Last week, I wrote about Amy and my trip to the Kentucky Derby. Amy just put up a short post about it and 174 awesome photos for those of you that are Derby fans, love horses, or just want to see me in a silver grey window pain plaid of mint and cream Canali jacket.
No – this is not porn spam. This is an example of the how the web can be used to expose things.
As you may be aware, United is working with the bankruptcy courts to invalidate a portion of its guaranteed pension plans. Five current and former United Airlines flight attendants – aged 55 to 64 – have joined forces and created a calendar called “Stewardesses Stripped (of their Pension?)” The goal of the racey 14 page calendar is “to create national awareness to the naked truth that no retirement fund is completely secure and that there is a definitive crisis in the pension guaranty system.”
The sexual irony of the calendar is clever – the picture on the site is captioned “Are your butts covered? We thought ours were too!” In today’s PC world, this is definitely a shot across the bow cockpit.
Microsoft announced yesterday that their MSN division acquired MessageCast. We were the seed investors in MessageCast and my partner Heidi Roizen sat on the board.
As with many acquisitions that happen early in the life of a company, this one is bittersweet. On one hand we are very happy with the deal and excited for the entrepreneurs (Royal Farros and Dave Hodson) and their team. On the other hand, we were enthusiastic about the long term prospects for MessageCast and were looking forward to a continued working relationship with a group of folks we know and love working with (Heidi and Royal go back many years as they were partners in T/Maker – the folks that brought us clip art.) I was the backup partner on MessageCast and delighted in badgering Royal and Dave about RSS whenever I had the opportunity.
This is a completely logical deal for both Microsoft and MessageCast. They had been working very closely together around the MSN Alert service. MessageCast had integrated MSN Alerts with RSS and build an extremely publisher friendly service to enable a publisher to distribute his RSS feed (or any other data feed) via Microsoft Messenger. MessageCast was beginning to work with other IM services (the usual suspects) but had such significant IP around the MSN Alert SDK it made perfect sense for Microsoft to integrate this into their Alerts business.
Royal, Dave, et.al. – congrats. Microsoft – well done!
I heard the phrase “world class” three times today. I’ve decided to toss it on the scrap heap of “phrases that mean nothing to me anymore.” I’m finishing up Friedman’s The World Is Flat: A Brief History of the Twenty-first Century (which is awesome BTW – definitely a world class book – I’ll be done on my SF to Chicago trip Thursday night.) It dawned on me that the phrase “world class” isn’t indexed against anything. No one ever says, “that’s not world class, it’s American class.” While “China class” might refer to a room full of people studying Mandarin (or how China is whipping our American butts in education and so many other things), it doesn’t link in any meaningful way to the phrase “world class.” This is yet another phrase that the PR / marketing weenies have rendered irrelevant.
“We are building a world class management team. Our development organization is world class. We have a world class sales and marketing organization. Our company aspires to be world class.” C’mon – that means nothing.
In my first company, we talked briefly (I think about 60 seconds) about creating a mission “to be the best software consulting company in the world.” After all the MIT / Brown / Wellesley people in my company laughed (“hey Brad, who gives a damn about a stupid vague unattainable mission like that?”), I / we realized that vapid phrases didn’t inspire anything (except internal contempt). It took more than 60 seconds to come up with our mission, which was “We suck less.”
Now – “we suck less” means something. Our business was hard – if you were a provider or a customer / user of custom database applications in 1990, you understand what I mean. We were usually the third or fourth company hired by our clients (our predecessors used up all the budget and then were fired because their stuff sucked) and the projects we were “starting on” were often already late and over budget before we even showed up at the party.
When we told our clients something like “we are better than the last guys”, they either groaned or laughed maniacally since they had already heard that a few times from the people that came before us. But when we told them “the thing we are doing is really hard, the guys before us sucked, but we are going to suck less and try our hardest to be successful for you” our clients usually related (at least when they laughed, it was with a smile on their face.)
We delivered more often then not. So – while we never achieved that elusive “world class” status, we definitely sucked less most of the time. And – when I wandered down the hallways saying “guys – focus on sucking less – that’s the key to our success”, people rallied a lot more than if I had shouted “we are going to be world class” from the rooftops.
When Jason and I last wrote on the mythical term sheet, we were working our way through the terms that “can matter.” The last one on our list is vesting, and we approach it with one eyebrow raised understanding the impact of this term is crucial for all founders of an early stage company.
While vesting is a simple concept, it can have profound and unexpected implications. Typically, stock and options will vest over four years – which means that you have to be around for four years to own all of your stock or options (for the rest of this post, I’ll simply refer to the equity as “stock” although exactly the same logic applies to options.) If you leave the company earlier than the four year period, the vesting formula applies and you only get a percentage of your stock. As a result, many entrepreneurs view vesting as a way for VCs to “control them, their involvement, and their ownership in a company” which, while it can be true, is only a part of the story.
A typical stock vesting clause looks as follows:
Stock Vesting: All stock and stock equivalents issued after the Closing to employees, directors, consultants and other service providers will be subject to vesting provisions below unless different vesting is approved by the majority (including at least one director designated by the Investors) consent of the Board of Directors (the “Required Approval”): 25% to vest at the end of the first year following such issuance, with the remaining 75% to vest monthly over the next three years. The repurchase option shall provide that upon termination of the employment of the shareholder, with or without cause, the Company or its assignee (to the extent permissible under applicable securities law qualification) retains the option to repurchase at the lower of cost or the current fair market value any unvested shares held by such shareholder. Any issuance of shares in excess of the Employee Pool not approved by the Required Approval will be a dilutive event requiring adjustment of the conversion price as provided above and will be subject to the Investors’ first offer rights.
The outstanding Common Stock currently held by _________ and ___________ (the “Founders”) will be subject to similar vesting terms provided that the Founders shall be credited with [one year] of vesting as of the Closing, with their remaining unvested shares to vest monthly over three years.
Industry standard vesting for early stage companies is a one year cliff and monthly thereafter for a total of 4 years. This means that if you leave before the first year is up, you don’t vest any of your stock. After a year, you have vested 25% (that’s the “cliff”). Then – you begin vesting monthly (or quarterly, or annually) over the remaining period. So – if you have a monthly vest with a one year cliff and you leave the company after 18 months, you’ll have vested 37.25% of your stock.
Often, founders will get somewhat different vesting provisions than the balance of the employee base. A common term is the second paragraph above, where the founders receive one year of vesting credit at the closing and then vest the balance of their stock over the remaining 36 months. This type of vesting arrangement is typical in cases where the founders have started the company a year or more earlier then the VC investment and want to get some credit for existing time served.
Unvested stock typically “disappears into the ether” when someone leaves the company. The equity doesn’t get reallocated – rather it gets “reabsorbed” – and everyone (VCs, stock, and option holders) all benefit ratably from the increase in ownership (or – more literally – the reverse dilution.”) In the case of founders stock, the unvested stuff just vanishes. In the case of unvested employee options, it usually goes back into the option pool to be reissued to future employees.
A key component of vesting is defining what happens (if anything) to vesting schedules upon a merger. “Single trigger” acceleration refers to automatic accelerated vesting upon a merger. “Double trigger” refers to two events needing to take place before accelerated vesting (e.g., a merger plus the act of being fired by the acquiring company.) Double trigger is much more common than single trigger. Acceleration on change of control is often a contentious point of negotiation between founders and VCs, as the founders will want to “get all their stock in a transaction – hey, we earned it!” and VCs will want to minimize the impact of the outstanding equity on their share of the purchase price. Most acquires will want there to be some forward looking incentive for founders, management, and employees, so they usually either prefer some unvested equity (to help incent folks to stick around for a period of time post acquisition) or they’ll include a separate management retention incentive as part of the deal value, which comes off the top, reducing the consideration that gets allocated to the equity ownership in the company. This often frustrates VCs (yeah – I hear you chuckling “haha – so what?”) since it puts them at cross-purposes with management in the M&A negotiation (everyone should be negotiating to maximize the value for all shareholders, not just specifically for themselves.) Although the actual legal language is not very interesting, it is included below.
In the event of a merger, consolidation, sale of assets or other change of control of the Company and should an Employee be terminated without cause within one year after such event, such person shall be entitled to [one year] of additional vesting. Other than the foregoing, there shall be no accelerated vesting in any event.”
Structuring acceleration on change of control terms used to be a huge deal in the 1990’s when “pooling of interests” was an accepted form of accounting treatment as there were significant constraints on any modifications to vesting agreements. Pooling was abolished in early 2000 and – under purchase accounting – there is no meaningful accounting impact in a merger of changing the vesting arrangements (including accelerating vesting). As a result, we usually recommend a balanced approach to acceleration (double trigger, one year acceleration) and recognize that in an M&A transaction, this will often be negotiated by all parties. Recognize that many VCs have a distinct point of view on this (e.g. some folks will NEVER do a deal with single trigger acceleration; some folks don’t care one way or the other) – make sure you are not negotiating against and “point of principle” on this one as VCs will often say “that’s how it is an we won’t do anything different.”
Recognize that vesting works for the founders as well as the VCs. I’ve been involved in a number of situations where one or more founders didn’t work out and the other founders wanted them to leave the company. If there had been no vesting provisions, the person who didn’t make it would have walked away with all their stock and the remaining founders would have had no differential ownership going forward. By vesting each founder, there is a clear incentive to work your hardest and participate constructively in the team, beyond the elusive founders “moral imperative.” Obviously, the same rule applies to employees – since equity is compensation and should be earned over time, vesting is the mechanism to insure the equity is earned over time.
Of course, time has a huge impact on the relevancy of vesting. In the late 1990’s, when companies often reached an exit event within two years of being founded, the vesting provisions – especially acceleration clauses – mattered a huge amount to the founders. Today – as we are back in a normal market where the typical gestation period of an early stage company is five to seven years, most people (especially founders and early employees) that stay with a company will be fully (or mostly) vested at the time of an exit event.
While it’s easy to set vesting up as a contentious issue between founders and VCs, we recommend the founding entrepreneurs view vesting as an overall “alignment tool” – for themselves, their co-founders, early employees, and future employees. Anyone who has experienced an unfair vesting situation will have strong feelings about it – we believe fairness, a balanced approach, and consistency is the key to making vesting provisions work long term in a company.
I attended the MIT $50K Competition Final Awards Ceremony last night. The MIT $50K competition is one of the oldest entrepreneurship competitions in the country – it was started in 1990 well before the term “entrepreneurship” was mainstream. I was involved early on as a judge (from 1993 to 1998). Looking at the Alumni company list, it’s clear that 1995 was the year I was doing angel deals, as I became an investor in (and chairman of) NetGenesis and Thinkfish and fondly remember Firefly (Softbank ended up investing) and Silicon Spice (damn – that was a huge success). Webline was a big winner in 1996 (a Highland deal that Cisco acquired). 1998 saw two big companies emerge – Akamai (NASDAQ: AKAM) and Direct Hit (acquired by Ask Jeeves for $500m+).
The event last night was awesome. The MIT $50K has always been a student run event, which makes it both endearing as well as more powerful, as the MIT superstructure is part of the background as the students take center stage. The quality of the finalist teams (seven of them) was remarkable – much better then I remember from the mid-1990s. Interestingly, five of the finalists were life science deals (Balico, HealRight, Perviva, Tissue Vision, and Renal Diagnostics), one was a power technology deal (Nanocell Power), and one was a mech-e deal (Vacuum Excavation Technologies – it really sucked). I was really surprised to see ZERO-none-nada IT / software / Internet finalists (although there were plenty of IT-related companies in the field of 84 entries.)
The winner (and recipient of $30,000) was Balico – a medical device that helped people “balance” – their description from the web site is “Balico will develop and commercialize a wearable vibrotactile balance aid that accurately senses and displays body tilt in order to help prevent falls.” So – basically – if you have trouble balancing (you are old or have a balance disorder) wear the Balico “belt” and automatically stand upright. Very cool. The two runners up were Nanocell Power and Vacuum Excavation Technology – both recipients of the $10,000 award.
The two keynote speakers were past $50K entrants (but neither were winners). Tom Leighton – a co-founder of Akamai and a CSAIL professor of Applied Mathematics at MIT – spoke about how Akamai’s original business plan was fatally flawed, they lost the $50K competition (he speculated that they came in last), but then spent the summer working with Battery Ventures to figure out what a real business might look like (which of course – went on to a huge IPO, then crashed, and finally emerged as a sustainable, profitable business – $58m of revenue and $14.5m of net income in Q105 with a $1.5 billion market cap.) David Edwards – a co-founder of AIR and a Professor of Biomedical Engineering at Harvard, talked about starting up AIR, getting it funded by Polaris, and selling it to Alkermes for $114m in 18 months. Both were predictably inspiring but also very humble about their businesses origins (and set a great example for the opportunity that could come out of a raw startup.)
Entrepreneurship, especially in the life sciences (maybe that’s a nod to the new MIT President Susan Hockfield) continues to be alive and well at MIT.
No – I’m not referring to Ken Lay. One of my favorite local newspapers (ok – I have three of them – I don’t want to have to choose) wrote an article on Addicts for Gadgets highlighting the Crackberry. I challenge you to find your friendly neighborhood VCs (me and Seth) in the article who readily fess up to Sidekick addiction. But, but, but – we solved a problem – really. I guess when stories like this appear it’s time to go old school in board meetings and crack out the college ruled paper and a pencil. Fortunately for me, unlike Notebaert – my Sidekick doesn’t work at my house – making marital bliss easier to maintain.
I surprised Amy with a trip to the Kentucky Derby. She’s a horse lover (I’ve yet to met a girl that doesn’t at least like horses) and – while I know how to spell Derby – she can recite the history of not just the 131 Run for the Roses but can gracefully explain the meaning of “Lilies for the Fillies” (hint – the day before the Derby is called the Kentucky Oaks and is all about girl horses.
The Kentucky Derby was an amazing event. I’ve heard it called the most exciting two minutes in sports, but it had a multi-day windup that was on par with The Super Bowl. I showed up late Friday night and Amy had already had three days of partying and one day of horse racing (there’s that Oaks / girl horse thing again.) Derby day started early – we left the hotel at 9am and got to Churchill Downs at 10ish in time for race 3 (of 12 – although the Derby was number 10 and we – along with everyone but the jockeys and owners of the horses in races 11 and 12 – left after race 10.) Race 10 ended at 6:15 – we were back at the hotel at 8pm for a solid 11 hours of horses, sun, 100,000 people, and lots of food and alcohol everywhere. Someone told me $1 billion traded hands yesterday – wow.
The entire spectrum of America was there. Everything – you describe it – we could have found it. I’d never been to a horse track before so now I know more then I really want to about automated “wagering” machines, how odds pay out, what an “obstruction” is (my horse won race 4 but ended up showing because he bumped the horse that placed – but because I had bet my horse to show or better, I still got my payout.)
You get the picture – lots of details that were – before yesterday – completely foreign to me. Amy – along with 25,000 other women – had these incredible hats on – and the horses were – BIG.
I’m still scared of horses, but I can notch off another unique life experience. The Indy 500 is next. And yes – I was down for the day.
Feedburner is releasing a new set of features on Monday. I got a note from Dick Costolo – CEO – saying they were all set to go but were going to adhere to the “don’t be an idiot and launch a product on Friday” policy.
This was eerily reminiscent of our release policy at my first company (Feld Technologies) in the late 1980’s. We had a policy that we’d only release on Tuesday, Wednesday, or Thursday. We were a custom software company and had clients around the US – in the age of pre-Internet, Carbon Copy / PC Anywhere, and Fedexing disks around, if you screwed up on a Friday, you were miserable. In addition, if you weren’t ready to go by Friday for a Monday release, your weekend sucked. So – we solved the problem by limiting the release window. I don’t think our clients ever really noticed this in the affirmative sense, but we certainly sucked less because we didn’t ruin their Friday nights, weekends, or Monday mornings.
Release early and often, but never on Friday’s.