Be smarter than VC and lawyer
Liquidation preferences are easy to understand when dealing with a Series A term sheet. It gets complicated to understand what is going on as a company matures and sells additional series of equity.
There are 2 primary approaches:
1. The follow-on investors will stack their preferences on top of each other (known as stacked preferences) where Series B gets its preference first, then Series A.
2. The series are equivalent in status (known as blended preferences) so that Series A and B share proratably until the preferences are returned.
Example
Series A ($5m invested at a $10m premoney valuation)
Series B ($20m invested at a $30m premoney valuation)
Sale of $15m
Approach 1 (Stacked preference) Series B investors get all $15m
Approach 2(Blended preference) Series A get 20% and Series B get 80% ($5m/($5m+$20m) = 20%)
In both cases, founders receive nothing.
In early stage financing, it is better to have no participation as it sets the precedent for future funding.
Liquidation preferences are easy to understand when dealing with a Series A term sheet. It gets complicated to understand what is going on as a company matures and sells additional series of equity.
There are 2 primary approaches:
1. The follow-on investors will stack their preferences on top of each other (known as stacked preferences) where Series B gets its preference first, then Series A.
2. The series are equivalent in status (known as blended preferences) so that Series A and B share proratably until the preferences are returned.
Example
Series A ($5m invested at a $10m premoney valuation)
Series B ($20m invested at a $30m premoney valuation)
Sale of $15m
Approach 1 (Stacked preference) Series B investors get all $15m
Approach 2(Blended preference) Series A get 20% and Series B get 80% ($5m/($5m+$20m) = 20%)
In both cases, founders receive nothing.
In early stage financing, it is better to have no participation as it sets the precedent for future funding.