What’s my startup worth? How much equity should founders have? How much equity should I give to employees and consultants? How much should I give to the venture capitalists? Silicon Valley startup attorney Roger Royse of the Royse Law Firm discusses the basic valuation and ownership issues involved in a startup’s life, from formation to financing to exit, including how to value your company and the contributions of stakeholders and investors at each step with a particular emphasis on different models, best practices and traps to avoid.

1. Idea To IPO
Startup Basics: How to
Split the Pie, Raise
Money, and Reward
Contributors
#startup #ideatoipo Roger Royse
@rroyse00

2. Disclaimer
No information contained in this presentation is to be construed as legal advice. No
information contained in this presentation is intended or related to any particular factual
situation. Nothing herein forms an attorney-client relationship. If legal advice or other
expert assistance is required, the services of a competent professional should be sought.

4. Founders
Investors
Service
Providers
The Stakeholders

5. Splitting Founders Equity
• The founder’s first decision
• The case of Zipcar
• 50/50 handshake deal
• Co-Founder 1 (Robin) built the startup, crafted its business plan, and cold
called customers.
• Cofounder 2 didn’t even quit her day job, and contributed little.
• Her rushed negotiation had compromised her team’s longer-term
effectiveness by causing her “a huge amount of angst over the next year and a
half.”

6.  Dynamic Split
 Equal Percentages
 Subjective
 Formula
Founder’s Equity

7. • Traditional fixed-split model: Equity given based on anticipated contributions.
• Dynamic-split model: Equity given based on actual contributions.
• Inputs to dynamic-split model: The dynamic model assigns a relative FMV weight to
various contributions from each participant, and contributions put into model:
 Time spent working
 Intellectual property
 Commissions
 Cash
 Facilities
 Equipment and Supplies
• Outputs: Depending on the relative weighted contributions of each team member,
that member is allocated a corresponding percentage of outstanding equity.
– On “split,” members could return old equity, or be given new equity, to ensure each member gets
appropriate percentage of company.
Dynamic Split Models – General Concept

8. The Founders’ Pie Calculator
1. Created by Frank Demmler, professor, Tepper School of Business at Carnegie
Mellon University
2. A founder’s value add is divided into 5 categories: Idea, Business Plan
Preparation, Domain Expertise, Commitment and Risk, and Responsibilities.
3. Each category is given a value on a scale of 0-to-10.
4. The value is multiplied by the founder’s score to come up with a weighted score.

9. Weight Founder 1 Founder 2
Idea 7 10 3
Business Plan 2 5 1
Domain Expertise 5 3 6
Commitment & Risk 7 4 6
Responsibilities 6 2 3
Founder 1 Founder 2
Idea 70 21
Business Plan 10 2
Domain Expertise 15 30
Commitment & Risk 28 42
Responsibilities 12 18
Total Points 135 113 248
% of Total Founder Equity
Pool
54.43% 45.57% 100%
Frank Demmler, professor, Tepper School of Business at
Carnegie Mellon University
Founders’ Pie Calculator Example

10. Source: http://www.slicingpie.com/the-grunt-fund-calculator/
Grunt Fund

11. Source: http://www.slicingpie.com/the-grunt-fund-calculator/
Grunt Fund Detail

12.  Potential taxation: Stock for services (§83), or taxable repeated contributions of property
 Partnerships and LLCs – profits interests are non taxable
 Corporation and capital interests solution:
 At start of company, all participants are granted a certain number of shares of Restricted
Stock.
 Participants make 83(b) election immediately to recognize ~$0 taxable income, when
company worthless.
 Vesting conditions: You only keep those shares such that you get your appropriate
percentage under model.
 Thanks to §83(b), participants will not need to pay taxes when Grunt Fund “split” occurs
at some future date.
Dynamic Split Models – Tax Issues and Planning

13. • Class F Stock is common stock with super-voting rights.
• Series FF Stock is common stock that is convertible into preferred stock in a
sale.
Founder Protections

14. www.startuprounds.com
• Who should vest
• How long?
• Acceleration?
• Change of control
• Termination without cause
• Double and single triggers
VESTING Vesting

15. • Form of Election
• Timing
• Whose Obligation?
83 (b)

16. FAST Model
Valuation
Milestones and
Deliverables
Vesting Stock v.
Options
Advisors

17. CURRENCY
• Options
• RSUs
• Restricted Stock
• Phantom Plan Units
Currency

18. www.startuprounds.com
• How long?
• Milestone based vesting
• Change of control Acceleration?
VESTING Vesting

19. www.startuprounds.com
• Employee vs Independent Contractor
• Wage & Hour Laws
• Intellectual Property Issues
• Prior Employer’s Facilities
• Invention Assignments
VESTINGAdditional Considerations

20. • Founders
• Family & Friends
• Angel Investors
• Private Equity Funds
• Banks
• Venture Capital
Early Stage Investment Sources

21. SAFE Priced roundsConvertible Debt
Seed Funding

22. • Convertible Notes
• Debt obligations that convert to preferred stock
• SAFE
• Convertible equity
• Conversion feature
• Valuation Cap
• Sets a maximum valuation at which note will convert
• Discount
• Early investors get a discount to the preferred price
• Change of Ownership
• Investors convert to common or get a multiple on a sale of the company prior
to a priced financing round
Terms: SAFEs and Convertible Notes

23. • Common Stock
• Options
• Warrants
• Convertibles
• Preferred Stock
Cap Table

24. Founders 5,000,000 38% 5,000,000 45%
Stock Pool 2,000,000 15% n/a
Series A 3,000,000 23% 3,000,000 27%
Series B 3,000,000 23% 3,000,000 27%
total 13,000,000 100% 11,000,000 100%
Capitalization
Fully Diluted % Issued %

25. Founders 5,000,000 50% 5,000,000 63%
Stock Pool 2,000,000 20% n/a
Series A 3,000,000 30% 3,000,000 38%
Series B 0% 0 0%
total 10,000,000 100% 8,000,000 100%
Capitalization

26. Founders 5,000,000 71% 5,000,000 100%
Stock Pool 2,000,000 29% n/a
Series A
Series B
total 7,000,000 100% 5,000,000 100%
Capitalization

27. Founders 5,000,000 100% 5,000,000 100%
Stock Pool 0% n/a
Series A 0%
Series B 0%
total 10,000,000 100% 5,000,000 100%
Capitalization

28. Post-Money value = Pre-Money Value + Investment Amount
Investor’s ownership = Investment / Post-Money value
Pre vs Post Money

29. Photo Borrowed From The Full Ratchet
Pre vs Post Money

30. The company cap table is:
Common 1,000,000 shares
Convertible Note or SAFE, $1,000,000 with a 20% discount
Company does a Series A of $1,000,000 at a pre-money valuation of $4,000,000
We have one $1,000,000 note or SAFE that converts into $1,250,000 of stock ($1,000,000 divided by 0.8). If it come out of
the pre money, cap table pre Series A is:
Value Shares PPS Percent
Common $2,750,000 1,000,000 $2.75 55%
Note or SAFE $1,250,000 454,545 $2.75 25%
Series A $1,000,000 363,636 $2.75 20%
Series A gets 20% and common and SAFEs take dilution
SAFE Converting Pre Money

31. The company cap table is:
Common 1,000,000 shares
Convertible Note or SAFE, $1,000,000 with a 20% discount
Company does a Series A of $1,000,000 at a pre-money valuation of $4,000,000; Post is $5,000,000
We have one $1,000,000 note or SAFE that converts into $1,250,000 of stock ($1,000,000 divided by 0.8).
Value Shares PPS Percent
Common $4,000,000 1,000,000 $4.00 64%
Note or SAFE $1,250,000 312,500 $4.00 20%
Series A $1,000,000 250,000 $4.00 16%
Series A gets 20% and common and SAFEs take dilution
SAFE Converting Post Money

32. Investors will ask that Option Pool be increased pre close, so that
founders take full dilution for the option pool
Effect of Option Pool

33. • VC or Institutional Investor
• Preferred Stock
• Valuation Methods
• Score Card
• Venture Capital Method
• Berkus Method
• Cayenne Calculator
• Risk Factor Summation
• Negotiation
The Priced Round

34. www.startuprounds.com
• When to mention valuation
• Staged Investment
• Liquidation Preference
• Control
• Blocking rights
• Drags and tags
• Anti-Dilution protection
VC Negotiations

35. Other Financiers
• Private Equity
• Crowdfunding
• Strategic Investors

36. Private Equity
• For more mature companies
• Deals often leveraged
• Usually have cumulative dividend

37. Crowdfunding

38. • Campaign owner selects crowdfunding platform (e.g., Kickstarter.com, Indiegogo.com,
GoFundMe.com).
• Differences exist such as whether must hit target to get funds, whether for business or
personal, others.
• Campaign owner creates a campaign, telling the story of their product, idea, concept or
reason for fundraising.
• Third-parties “contribute” funds to the campaigns.
• Funds raised are distributed to campaign owner less any applicable fees assessed (e.g., by
the platform itself, credit card processors, foreign currency conversion, etc.).
• Some sites require that “target” be met to get the funds.
• Campaign owner, in exchange for this contribution may:
• Do nothing, including provide nothing in return to the contributors
• Provide a product or ownership interest
• Provide a nominal value perk such as a logo tee shirt/tickets to an event
Crowdfunding Campaign Overview
Slide provided by:
Dawn Rhea, Moss Adams
Carolyn Lee, Morgan, Lewis & Bockius
Annette Nellen, San Jose State University

39. • Crowdfunding (Title III of the JOBS Act)
o Allows companies to raise a limited amount of funds from the
general public (Effective as of May 16, 2016)
o Investment must be through an intermediary broker or funding
portal
• General Solicitation (Title II of the JOBS Act)
o The SEC has extended the exemption for private offerings under
Rule 506 to allow for general solicitation providing certain
requirements are satisfied
o Can only issue securities to accredited investors and there are
additional filing requirements
• New Regulation A, nicknamed “Regulation A+” (Title IV of the JOBS Act)
o Preempts state registration, allow for what some call a “mini-IPO”
JOBS Act – Key Provisions

40. Exemption from Registration
• The private company issuer (aggregated with predecessors and companies under
common control) may sell up to $1.07 million of securities in a 12-month period
[adjusted for inflation]
• Individual investments in all crowdfunding issuers in a 12-month period are limited
to:
o If either their annual income or net worth is less than $107,000, then the greater
of:
 $2,200 or
 5 percent of the lesser of their annual income or net worth
o If both their annual income and net worth are equal to or more than $107,000,
then
 10 percent of the lesser of their annual income or net worth (up to a
maximum of $107,000)
o Issuer may rely on intermediary’s calculation of investor limits, unless issuer
knew it was or would be wrong
• Process is likely to prove expensive and overly burdensome
• Effective as of May 16th, 2016
Crowdfunding

41. Utility
• Use of Token
• Secondary Trading
• Scarcity
• Voting + Democratized
Issuer
Law
• Securities Law
• Regulatory
• Tax
• AML/KYC
• Anti Fraud
$
Step 2: Build
Platform
Step 1:
Pre-Sale
$orCrypto
SAFT
Investors
Step 3: ICO
Tokens
Investors
The ICO: Crowdfunding on Steroids

42. • Community supported crowd sale of cryptocurrency tokens issued
by startups based on private Blockchain technology
• Creates liquidity and growth equity without giving up equity in a
company
• Tokens are sold in exchange for Bitcoin, Ether, and government fiat
• No clear tax guidance
Initial Coin Offering (“ICO”)

43. • In certain cases, the tokens or coins will be securities and may not
be lawfully sold without registration with the SEC or pursuant to
an exemption from registration
• Will depend on the facts and circumstances including the economic
realities of the transaction
• Tokens can have different utilities and rights
• Regulation A, Regulation D, or Regulation CF can be used
• Potential CFTC and FinCEN Compliance
• US vs. Offshore Offering
ICOs (cont.)

44. • Tokenized Stock
• Token tied to asset or revenue stream
• Treated as security
STO - Security Coin Offering

45. Advantages:
1. It’s not an ICO, which are not doing well due to regulations and bad press
2. Liquidity, can be traded
3. Removes middleman, speeds up process
4. Broad access to investors
Disadvantages:
1. Stigma due to ICO fallout
2. Regulatory uncertainty
3. Lack of governance
STO – Pros and Cons

46. • Stock with tokens attached
• Stock with right to future tokens
• Stock convertible into tokens
• Tokens with rights of stock
• Asset backed tokens or centralized stable coins
Security Tokens - Implementation

47. • Taking Money Off the Table
• Earnouts and contingencies
• Acqui- Hires
The Exit

48. 1. Investor buys preferred shares from company
and common shares from founders
2. Alternatively, investors buys preferred from
company and company redeems common from
founder
3. Founders common priced at above market
4. Tax issues for founder
Target
Target
Shareholders PEG
Target
Shares
Cash
Cash
Taking Money Off the Table

49. • Purchase price based on performance (earnouts) should be baked into formation
documents
• Can structure for capital gains tax instead of ordinary income
Earnouts and contingencies

50. • Acquiring a company to recruit its employees
• The Marvell case
• Management carveouts
Acqui- Hires

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