Decoding Equity And Convertible Notes - Startups 101

15 Nov 2023 (1 year ago)

STARTUP FUNDRAISING STOCK 101 (47s)

Stock represents company ownership, distributed in shares.
Shareholders' ownership percentages are determined by their shares relative to total issued shares.
Ownership can be acquired via cash investment or other valuable contributions like hard work.
Shareholders' ownership determines dividend entitlement and voting power on key decisions.
Example company FounderHub, started with 1 million shares, split evenly between two founders for equal 50% ownership.
Most startups incorporate as Delaware C-Corporations for investor familiarity, easy setup, management, and tax benefits.

Priced rounds are traditional capital raising methods where company valuation is agreed upon, and investors receive shares.
FounderHub, making $10,000/month, decides to raise $500,000.
Company valuation considers many factors like addressable market size, unique technology, and potential margins.
Tech startups are often valued based on scale potential and margins rather than current revenue.
An average valuation in Silicon Valley for tech startups could be around $4 million pre-money.
Investor Gus agrees to invest $500,000, representing about 11% of the company.
Companies issue new stock to investors, diluting the original shareholders' percentage ownership.
FounderHub issues 125,000 new shares to Gus, diluting founders' ownership to 44.4% each.
Post-money valuation of FounderHub becomes $4.5 million.
Priced rounds require negotiations on share voting rights, liquidation preferences, and board composition.
Legalities and agreement complexities can prolong a priced round, encouraging the use of convertible notes.

Convertible notes act as a more rapid fundraising instrument by delaying the valuation.

Convertible notes expedite investment process with fewer negotiations and legal expenses.
They function like a loan with company stock as collateral, where future valuation is to be determined.