Many people don't realize that the proportion of options they get when they join the company is not the proportion of shares they hold when they go public. As the company continues to grow, external financing will continue to dilute everyone's shares. How many shares you can get in the end depends largely on the company's financing and option pool. First of all, entrepreneurs need to understand the difference between financing and equity transfer.
Financing is enterprise financing. The enterprise introduces the funds of external investors to become a large company, and the investors acquire part of the company's equity and become the new shareholders of the company (that is, "increasing capital and shares").
The essence of the founder's transfer of the company's equity in his own hands is the cash-out of shareholders, and the income from the equity transfer belongs to the individual shareholders rather than the company, unless the shareholders reinvest the transfer income as new registered capital, which will lead to the change of the company's equity structure, similar to the financing effect.
When financing, the registered capital of the enterprise increases, and the tax cost of the original shareholders' equity remains unchanged; When the equity is transferred, the registered capital of the enterprise remains unchanged, and the taxable cost of the original shareholders' equity is adjusted.
Equity dilution brought by financing
Usually, a growing company often needs 4-5 rounds of financing to go public.
Usually, according to the number of financing rounds, enterprises can be divided into the following stages:
Initial stage: Shareholders pay their own registered capital.
Angel wheel: reform and development, angel investors "look at people and eat vegetables"
Round A: After basic verification, it is feasible.
Round B: After a period of development, the company is ok.
Round C: Continue to develop on the previous basis and see the hope of listing.
IPO: With the development, investors have to cash out. Everyone thinks it's time to go public.
The first round of angel financing is between 500,000 and 2 million. Angel investors will also take10 to 20% of the shares. Next, when the company's business model has achieved initial results, VC will vote for a round. A round of financing is usually between 5 million and100,000, and 20% to 30% of the company's shares are taken at the same time. The amount of financing in the next round (round B) is further expanded, usually 20-40 million. Of course, people will not give money until the company continues to grow and develop. At this time, the company generally sells 10% to 15% of the shares. Finally, the company will further expand. If the annual operating income reaches more than 20 million, PE or other strategic investors will further make a C round of investment, with an amount of about 50 million. At this time, they take 5%- 10% option.
In order to retain old employees and attract new employees, the company will set up option pool and dilute the shares of the original shareholders. Every year, the company should ensure that option pool occupies a certain proportion to motivate employees. At the beginning of employment, employees often ask for a higher proportion of option pay because they clearly know that the company's future is uncertain. Every time an option is given to a new employee, the shares of the company's founders and some old shareholders will be diluted.
A simple dilution case
For example, Party A and Party B have established Enterprise A, and the ratio of capital contribution of both parties is 6:4. At this time, the company's shareholding structure is:
A year later, angel investors came. After evaluation, both parties believe that the enterprise is worth 800,000 yuan, and Angel is willing to invest 200,000 yuan. Before he became a shareholder, the company was required to set up option pool with 20% shares.
At this point:
The shares held by Party A are: 60%×( 1-20%)=48%.
The shares held by Party B are: 40%×( 1-20%)=32%.
The shareholding structure of the company is:
After the angel investor shares, his shares: 20/(80+20)=20%.
Shares of Party A: 48%×( 1-20%)=38.4%.
Shares of Party B: 32%×( 1-20%)=25.6%.
Option pool: 20%×( 1-20%)= 16%.
At this time, the equity ratio of the company is as follows:
Since then (assuming a simple situation here), A, B, C and IPO companies have all given new investors 20% equity. More specifically, investors in Series A still face great risks. Generally, A investors will sign an agreement with the company. If the company's valuation does not reach a certain value during the B round of financing, it is necessary to ensure that the shares of investors in the A round will not be diluted, only the shares of shareholders before the A round of investment will be diluted. ..
In this way, the equity ratio of the company at each stage is as follows:
Option Dilution Process of Old Employees and Old Shareholders
Every time a new round of external financing comes in, the subsequent option pool adjustment and the rights and interests of new investors will make the shares of old employees and original investors equally diluted. What is certain, however, is that the value of options in employees' hands has increased. For example, an employee joined after the company's seed round of financing and got the option of 1%, but after the company's A round of financing, his option was only 0.6%. But the value of the company is actually increasing.
Even the founder of the company, after several rounds of financing and option pool adjustment, the proportion of the remaining shares in his hand has been greatly reduced. For example, a founder has 60%-70% shares at the beginning of the company's establishment, and may only have 20%-30% shares after listing.
In order to prevent the control right from being greatly reduced due to the dilution of shares, the founder can adopt a special share design to achieve the effect of "two-tier share structure" similar to Google and Facebook, and ensure that he takes the lead in the company's development.
If there is a problem in the company's capital chain and the finance is always not smooth, then the company needs to get more funds at a relatively low valuation. In this case, the shares of old employees and original shareholders will be more diluted.
The greater the risk, the greater the income.
The dilution of options can also be reflected in the employee's job offer. Take the offer of an intermediate software engineer as an example. He joined the company at different stages, and the proportion of options he can get is different. If the engineer chooses to join the company before the A round of financing (at this time, the company has 5-20 employees), then he will get an option of about 0.27%; If the engineer waits for the company to join before the second round of financing (at this time, the company has 20-50 employees), he will get 0.084% option. Employees who join before the C round of financing can get 0.07 1% company options. It can be seen that even in the same position, the later you join the job, the less options you can get. This is because, in addition to the dilution effect brought by the company's financing and increasing option pool, the risks that employees who later joined the company have to bear are also decreasing. "The greater the risk, the greater the income" seems to be a universal law of a society.
Give up and you will get it.
The company set up option pool to give employees equity incentives. Although the CEO's own shares have been diluted, it is worthwhile to retain key talents and attract outstanding talents to join the company in the long run. If you are stingy with shares, the lower salary will not attract the best employees, which will have a negative effect on the company.
summary
The model of gradual dilution of shares can help you better understand this process. Dilution is not necessarily a bad thing. If we can make the company bigger and stronger by financing, it is worthwhile to dilute the shares. The continuous increase of the company's market value will bring much more benefits than the value of selling a small number of shares. In other words, give up a small piece of cake and make the whole cake bigger step by step.