Tiered Valuation Caps

TL;DR: Using a “tiered” valuation cap structure in a convertible note or SAFE can provide flexibility that bridges the gap between (i) what founders expect their company to be worth in the near future, and (ii) what investors are comfortable accepting now.

Background Reading:

This post assumes that, for a company’s early seed round, they’ve decided to use convertible notes or SAFEs; because the majority of startups do. SAFEs and Notes are optimized for speed and simplicity, with a cost of future uncertainty and dilution. They have their downsides, which are discussed in some of the above links.

Convertible notes/SAFEs are usually executed around times of maximal uncertainty for a company; the very early stages. For that reason, pegging an appropriate valuation can be very difficult for investors. The valuation cap has evolved into a proxy for valuation, even though by definition it is in fact a cap on valuation, and if things go south, the actual valuation at which the security converts goes downward with it.

Traditional valuation caps: downside protection for investors. No upside for founders.

When you think about it, though, the valuation cap structure is a bit one-sided. If things go badly, investors get a lower price. But what if things go very well very quickly? Under the standard approach, even if the outlook for the company dramatically changes (positively) within 1 month post-closing (which at seed stage can happen), the valuation cap is what it is.  Normally this is accepted as given, much like how when you close an equity round, the price you got is the price you got.

However, there are circumstances in which founders know there are potential serious milestones on the short-term horizon that would dramatically influence valuation, but they need to close their seed money now. Obviously, smart investors reward results, not promises; so they’re not going to budge on valuation just because the founders are confident they’ll hit a milestone in a month. Tiered valuation caps are a useful mechanism for bridging this uncertainty gap in seed rounds.

Tiered valuations can bridge the uncertainty gap, and give companies some valuation upside. 

A tiered valuation cap would look something like this (language simplified because this isn’t an actual contract):

  • If the Company achieves [X milestone], the valuation cap will be [A];
  • If the Company does not achieve [X milestone], the valuation cap will instead be [B].

Convertible notes and SAFEs are optimally designed for providing this kind of valuation flexibility. It is much more complicated to implement something like this in an equity round, which is why you almost never see it. Also, there are a number of other nuances around valuation caps that are too “in the weeds” to get into in this post, but that, depending on the circumstances, may make sense for a company. One example would be, if a certain important milestone is hit, turning the valuation cap into a hard valuation.

Standardization v. Flexibility

Something related to the above that is worth briefly discussing is why, despite there being many logical circumstances in which deviation from “standardized” startup investment structures makes total sense and would be acceptable to both sides of the table, founders are often encouraged to “move fast” and stick to the usual docs.

There is a mindset in parts of the startup world – and very much coming out of Silicon Valley – that promotes the idea that startup legal documentation should all be standardized and closed as fast as possible, with minimal fuss. The PR story behind that trend – the way it gets sold – is that it’s about saving companies money. Don’t bother actually talking to counsel on these “standard” things; you’ve got to stay lean and focus on “more important” stuff.  Sounds legit.

Of course, every heavily promoted story has incentives behind it. Who benefits from saying “nevermind with the lawyers; just close quickly?” Software companies selling you the automated tool that relies on inflexible standardization, for one part. Savvy investors (repeat players) who have a 10x better understanding (than you do) of what the documents actually say, for another. As I wrote in “How to avoid ‘Captive’ Company Counsel“, it is very amusing when, during high-stakes negotiations where small variances in terms can have multi-million dollar long-term implications, certain investors take such a keen interest in “watching the legal bill.”

Everyone’s favorite sucker is the guy who shoots himself in the foot, and then sings a song about it.

Always always remember: if you’re doing this for the first time, and someone else has done it dozens, the “let’s get this done quickly” mindset is definitely saving someone money; but it’s usually not you. If a few discussions with counsel could result in a 25% higher seed valuation, you tell me if that is “wasted” legal fees. 

There are times when the standard terms make sense, but there are a lot of times when they don’t. Companies not fully on the “move fast and break things” train should slow down and take advantage of some customization when it could have a serious impact on dilution. Good investors who don’t view you as just another number in their “spray and pray” portfolio won’t criticize you for doing so.

ps. for the best companies, the “standard” valuation in an accelerator’s convertible note/SAFE is almost always negotiable.

Ask the Users

TL;DR: Blogs, social media, and public endorsements are all noisy, and often false, signals about a person’s real reputation in the market. The only way to get the truth is to “ask the users,” and in a way that allows them to speak the truth without negative repercussions.

I’m going to keep this post as simple as possible, because the message, though extremely important and often lost on people, is quite simple.

Should you join a particular accelerator?

Ask the users – the companies that have already gone through it.

Should you accept money from a particular fund or investor?

Ask the users – the portfolio companies that have already taken money from them and gone through ups and downs.

Should you work with a particular mentor / advisor?

Ask the users – the companies they’ve already advised.

Should you use a particular law firm, accountant, or other service provider?

Ask the users – their existing clients, particularly the ones who’ve gone through a major transaction.

One of the most dramatic, impactful things that the internet (and services like LinkedIn, AngelList, FB, Twitter) has done is made it 10x easier to connect with other people to get direct, unfiltered, off the record feedback on their experiences in working with others. It has made BS a whole lot harder, and ultimately improved behavior across the board. But that brings up some important points worth keeping in mind as you “ask the users”:

A. As much as the web has made finding direct feedback easier, it’s also magnified the opportunities for untruthful marketing.

Blogging and social media are great ways to get a feel for a person’s persona – or at a minimum the persona they want to display publicly, which itself is a valuable, albeit noisy, signal. However, never underestimate the capacity for sophisticated players to whitewash their online reputations. What you see on a blog, on Medium, or on Twitter is marketing, and it’s only with due diligence that you verify it’s accuracy.

And yes, that speaks for this blog and my own social media presence as well.

B. Do not assume that a public-facing endorsement is reflective of that person’s true opinion.

Reality check: people use public endorsements as currency. A VC will make their investment, or assistance on some project, contingent on the expectation that founders say a few glowing things about them on Twitter. A lawyer will agree to discount a fee if they can get a great LinkedIn recommendation. An accelerator will make an intro if the founders will write a great Medium post.

Public endorsements, though valuable as a signal, are fraught with ulterior motives. In short, they can be, and often are, bought.  I know plenty of people who, for some quid-pro-quo arrangement, have given public endorsements for market players whom they would NEVER recommend privately. Do not take a favorable public comment as reason to avoid doing private, off the record diligence.

C. Ignore the opinions of sycophants.

Every ecosystem is full of people who will sing the praises of anyone influential simply because that influential person could get them business. It may be too far to call some of them spineless, but ultimately they lack the personal brand independence to speak accurately about other peoples’ behavior. No one is perfect, and if someone’s review of a particular player feels totally over-polished, it’s probably because they’re not telling you the truth.

You want feedback from serious, honest people who are willing to speak their mind (but see below).  Not a bunch of random cheerleaders.

D. Talk privately, and don’t reveal whom you’ve spoken to. 

No one who has an active, ongoing relationship with someone wants to damage that relationship, even if they’re not entirely happy with it. Doing so is irrational. If I’m in an accelerator, I still depend on that accelerator’s support, so don’t expect me to go on the record for badmouthing them. The same goes if I’m in a particular VC’s portfolio, or working with a particular law or accounting firm.

This is why it’s extremely important to do “blind” diligence; meaning if you are diligencing X by asking Y, you absolutely do not want X knowing that you asked Y. If a VC tells you to ask a specific company about their experience in working with them, then they know exactly whom to punish if you end up walking. If you go through their portfolio and personally decide whom to ask, you remove that ability, and therefore dramatically increase the likelihood that you’ll get honest answers.

And it should go without saying: phone calls or in-person meetings. Don’t expect honesty in a forward-able e-mail.

E. Focus on patterns, not a single review.

Even the best restaurants have the occasional negative review because they either were having a bad day, they simply weren’t a good fit for the particular patron, or – and let’s be honest here – sometimes the user is a pain in the ass. The customer is always right? Nope, sometimes the customer is a moron.

Don’t assume that you’ve got the full picture from simply asking one person. Ask a few, and the line drawn from the dots will matter much more than the individual data points.

F. If you can’t diligence, you need a right of exit. 

The stakes are highest for relationships that you really can’t extricate yourself from. A serious investor is the clearest example. Never take money from a VC without performing diligence.

However, for other service providers – take an advisor/mentor for example – there are other mechanisms to de-risk things. If they’re getting equity (which they often are), a “cliff” on their vesting schedule is the best one; typically 3 or 6 months. That should be enough time to understand the reality of working with them, and make corrections if it’s a terrible experience. Solid contracts help here, with clear, painless rights of termination.

However, a word of caution – all the contracts and lawyers in the world will not protect you from the enormous cost and time suck of working with sociopaths. Even if you don’t have the time or ability to diligence their “users,” you should at a bare minimum vet them personally with interviews, questions, and other ways to get a general feel for their personality and values. If you have good instincts for judging people – and if you’re a CEO I hope you do – you will be able to filter out most assholes.

Not Building a Unicorn

TL;DR: In a market that has historically idolized huge, splashy financings and exits, an increasing number of entrepreneurs are realizing that everyone else’s definition of success – particularly among certain large VCs – isn’t necessarily aligned with their own.

While I work with a few companies in Silicon Valley, the vast majority of my clients are either in Austin or ecosystems that look much more like Austin than SV; “second tier” tech communities. Over time it has become crystal clear to me, and has been confirmed by CEOs I work with who spend time in both places, that the SV community has a far more binary outlook on business success than “normals” do. There is very little time for, or interest in, companies that would legitimately call a $50MM or $100MM exit a true success.

This is most clearly highlighted in the “unicorn” boom we all saw over the past few years, where founders raised very large rounds, with terms very onerous to the underlying common stock, hoping they could eventually justify billion dollar valuations to skeptical acquirers or public market investors. The result of the binary philosophy is, in fact, truly binary outcomes for founders. The handful who truly succeed at justifying their valuation in an exit achieve “buy a yacht” level wealth. And those who in a different world may have built a business that made them “merely rich,” walk away with virtually nothing; their stock under water. 

A good portion of the newer generation of entrepreneurs has, in my opinion, wised up to this reality; certainly outside of SV, where I work. They’re thinking much harder about what kind of business they want to build, and what kinds of people and resources they want to use in building those businesses. And many are accepting, and even flaunting, the fact that, while they absolutely want to achieve success and wealth, they have zero interest in following the conventional “unicorn track.” The below is a list of issues that founders should keep in mind when deliberating on their own desired path to scaling their companies.

1. The binary “get yacht-level rich or die trying” mindset is driven, first and foremost, by large institutional investors. 

Success for institutional VCs is driven not by absolute dollars returned, but by % returns on capital. If I put in $2MM and get out $10MM in a $50MM exit, that’s a solid 5x return. But if I put in $10MM and get out $15MM in a 50% larger exit, that was still a waste of my time; only 1.5x. Large funds write larger checks because they lack the mental/resource bandwidth to actively manage a portfolio of smaller investments. Most individual VCs can only support about 7-10 companies at a time. And large checks require very large exits to achieve good returns.

Entrepreneurs sometimes assume that accepting money from a large fund is better than a smaller fund, because they have more “dry powder” to deploy for follow-in financings, but this is a dangerously simplistic way of assessing investors. A large fund is much more likely to get impatient with an executive team if the business is growing, but not growing fast enough for their needs. Align yourself with a fund whose exit expectations are not totally misaligned from your own.

2. Higher valuations almost always require larger rounds, which drive binary outcomes.

Some founders assume that a higher valuation is always better than a lower one, but they are wrong.

First, investors will sometimes be willing to take a higher valuation if it means getting a heavier liquidation preference. Should you accept a 3x liquidation preference with a $15MM valuation instead of a 1x preference at a $8MM valuation? If you’re confident you’ll get a huge exit, maybe. But for normals the answer is almost certainly no. That 3x preference has dramatically increased the hurdle you need to clear in an exit before the common stock (you and your team) get anything, and it will likely get duplicated in future rounds. Onerous liquidation preferences push the common stock further under water, and increase the likelihood that the common will get little or nothing in a “merely rich” exit.

Secondly, most institutional investors have a minimum post-closing % they need to own in order to justify an investment. By driving the valuation up, you’re usually not reducing your dilution in the round; you’re just increasing the size of the check they need to write in order to get to their desired %. That can be good if you truly believe every dollar will lead to more than an extra dollar in an exit, but keep in mind that liquidation preferences are tied to dollars in by investors. If the investors have a 1x preference, a $5MM round means the investors have to get $5MM back before founders get anything; and the same is true for a $15MM round. More money raised means more liquidation preference, which again means a larger hurdle to clear in an exit before the common gets anything. Large rounds, again, drive binary outcomes.

When an investor tells you that you should keep your Series A smaller, they truly are sometimes doing you a favor. And, sorry, but if you know you’re not building a unicorn, don’t talk to your investors about why you should get that lofty valuation just because X or Y company in SV got it too. Likely exit size ties directly to what seed or Series A valuation is appropriate.

3. Angels/Seed Funds v. Institutional VCs think very differently.

Put the above two points together, and it shouldn’t require very much explanation for why Angels and Seed Funds tend to be more amenable to “merely rich” exits than large VCs. They write smaller checks at earlier, lower valuations, and therefore an exit that wouldn’t move the needle for a large VC still looks great to them. Obviously they too prefer larger exits over smaller ones, but their definition of success is still much more aligned with “normal” entrepreneurs.

Angels and seed investors may want enormous exits, but large institutional VCs need them, and they behave accordingly.

We’re increasingly seeing entrepreneurs who take on angel and seed fund investment, but are much more cautious when it comes to larger institutional checks. And as online tools and new ecosystem resources (i) allow angels and seed funds to syndicate larger early-stage rounds, and (ii) un-bundle the value-add resources once limited to larger funds, non-institutional Series As (or larger-than-usual seed rounds) are going to continue to be a thing.

It can often take a few years of being in the market to get a clearer picture of what kind of company, in terms of size, you’re likely building. It can be a good strategy to avoid making a hard commitment to an investor with hyper growth needs/expectations until you have that clarity. 

4. Understand the tension between “Portfolio” v. “One Shot” incentives.

Listen to enough VCs at large firms w/ broad portfolios talk about startup finance, and you will inevitably hear the term “power law” come up. In short, they’re referring to the fact that most of their investments either fail or merely return capital, and it’s the grand slams that make up for the other losses.

This is the distributed portfolio mindset; i’ve got stakes in a lot of companies, so it’s OK if most fail, as long as I get at least one unicorn. In fact, if I push them all to try to be a grand slam, I’m more likely to get at least one. On the others, at least I’ll get my money back before anyone else does.

The fact that (i) investors have a liquidation preference that prioritizes the return of their capital in an exit, and (ii) their money is distributed across a diverse portfolio, means that they are structurally far more inclined to favor fast growth paths that produce a handful of very large exits even if they also produce a larger number of companies for which the common stock get nothing. At its core, this is precisely why the idea that founders/employees (common) and institutional investors (preferred) are “fully aligned” economically is completely laughable. 

A strategy that maximizes returns over a diversified portfolio with significant downside protection can completely screw individual stockholders whose own stakes are limited to one company, and at the bottom of the preference stack.

Startup ecosystem “cheerleaders” who lament the lack of billion-dollar, headline-making companies in their city reflect part of this portfolio mindset as well. If I’m not toiling away for 10 years on one company, but stand to benefit from the broader ‘ecosystem,’ I may also favor a business philosophy that pushes entrepreneurs to build big, splashy unicorns (large rounds, very fast growth), or otherwise crash & burn.

Reality check: entrepreneurs don’t have portfolios, and don’t have liquidation preferences. They have one shot, and they’re slogging away 5-10 years for that one shot; not for your “ecosystem.” If I have 100x skin in a single game over everyone else, I’m going to have a fundamentally different outlook on how that game should be played.

When I hear someone complain that Texas hasn’t seen a lot of strong tech IPOs recently, my response is “so there’s no other way to be successful?” Why should we favor 1 billion dollar company over 10 $100MM companies, or 20 $50MM companies? I can think of a few arguments for why the latter is actually more robust long-term from an economic standpoint, even if it produces fewer NYT articles. It certainly provides more variety.

Obviously it’s great when any city sees a true breakout, international brand-building tech company emerge. And Silicon Valley produces, and likely will continue to produce, the lion share of those.  But those of us sitting on the sidelines, and not toiling away on one egg in one basket, need to be humbly mindful of how our discussions on success play out in the lives of entrepreneurs actually doing the work.

Elon Musk. Steve Jobs. “Change the world.” “Put a dent in the universe.” “Move fast and break things.” “Shoot for the moon; you’ll land…” yeah, ok, I think we all get it. Can we please let some entrepreneurs “just” build successful companies that make their stockholders “merely rich” – and skip the super hero cape, global domination, rocket ship, and mythological creatures? There is a big, lucrative world in the space between “small business” and “billions” that many smart, ambitious people are happy to fill. 

I think the greater awareness of this issue, and the overall shift in thinking among entrepreneurs, is an extremely healthy development for everyone. It will lead to more sustainable companies, and a healthier entrepreneurial culture. If you’re building the next Facebook, by all means go ahead, and align yourselves with people looking for a ride on that train. But the other 99.999% of the world doesn’t need to apologize, at all, for building companies that are “merely successful.”

Do I need a PPM for my startup’s financing?

TL;DR: Legally speaking, probably not. Most tech startups never prepare one.

PPM stands for “Private Placement Memorandum.” You can think of it as the private company equivalent of an S-1, the long disclosure document that companies produce when going IPO. PPMs are lengthy documents that include risk factors, financial projections, business plan information, etc.  For a broad description of what a PPM is, see this article.

In dense startup ecosystems, PPMs are rare.

Startups in dense, more mature tech ecosystems like SV or Austin usually don’t even think of producing PPMs; nor should they. Assuming that they are taking the classic approach of raising money only from accredited investors, a well-made deck and a solid operating plan are often their core needs for closing on early money. Delivering an Austin tech investor a PPM would send an immediate signal that the founders aren’t being well-advised, which itself signals poor judgment in choosing advisors. 

Asking for a PPM signals inexperience.

In less dense ecosystems, however, I do occasionally encounter tech companies who are told by advisors, lawyers, or other players that they need a PPM to close on financing. FACT: The vast majority of tech startups raising money solely from accredited investors are not creating PPMs, and legally speaking, they don’t have to.  Most repeat ecosystem players consider PPMs a waste of time and money. 

One of the main reasons that startups avoid non-accredited investors and stick to accredited-only rounds is that the legal disclosure burdens are dramatically reduced, which means no need for PPMs. In healthcare, energy, and a whole host of other industries, using PPMs in private fundraising is very common. For this reason, if your lawyer is telling you (a tech startup) that you need a PPM, that’s often a good ‘tell’ that they lack experience in the norms of emerging tech financing. 

Exercise diplomacy with more traditional investors.

All of the above being side, I have also on occasion encountered more traditional investors who, because they do not regularly invest in emerging tech companies, ask startups for PPMs (because PPMs are more common in other industries).  All money is green and, particularly for early angel money, you need to be respectful of the expectations that angels bring to the table; even if they’re ‘off market.’

In these situations, it’s best to diplomatically let them know that PPMs are not the norm in the tech startup space, and that the company would prefer (as should they) to focus its legal budget solely on those things that are truly needed.   Asking a more traditional investor what specific information she/he was hoping to see in the PPM, and trying to address those concerns more informally, usually goes a long way to bridge the gap. Sometimes hearing directly from a Tech/VC lawyer about the norms of startup finance also helps. 

Founders outside of Silicon Valley can sometimes forget that most of the resources – blogs, articles, podcasts, tweets, etc. – on startup finance and norms are, in the grand scheme of things, a tiny bubble in the overall business market.  When anyone says there simply “isn’t enough money” available for startups in Texas, or markets similar to Texas, what they really mean is that there isn’t enough money flowing into tech companies. There’s tons of money floating around elsewhere. People who can culturally build bridges between tech ecosystems and more traditional business networks have a competitive advantage in the market, and are often the ones forging ahead building new companies, and even investment funds, while others run around in circles soliciting only the ‘techies’ of the market.

Pre-Series A Startup Boards

It’s pretty well known that startups usually undergo a meaningful change in Board composition at their Series A round. At a minimum, the lead investor(s) of the round get Board seats; although they shouldn’t get Board control.

Less has been written about what startup boards tend to look like before a Series A round. Given that the time from formation to Series A has stretched out significantly for many companies in the market – due to pre-seed, seed, seed plus, seed premium, series seed, seed platinum diamond, whatever-you-want-to-call-not-Series A rounds. So here’s some info on what a board of directors tends to/should look like Pre-Series A.

A. Know the difference between a ‘Board’ of Advisors and a Board of Directors.

A lot of companies refer to their set of advisors as a ‘Board’ of advisors. That’s fine, even though they very rarely actually act like a board. There (usually) aren’t ‘Board of Advisors’ meetings where everyone gets on a conference call and talks shop. Instead, the company just has a loose set of individual advisors they work with on strategic matters, often in exchange for equity with a vesting schedule. Advisors often times are angel investors as well.

The important point here is that Advisors have no power/control over the company. They just advise. The Board of Directors, however, is the most powerful group of people in the Company, with the ability to hire and fire senior executives and approve (or block) key transactions. Big difference. Giving someone a seat on your Board of Directors is 100x more consequential to the company than naming them an advisor.

B. Know the difference between a Board Observer, Information Rights, and being a member of the Board of Directors.

Most angel investors writing small checks are buying the right to a small portion of the Company, and that’s it. They don’t expect to be very involved in day-to-day, and are happy to just receive whatever e-mail updates the Company intends to send out.

Angels / Seed Funds who write larger checks may want a deeper view into what’s going on in the company. They’ll often ask for different variants of ‘information rights’ – which can include delivery of regular financials, and notification of major transactions (like financings).

A step up from ‘information rights’ is a Board observer right. This means the investor has the right to observe everything that happens at the Board level, which includes hiring people, equity grants, approving major deals, etc. Do not dish out Board observer rights lightly. Having too many observers can make it difficult to keep confidential matters from being leaked to the market. It also can just be logistically cumbersome for a seed stage company to keep track of who gets to attend meetings, who has to be notified of what, etc.

Also, if you do give someone a Board observer right, ensure that it’s clear that they are a silent observer. This means that they can listen in on Board discussions, but they are not entitled to provide their thoughts/input, which can have legal ramifications and influence the true decision makers.

C. Giving seed stage investors Board seats is not the norm. Take it seriously.

The majority of companies we see have Founders only on the Board before closing their Series A. Sometimes it’s just the CEO; other times it’s 2 or 3 founders. That’s very much driven by the personal dynamics among the core team.

Occasionally a seed or VC fund writing a large seed check ($250K+) will request a Board seat for their seed investment. While not the norm, it’s also not terribly off market if a large check is being written. Founders should just understand that giving anyone a Board seat, even if they don’t control the Board vote, is inviting them to give their input on every single major strategic decision the Company will make. It is a very deep commitment, and should only be given to people you believe can deliver real value to the business, and whose values are aligned with the founder team. Otherwise you’re asking for unnecessary and distracting drama.

If the fund that wrote the large seed investment has deep enough pockets to lead a Series A, and is interested in leading your A, this adds even more layers of complexity to the decision. A *true* seed investor who only invests in seed rounds can be an asset in sourcing Series A leads, because those leads are a complement to their position. A VC who dabbles in seed investment for pipeline purposes, however, has opposite incentives; assuming you’re doing well, they may prefer to lock out other potential competitors and take the Series A round for themselves. Having a VC already on your seed-stage Board can make it harder to get term sheets from outsiders for your Series A.

This dynamic of committing early to a VC before you’re ready for a Series A is discussed somewhat in The Many Flavors of Seed Investor “Pro-Rata” Rights.  My experience has been that getting trustworthy VCs on your cap table pre-Series A is generally a very good thing, so long as their participation is not contingent on terms that effectively lock you into having them lead your Series A. That is the startup equivalent of getting married as a teenager, before you’ve had a chance to mature and really explore the market.

VCs who ask for board seats at seed stage, or who require that you guarantee them the right to a large percentage of your Series A (50%+) are trying to get you to lock yourself in early. You should want them to invest, but still ensure that they have to earn the right to lead your Series A.

D. Board composition should ‘reset’ at Series A.

If you’ve ended up giving a Board seat to a large seed investor in order to secure their investment, it is extremely important that it be clear between everyone that the seat is not guaranteed indefinitely. Boards can only be so large. If your seed investor who put in $250K is guaranteed a Board seat forever, it makes it a lot harder to make room on your Board for the people putting in millions, or even tens of millions of dollars.

The logic here should be that if the seed investor insisted on a Board seat at seed stage in order to ‘monitor’ things early on, they should be comfortable letting go of the wheel once they know larger, more experienced institutional investors are taking over. Their interests as an investor are more aligned with the new VCs investing in the Series A than they are with the Common Stock. It simply is not appropriate for a company who’s raised $5 million, $10 million, $30 million+ dollars of capital to still have someone who wrote a $250k-500k check taking up a board seat. Board observer rights should also terminate at Series A, or perhaps Series B, for similar reasons.

So, in a nutshell, founders should start with the assumption that no one will join their Board of Directors until a Series A happens, and someone writes a 7-figure check; as that is the norm. However, for large checks from investors with strong value-add and alignment with the founders, there can be a justification for giving them a seat at the table, as long as it’s structured in a way that will not cause any issues, or prevent competition, in Series A negotiations. For investors who want (and deserve) something ‘extra’ on top of their investment security, advisor equity, information rights, and silent observer rights should all be explored as alternatives.