Seth Levine, a venture capitalist, writes about venture returns, convertible debt, portfolio strategy, pricing, and startup financing.
HN links it for venture finance topics like convertible debt and 409A discounts, and commenters use his posts to discuss startup equity and valuations.
If the company goes bust convertible debt is worth nothing, like equity.
Not entirely true. Convertible debt is subordinated debt, which means that you don't get the first choice of pickings in bankruptcy court. But you are a creditor, and so there is a possibility of getting some money returned from bankruptcy proceedings.
Where's the upside? Convertible debt seems like a strictly worse investment than stock.
Paul Graham's answer is that convertible debt is worse for the investor but better for the founder. Therefore when founders have power they will choose convertible debt, and the upside for the investor is that they have the option to participate in a potentially profitable deal that otherwise they couldn't.
If pg's theory is correct then entrepreneurs with power should choose convertible debt, and investors should express a preference for equity. And indeed it is not hard to find articles like http://www.avc.com/a_vc/2010/08/some-thoughts-on-convertible-debt.html where investors make it clear that they don't like convertible debt, and try to convince entrepreneurs that they shouldn't either. (Note, when you're negotiating with someone who is trying to convince you of what you should think, you don't have to look hard for a hidden agenda.)
In abstract theory, the extent to which investors don't like convertible debt should be reflected in their offering worse terms on convertible debt deals. Bias the terms enough, and the investor should become indifferent. …
He said or fit into a pattern, not and.
I once heard an older, well-known investor and entrepreneur in the Boston area tell a room full of students that a startup he's most likely to invest in is one whose founding team includes an IIT graduate. Earlier this month, Foundry Group VC Seth Levine said he felt "surprised" being pitched by a group of guys in their late 40s and 50s (http://www.sethlevine.com/wp/2011/10/is-there-age-bias-in-vc-investing). Hank described the Sequoia VC saying that they're biased toward younger people.
These types of biases come from people who have established patterns of personality traits and other characteristics of what makes for a successful startup and who they like to deal with. I would further posit that they have established norms for dealing with such people (including building networks which support such connections) which makes it easier for both parties to move the relationship forward.
If, however, a startup founder doesn't fit the molds of age, ethnicity, education, background, or whatever, his or her chances of being taken seriously and/or accomplishing something together are much less.
> It’s a bit hard to give one number for the returns as if they are factual. The reality is these investments are illiquid and it’s hard to pinpoint the exact outcome
She should be using the standard way funds (and angels) observe non-liquid valuations on a quarterly basis [1]
Briefly speaking, if the company hasn't raised any new funds in the last 12 months from 'sophisticated investors' (in which case the valuation is given), she must have used a proxy valuation, like enterprise/sales comparable.
Anyways, interesting that over half of her portfolio is still active, but in line with the overall market [2]
[1] https://carta.com/blog/what-is-asc-820/
[2] https://www.sethlevine.com/archives/2014/08/venture-outcomes-are-even-more-skewed-than-you-think.html
It's generally bad for the company as a whole. Liquidity erodes the 409A discount[1], which then makes other grants (either future or existing, one way or another) less valuable. This is a pretty classic case of local vs. global optima, like in the prisoner's dilemma.
If you're interested in startups, I'd look for founders who 1) give you the maximum exercise window (10 years with ISO->NSO conversion if you leave), 2) offer early exercise, and 3) support coordinated secondaries where the folks who want it can get some liquidity, without mucking things up the way a free-for-all can.
1. https://www.sethlevine.com/archives/2018/08/whats-a-fair-409a-discount.html
Good point, but properly priced ISOs should have a discount of about 2/3rd the value of the preferred stock (as determined by the previous Series-* funding round) at the time of grant. So even if the valuation hasn't changed, most peoples' options should still mint a pretty penny if they were priced according to typical practice. I don't know anything about Uber.
For reference, "What’s a Fair 409A Discount?": https://www.sethlevine.com/archives/2018/08/whats-a-fair-409a-discount.html
Graham's statement about the possible bias of First Round is unfounded. This was not any sort of a real study like Graham thinks and First Round clearly notes that. When the returns are as skewed as they are in venture capital (http://www.sethlevine.com/archives/2014/08/venture-outcomes-are-even-more-skewed-than-you-think.html), a small sample size and a simple analysis won't do. First Round even excluded their investment in Uber because it would skew the results too much.