All right everybody welcome back to this Week in startups it's time for our Startup basic segment we do this every Year or so Becky degra and I get Together she's with Wilson cini I'm with This week and startups and launch we Both are involved in the startup Ecosystem for decades and we both care Deeply about Founders and the ecosystem So we get together and we talk about the Challenges the legal issues and you can Get all of our start Basics that we've Done in history over the years at this Weeken startups.com Basics all the basic stuff um is Important but things are getting a Little complicated of late huh Becky Yeah it's not all up and to the right Unfortunately so I asked you to tell me What are the most painful things that You've seen in the market now of course You're not talking about any specific Companies here but the trends because You get to see the Trends um at a at a great firm like Wellson so see my Um so what are you seeing what's what's Happening with startups in 2024 last year I mean it it seems like It was a decade ago but we had Silicon Valley Bank go under and you know it's coming Back now and it's you know in different Parts but that was like a seismic crazy
Thing that occurred in our industry we Had the down Mark we had Peak Zer okay Here we are 2024 halfway through the Year things seem to be getting better But man there's a lot of problems that People are still working their way Through what are the top couple of Things you're seeing yeah I would say You know I think you hit it right on the Head right um so many things have caused A more challenging fundraising market For companies and that more more so than What we've seen in Prior years and not Just compared to you know 2021 the Outlier year where everybody's hair was On fire and like everybody was getting Finance but but it just more more Challenging in general you know good Companies are still getting Finance but They're having to jump through more Hoops um and the later that the company Gets the harder it is from a fundraising Perspective and one of the things that That's been very interesting right is Like what have investors been telling Companies for the last two and a half Years cut cost reduce your burn extend Your run rate right all of these things Because the market hasn't been great we Need to wait you know we need to wait This storm out and hopefully it gets Better Well when you do that right that that Pressure to cut cost probably not going
To see the the super hockey stick of up To the right like it's kind of you're Expected to do more with less and now When these companies are forced to come Back to the market they don't have like The oo flashy metrics that investors Love to see because they have been They've been more conservative or at Least most companies have so that's the That's the paradox We had everybody say batten down the Hatches Founders in some cases complied In some cases they just went YOLO they Said forget it you know I'm going to run My company how I want but let's say in Good faith that a large number of them Did that and all of a sudden this idea Of doubling Revenue became flat revenue Or negative 10% or plus 10% Revenue Growth but we hit break even right and It's like okay well that could be a Shallow uh Victory because you hit break In but now nobody wants to invest in a Company that's kind of growing 10% a Year that's not a high growth company And the companies that we want to invest In uh as a community are high growth Companies and high growth in private Companies let's face it 50% 100% 200% 300% growth year-over-year Depending on the stage so where does This leave all these companies who took The advice of batting down the hatches And got to break even maybe they're at
Break even they have some money in the Bank they've got you know 24 48 months Of Runway but they don't have high Growth what happens to these companies Well now when they have are starting to Run out of money and have to come back To the market they're not getting an up Right like we're we're seeing fewer and Fewer up rounds like we were just Looking at our data coming out of uh Q2 Uh the aggregated data and we we down Rounds have increased flat rounds have Increased I'll say flat rounds in quotes Because some of the flat rounds have Creative things that go along with it Like Penny warrants that when you Calculate them it really ends up looking More like a a Down Round but from an Optic standpoint you can kind of say Flat but I think that's what you're Seeing and and why we're seeing more of Those than we are these these upu rounds Let's talk about those those Penny Warrants for a second because everybody Hears that and goes hey what's that That's interesting what is the penny Warrant and why do people ask for those Yeah so right now I feel like what we're Really trying to solve for in a lot of Cases is investors have a lot of dry Powder they want to invest but they Their valuation is down here Founders You know they they raised let's say in 2021 and their valuation was really high
And maybe uh due to what we were just Talking about they're kind of flat on Revenue and investors are saying H this Wasn't what this isn't really what I Thought it was going to be I think the Your valuation should be lower so we We've got this Delta of what the company Thinks it should be and investors think It should be one of the things that We're doing from a creative quotes Create creative way to solve that that Gap is to to add these Penny warrants so You would say okay you know what I'm I'm Going to give you a flat round I'm going To buy new preferred stock at the same Price as what your last round was but You're also going to give me a warrant To purchase a share of stock for a penny Per share so now from an investor Perspective when I combine those two I Get a different economic I get a blended Rate that brings me down to the Valuation I wanted while the company Kind of gets to save face and say oh I Had a flat round um you know in terms of What they they sold from the preferred Stock so to put some math on this Company was worth a 100 million they had Raised 10 million and let's say they had A 100 million shares just to make the Math super easy every share is worth a Dollar they come back to Market they Tell the existing investors hey we need To top off with $5 million to get this
Thing back on track they say okay we'll Give you the 5 million we'll give you Those for a dollar a share at a $100 Million valuation but we also want this Little side deal over here that says we Can buy another 5 million shares for a Penny each so for but $50,000 we can buy another 5% of the Company so you put those two numbers Together $550,000 for essentially 10% of the Company but it's a warrant so they can Execute that at any time in the next say 10 years typically I think when they do This warrant coverage and so the cap Table looks good right now nobody Everybody's looking at the cap table you Know in a in a spreadsheet going okay it Looks good but then when the sale Happens right before the sale that Investor says here's your $50,000 well will take another 5 million Shares and that uh of course comes off The top and everybody gets diluted 5% Did I describe it correctly what is Happening here that's that's exactly What's happening and today Founders get To save face and say oh I had a flat Round whereas and and you know you can You can adjust that ratio so that it Gets to you know whether you get one for One or whatever it might be on the Warrant side to get to that right Valuation that the investor was looking
For yeah let's say the valuation was Like they wanted to get to 25 million Right so now they need instead of one Extra share for every share they put in They need more right they need another Two or three so man it can get a little Bit hairy what tell me what's going on With m&a you know we have very chilled Market with m&a I have been all caps Everybody knows when I go all caps on Social media something's going on here So I was all caps with svb hey we gotta Save Svb at least the deposit that you know If the company got wiped out and People's Equity got wiped out that's one Thing but you can't take a school or a Startups money out of their bank account Like that's not cool um so okay we got Through that all caps Jade Cal saved the Day there and and some smart people in Washington yes of course the fact that People even like the New York Times is Writing about my all caps rants like It's has any impact on anything is Ridiculous but anyway I went all caps The other day and I said listen this and This is me saying this night you not was But for me Jcal gosh you know it's really Frustrating the chill that Lena con and This Administration has put I don't want To make it's political but they have put A chill in our industry and m&a nobody
Wants to buy anything because they saw What happen with Adobe and figma they See what's happening in the market where You know Google wants to buy an AI Company Microsoft wants to buy an a Company they do this weird synthetic Acquisition I'll call it I'm going to Call it a synthetic acquisition where They buy the team they give a licensing Fee and then the company still exists And I don't know what happens have you Seen any of this synthetic m&a I'll call It or just the chill in General on m&a And and what's your outlook for this Changing if at all yeah I would say the M&a market is Chill is a very good Description on what's going on there and It's I I was chatting with a number of Our m Partners recently on this and They're like I don't know how I I don't Know that I've seen a market quite like This we always have ups and downs and Different things with the market but not Like this like we're seeing just weird Stuff happen on the M m&a side like when You get when you get an Loi that's That's the term sheet that's the the First step that the buyer you know Passes over to say I want to I want I'm Interested I want to buy and here's the Terms under which I'll do so if you sign That between them then and the time that You get say the first draft and the Buyer prepares that of the definitive
Agreement I would say like we will Sometimes see deals die in that period Right they start doing a little bit more Diligence maybe they decide yeah not not The one for me but what we have seen Over the last year and a half I'll call It is the deals get really far along I Mean like we're we're on the Finish Line We're a week away like we put in two Months like you know each side has half A million a million dollarss in legal Fees and then there they come back to The table and there's like a Renegotiation or there's just a we're Out and it's like what what do you mean And it's not it's not happening once but We're seeing it happen more and I Wouldn't say like oh it's happening 20% Of the time but the fact that it's Happening and even single digit Percentages is kind of crazy and really Causes that chilling effect over the Whole whole Market you know Unfortunately whenever we get an m& deal Like go go go go go as fast as you Possibly can because there's so much Anxiety about the uncertainty in the Market so definitely definitely an issue It's it feels to me like the Ice Age Here you know like and it's so Frustrating for me because we'll have Great companies that get to Millions low Tens of millions in Revenue they're not IPO candidates we know that um everybody
Is cool with it not being an IPO Candidate um great it's better than Failure or the company shutting down We have nowhere to put these companies And now they go sideways for 5 years Growing 10% a year from 10 million to 11 To 13 and you know they would be so Great to be part of Google or Microsoft And maybe they could 10x these companies Or 100x them or have a great team and What you're saying is they get to the Altar and then they give that line you Know if anybody has any reason to OB Here into this machon speaking now or Hold your piece and somebody on the Acquisition team say you know I was Looking at the uh churn and the churn Rat's gone up the last three months so We think you'll have no customers in 24 Months if the churn keeps up at 5% a Month so therefore we want to pay less And my lord it's just so frustrating we Need a vibrant m&a market and so I'm Hoping that we Becky can get through as An industry with the change in Washington we'll have a new Administration maybe they'll have a Little more fluidity in what I'll call Singles and doubles in m&a my proposal Is pretty simp Why don't we just let companies under $250 billion have a very open market so That we have some bigger tech companies You know join the Magnificent 7 and then
If you're a part of the Magnificent 7 And you're over $500 billion in market Cap or a trillion even you have a Different set of m&a rules that's my Suggestion is just let let the younger Companies the upstarts you know merge And acquire and then maybe have a a Tougher set of rules for the Google of The worlds and the microsofts Etc There's definitely some some regulatory Hurdles out there that are putting an an Additional chilling Factor on the the m& Market and how much is international you Know regulatory bodies starting to Impact American companies we see the UK I think was the ones who actually were Leading the charge against the Adobe Figma um from my understanding that uh Acquisition but then you have the EU Generally speaking how much of these International organizations impacting The American companies you know and what They do m&a was yeah I mean depending on Where where the entities are where Jurisdiction lies it's it's entirely Possible that you're not just subject to One regime but you could be subject to Multiple regimes and the antitrust laws In each of those um jurisdictions so It's um and and and every time you start Getting into that it's not cheap and and That's where buyers are making you know Calculated decisions of How expensive is it going to be for me
To find out if this is going to be okay And right at the end of the day like you Kind of the fees are so are quite high That you start calculating that in terms Of your transaction acquisition cost Right of how much am I going to offer The company and how much do I have to Pay to get that that company right so You could have millions of dollars in Legal fees then there's this new thing That's been Introduced and you know could be 6 Months 12 mon month 18 months to get a Deal through and this new thing the Breakup feed uh maybe you're you're Seeing a little bit more of that because People are anticipating on the cell side Hey you know we don't know if this is Going to get the regulator it's going to Be a distraction maybe we need a hundred Million or a billion dollars if this Doesn't work out and that's paid for by The seller I'm I'm sorry the buyer Correct it's definitely a topic of Conversation um you know I don't I don't Know how successful like that the Percentage has gone up a lot um but that The conversations have certainly gone up A lot because both sides are sinking a Lot of money into this before you're Going to get that answer so if if you go Into it thinking this this is a Potential regulatory risk I think one of The things that that like our anti trust
Folks do is really do a lot of analysis Up front to try to come up with their Best guess as to what are what was the Risk here what's the risk profile look Like for this company this particular Acquisition okay paino m&a paypoint Fundraising any other blocking and Tackling pain points that are coming up Over and over again as we wrap here you Know I I'll add one more kind of on the Same theme of regulatory hurdles like Even outside of m& we've got a lot of That right like and it's not just Related to Life Sciences companies that Have all the FDA and various clearance And things that they have to go through We're seeing a increase regulation on The tech side too so think about all the Fintech companies that are out there There's a number of regulatory items That they have to go through um digital Health is another one that we're seeing More and more issues pop up there ah Digital Health yeah right um privacy oh Privacy is a big one yeah so and those Are now multi-jurisdiction you got California has a set of rules the United States has a set of rules the EU has a Set of rules and the UK which left the EU has a set of rules and that's just Off the top of my head for you know our Portfolio companies that's four sets of Rules to to get through just on privacy So what is the best practice here people
Just saying you know what storing Consumer data is just not worth it we're Going to leave it on your phone we don't Want it on our servers your data is a Liability for us I've heard some Founders tell me that like we don't even Want to store this data anymore because The upside is not worth the juice ain't Worth the squeeze in terms of the Regulatory issues are you seeing that as A trend I think a lot of the counseling That we're doing in this area is talking About those guard rails what can you do Before you cross the line what can you Do to stay on this side of the line Because once you cross yeah we've got All of these and there's I don't know I I don't want to say every couple of Months but at least once a year it feels Like or twice a year we're seeing oh Here's another billing the blank of Who's coming out with another set of Laws and regulations to comply with and You know I mean all of that right is is Really costly you need somebody inhouse To hire with the expertise that really Understands it and is able to to help With setting everything up you need the External Council right we've got folks In London Brussels specifically to deal With a lot of the EU um privacy uh Matters but when you're bringing those Experts in you've got experts from all Over the fees the legal fees on just
Climb right it's like for these early Stage startups it's it's a real barrier It's hard yeah and and those regulations You know so if you some giant tech Company with a billion users ah it's you Know chump change for you you've got a Whole legal department you got outside Counsel but yes for a startup and this Is why really taking security seriously And only storing and keeping what you Need and you know my my Lord like the More data you store just because the the Data expense has gone down dramatically Over time in terms of storage cost and Technical cost the liability has had the Opposite it's gotten more expensive so You know I think that's one of the Things technologists have to take to Heart yes it's cheaper and easier to Store every little click that everybody Does but then the liability keeps going Up that's why some jurisdictions you Know I remember in the early days of the Internet France they had some great Regulations like we you can't store your Phone bills like the phone uh numbers And who you called past a year or Something because the French were just Concerned about privacy they were like a Little bit weird that way and I just Thought wow there something interesting There like do I need to store every Direct message you know because if it Does come out man the liability could be
Very high and that and hacking is I Guess another piece of this how often Are startups coming to you saying hey We've been hacked we need to get a war Room together here and think about what Fines we're going to get and and how's That been going I would say yes we we Definitely see it it's kind of part of The the regular course um you know the The really big ones are the ones that Are scary that impact everybody right I Think what was it maybe like a month ago There was there was a really big one oh I think it was AT&T or something yeah And you started thinking about the Fallout I mean lawyers understand this Because They deal with dis the discovery process So understanding that everything you Write in electronic communication if it Is stored will come out in a discovery Process you know you if you're a senior Executive who's been deposed uh or You're an attorney you understand this But young people don't and I've had to Remind young people at startups because They will email me you know the least Experienced person decides they have a Take on copyright and you're like okay You're 22 years old you've got a take on Copyright based on your experience on Reddit and conversations you've had There great um you just codified it and When we get subpoena that conversation
The worst most inarticulate uninformed Conversation becomes the center of the Lawsuit yeah and I think I think people Tend to understand the email part like Oh can you you know like is it like Sometimes they'll even ask like can you Bless this email right like is this okay To send out but then when I remind them About text messages like oh we don't Have anything in writing I'm like okay So you didn't have any text messages With so and so oh that counts yes that Counts well I think you know one thing That I hear a number of Executives Saying is we're going to have our data Retention policy um and some larger Corporations have changed their data Retention policy which is hey we're Going to keep things for one year two Years but we're not keeping things for 10 years and you know Executives I Always tell Executives the rule should Be if a legal letter comes in if uh a Claim comes in you know not a lawsuit But you know people send a letter first Or they hint at something in an email That's when you pick up the phone we Have phones um and they're not recorded And you could have a conversation with Your attorney that is privileged and Confidential that is not transcribed Anywhere and and this is something also So for Zoom for people to understand Because everybody is recording I was on
A board call the other day somebody was Recording the board call and I was like Whoa whoa whoa are we recording and then We've got the AI companion on Transcribing and they're like uh yeah That's my default I'm like not for board Meetings you just took our Liability like and made it 100x that There's a recording of this board Meeting so is the best practice don't Record your meetings and don't record Your board meetings so I would generally Not record your board meetings have your Board minutes reflect what needs to be Reflected sure yeah and that makes sense Because in uh any kind of litigation That were to Occur every single statement your intent Doesn't matter it's what the opposing Council can convince a jwy if you did Get that far um your intent was see your Interpretation of your intent is you Know only half the battle it's what the Jury thinks of your intent and man People have said some things you know That are wild and I mean at the end of The day like you want your board to have An open conversation and not be worried About okay if I say this I'm thinking About that deposition I'm thinking about Litigation right like your board members Should be be there to to to help you to Brainstorm to strategize and you may not Want all of that recorded all right
There you have it folks uh tons of Blocking and tackling things you're Going to have to consider you always Need to have great counsel work with you Know work with a great Law Firm that's What I do if I have a problem I called Becky and we we solve it we've had some Great adventures over the years with Chaotic things that occur and uh you Know it's great to take that chaos And turn it into tranquility and Equinity uh if you want to hear all of The startup Basics we've done this Weekend startups.com Basics to see all Our Leal Basics and thanks to our Friends at wsb.com that's their domain Name Wilson cini Goodrich and Rosati What a great law firm and we'll see you All next time bye bye thanks Jason for Having me and yes names are always kept Anonymous and confidential abolutely There's your outro folks to protect the Guilty in according law
