors, founders, and employee stock option plans. The study, however, shows that founders actually have done considerably better than this at almost all times during the past five years. Except for a relatively short period during mid-2009, founders' and investors' percentages have varied in opposition in a narrow band between 45%/35% in favor of investors and 45%/35% in favor of founders through the end of 2011 (again, with a constant 20% for the option reserve)."

Chart from the Wilson Sonsini Goodrich & Rosati Entrepreneurs Report 2012.

The 1202 Planning Opportunity

Since Joe Wallin first broke the news nationally (best I can tell) that the fiscal cliff bill included revival of a previously expired 100% exclusion from capital gains tax for certain holdings in QSB stock, people have been wondering on Twitter why no branded financial or tech media outlet has picked up the story.

1202It's a fair question, particularly when you consider that big media properties have been reporting on other "tax extenders" in the fiscal cliff bill. 

A partial answer may be that there is nothing outrageous or scandalous about the QSB exclusion. Whereas the tax breaks in the fiscal cliff legislation for Hollywood movie production, for electric scooter manufacturing, for NASCAR race tracks, and the like, are laughable, or tragic, or both, and so more fun to talk about. (See for example this entertaining piece by Brad Plumer in the Washington Post, From NASCAR to rum, the 10 weirdest parts of the ‘fiscal cliff’ bill.)

A better answer may be that the exclusion for QSB stock is so difficult to explain.

Here's a paragraph from a post Joe wrote in the summer of 2010, summarizing what QSB stock is:

In general, 'qualified small business stock' is stock in a C corporation acquired by a taxpayer at its original issue if as of the date of issuance such corporation was a 'qualified small business,' and during substantially all of the taxpayer’s holding period for such stock, the corporation met certain active business requirements and was a C corporation. A 'qualified small business' in general means a business with less than $50 million in gross assets. The active business requirements require that at least 80 percent (by value) of the assets of the corporation be used by the corporation in the active conduct of 1 or more 'qualified trades or businesses.'

Much to chew on there, and you must also slog through the analysis of whether or not you are dealing with one of the "qualified trades or businesses."

Get those fundamentals settled, and you're still not done: you have to hold the stock for 5 years. And the exclusion from capital gains tax applies *only* to your initial $10 million in gain.

Among the planning opportunities this fiscal cliff tax benefit affords:

  • A chance to weigh whether a C corp makes more sense for the structure of your new business than an LLC or other alternatives;
  • Whether you should convert your LLC into a C corp before the benefit expires at the end of 2013;
  • From the investor perspective, whether you can negotiate reps and covenants in your investment documents to give you and others in the deal a fair shot at meeting the requirements of the exclusion; and
  • From the perspective of an employee, whether you should exercise a stock option in a timely way.

This is complicated stuff. Even if you master the rules in the abstract, you are likely to yet need advice from a good accountant and/or a tax lawyer. But it may be worth the effort.

Here are some references to help us all get (re)started (caution, all of these were prepared in the context of the exclusion in prior incarnations):

Photo: Tom Magliery / Flickr.

Circling back to find the IPO on ramp

In the newsprint edition of the Seattle Times this morning (what a pleasure to get to flip copy in three dimensions, as well as to fold and to snap: paper papers are underrated), I read an article (detail pictured) about how Impinj has formally pulled its stale IPO filing, and has simultaneously announced the closing of a significant round of private financing.

Circling back to find the IPO on ramp

The article says that Impinj means to try again later to go public. But next time, it intends to use the IPO on-ramp provided by the JOBS Act.

I went to GeekWire to see what John or Todd have to say on the subject, and this piece by John reports the same. John says Trulia is doing the same thing, i.e., circling back so it can exit via the IPO on ramp.

One thing I find interesting is that Impinj relied on Rule 506 and so filed a Form D in connection with the recent private capital raise. Both the Times and GeekWire report that the round was subscribed by existing investors. John's piece names them, all institutional.

There's a trend among some VC-backed companies to skip Form D filings - or I should say, to rely on 4(2) or another exemption that does not require an SEC filing.

Not so here.

The Impinj Form D reports that $21,648,933 has been raised so far, and $6,110,942 remains available.

C Class Citizens

One way for founders or inside groups to retain control of a growing company is to cause the company to authorize "Class B" Common shares, with supervoting rights.

Another way is demonstrated by what Google has just done: amend the company charter to establish a "Class C" of non-voting shares.

Novotes

Google's newly amended charter calls the new class, not "Class C Common," but "Class C Capital Stock." This perhaps emphasizes that the stock is not to have voting rights.

Here's the key, operative provision from the amended charter:

"Except as otherwise required by applicable law, shares of Class C Capital Stock shall have no voting power and the holders thereof, as such, shall not be entitled to vote on any matter that is submitted to a vote or for the consent of the stockholders of the Corporation."

At the same time, the amended charter goes on to spell out rights of the Class C, to make clear that the holders have economic rights comparable to those of voting common stock. Here's a general statement of fundamental equality (qualified, of course, by the proviso at the beginning of the sentence):

"Except as expressly provided in this Article IV, Class C Capital Stock shall have the same rights and privileges and rank equally, share ratably and be identical in all respects to the Common Stock as to all matters."

There's even a kind of backstop protection, in that the Class C Capital Stock is made to convert into Class A Common Stock in certain circumstances:

"Immediately prior to the earlier of (i) any distribution of assets of the Corporation to the holders of the Common Stock in connection with a voluntary or involuntary liquidation, dissolution, distribution of assets or winding up of the Corporation pursuant to Section 2(c) or (ii) any record date established to determine the holders of capital stock of the Corporation entitled to receive such distribution of assets, each outstanding share of the Class C Capital Stock shall automatically, without any further action, convert into and become one (1) fully paid and nonassessable share of Class A Common Stock."

Should you value a non-voting share differently to a share with a vote?

Photo: gaelx / Flickr.

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