All right everybody welcome back to this Weekend startups it's time for startup Basics with my friend Becky degra she is Council from Wilson cini goodr and Rosati wsgr as we call it people say Wilson here in the valley Becky one of The things we're seeing is distress Companies I'm on the board of some of These and this crazy moment happens when It's pretty clear that this plane is not Going to make it across the Atlantic Ocean and land safely to use a dark Metaphor it's not life or death but all Of a sudden I look to my left and my Right and two VCS and an independent Director just took their power shoots And jumped out the back of the plane and I'm sitting in the cockpit with the two Co-founders and we got to do something With this plane so maybe you could talk About why do some certain VCS just leave The board company's not out of business But they're clearly struggling and There's this like perception hey we're Not going to make it It's going to be a pretty rough Landing So let's talk about distress companies In that final six months yeah now um Unfortunately we're having more of these Conversations in this macro environment That that we're in but um I think if you Find yourself either as a director or Officer in one of those those companies Heading in that direction your job
Becomes much more difficult right on on A number of fronts um you you know Anytime you start taking taking actions They're going to be looked at with Greater scrutiny right um often times It's insiders that come to the rescue in Turn from a financing perspective and We've got Insider Le down routs and Recaps and these things because it's Like hey you're running out of money There's no other options the terms get More aggressive more punitive um more Delive higher risk for claims later the Other thing that goes along with that Right of we we tend to be like more Complex more Creative whenever you do that from a Legal perspective your legal fees start Going up and it's like that's the worst Time to have bigger and bigger legal Fees but oftentimes you know you start Having more regular board meetings Because you need to you need to have Have a good record showing what you're Doing that you're paying attention that You're well informed that you're looking At all of these things but man it it Takes a lot of time a lot of resource And starts starts pushing up and to your Point some investors say all right I've Already written this investment Off the whole point of me staying on the Board was somewhat of an oversight Function for my investment if I've
Written it off and me staying on is pure Liability I think that's something to to Weigh uh you know from a company Perspective and that's when people pull The rip cord it's like we've written This down to zero and it's going to take My time it's going to take energy and These situations are 50 times more Distracting and they have a 100 times The bad feelings um pay to play keeps Happening maybe you could explain to the Audience what this pay to play scenario Is this last Stitch effort in some Companies that creates massive bad Feelings and you know why people do it And should they do it you know what's Your take here yeah yeah I mean we are Seeing more payto plays um particularly In connection with down rounds it's Usually you know the company needs money Nobody else is coming to the table the Insiders are doing this pointing to each Other like are you going to go because I'm not going by myself I'm not going to Carry carry the the full weight of this You got to come along and help too and Some investors are like I'm not helping No no I'm not putting good money after Bad money and but at the end of the day Like the company needs needs a certain Amount of money too to to get to Whatever that next hopeful step is is Going to be so when we put a pay to play In place we're essentially saying we
Want you to participate in this Financing um you know for your prata and If you don't something bad is going to Happen there's all sorts of what we can Fill in the blank with that something Bad but often times it's we're going to Convert your preferred stock to common Stock and it may be not that we're Converting on a onetoone basis we can Start messing with that ratio too say For every 10 shares of preferred you're Only going to get one share of common And then for the folks that Participate they maybe we pull up we Call it um essentially like turn that Common stock back into to preferred Stock again it may not be a one for one Basis but that's that's kind of the General concept of the pay to plan and Why it comes in to place because this Company needs money and I'm kind of Going to going to use a stick to force You to to help support this company at This at this time it's really rough I've Been in a lot of these situations um the Last two years and I have never seen a Payto playay round result in a win for The company afterwards it's it's few and Far between it's very risky as from an Investor perspective putting money in at That point yeah and you know I think you Learn I'm going into my second decade as An investor here and I think what I've Learned is if we are at that point this
Is not going to work out and so we Really should be talking about a sale or A shutdown but you know hey Founders Might have a white knight uh and they Say hey we've got you know a million in Revenue we've got a broken cap table and This white knight wants to put a million In and that million will get us to Profitability I want to keep going you Say well there's already $10 million in Overhang in the company and that 10 Million represents 40% of the cap table Well you know what of that 10 million You know each person who put in a Million now they're 10% of that new Round right uh or something to that Effect let's say that if I were to do The math that 10 million bought let's Say 20% of the company each point would Be 2% or each million would be 2% Therefore you have to take 2% of the new Round which means if you put in 5 Million you got to put in 2 * 5 10 you You got to put in some money to this Next round in order to keep your shares And if not you go to Common And some people just might not be Willing to do that that fund is fully Deployed or they just see this as super Liability if they are successful have You seen people or amongst your Contemporaries other firms other Situations when you're chewing the fat And having a beverage after my bation
Drown the sorrow of some of these days That can go pretty long you have double Mallen um or whatever your jam is do you See legal action afterwards hey you guys Did this pay to play around worked out It's one of the one in 50 or 100 that do Work out hey you know what maybe we'll Send a couple legal letters and get our Shs back has that happened that that was What I was going to say is the IR the Ironic thing is vast majority I feel Like we go through all these efforts the Pay to play the recap whatever Hoops we Might jump through the legal fees that It takes to do all of it and then the Company doesn't doesn't pan out right uh From there let's just say they are one In the few that do and like yes success Story they pulled the rabbit out of the Hat they're doing great that's the time When we start to worry about uhoh are The stockholder lawsuits going to come Because the stockholders aren't going to File a lawsuit when there's nothing There when the company did a nose dive Right like can't get blood from ack Stone exactly so but in the scenario Where the company's actually actually Successful in turning it around then You're like oh boy now I got to deal With this and that's where I will say I'm spending a lot of my my time right Now of having those conversations of the Plan for the worst case scenario well
Plan for the best case scenario which Also might be your worst case scenario From a legal perspective um and what are Some things that that we should be doing While we're going through this process To help mitigate those the the bad Result that could come from from that um And one of the things that I say at Everybody and that is one of the most Important things that you can do and There's all sorts of of different Mitigation Uh techniques or things that that we can Do but have a good process make it the Best process possible like right you Can't you may not be able to control the Outcome in terms of like what the terms Are and all of all of those those things But you can get everybody to sign off on It and that is the key is to get this UNM so Hey listen you are not going to Do the pay to play you don't want to Participate we get it you're leaving the Board you need to sign a piece of paper That says you're leaving the board and You need to sign a piece of paper that You had the opportunity to buy shares And you did not yeah we would love to See all of that and sometime right like It's it's run run a good process and Make sure it's reflected in the board Minutes too right so going out and doing A market check um before you just ah It's easier to accept the money from the
Insiders I know it's a Down Round but It's easier than me going out and Checking whether there's anybody else Explain a market check I I know what it Means but uh for the audience and for Found what is a market check yeah yeah So it's where you're you let's say you Need to raise money um you actually go Out and you talk to a number of Investors maybe you hire an investment Bank to help you with that process as Well and sometimes we see the companies That will do that and actually like Right you're you're talking to you go You talk to 30 investors and every Single one of them says no not Interested not even getting past first First conversation document that like I Know I know you don't want to air your Dirty laundry but that is so important To have that in the board minutes Because it Paints the story of This Truly was a financing of Last Resort the Only people that were coming to the Table were our insiders we couldn't Attract it uh from anybody else and yeah You know what it was really risky and The terms were a little uh little Punitive but there wasn't anything else On the table and I I've had Founders who Come to me and they propose one of these Things and it feels like they're self Dealing And then I say okay who did you talk to
For m&a what bank did you hire who were The people where's the Google sheet that Tracked all this they're like well we Had a couple conversations and I'm like Great let me know which ones you had I Want to see the emails from them saying They're not interested I want you to Document all that and they're like oh Well yeah you know we you don't trust us And it's like okay let's not make this Emotional everybody we're not in Kindergarten this isn't High School this Is business and you need to document we Emailed these 30 investors we followed Up with each one with two subsequent Emails we got 10 meetings we took those 10 meetings they turned into four second Meetings those four declined to invest At any price these are the reasons those Four people gave us of why they weren't Investing and it's in an addendum Attached to it's in a Google sheet Somewhere it's in a notion page whatever This I mean this is not rocket science To do this and man does this cover you And I I have been through this so many Times where you know Founders do this And I've been through it a couple times Where Founders don't do it and then they Propose hey their friends going to put In 500k they're going to put in 250k They recap the company and I'm like well Which investors did you talk to oh you Don't trust me oh God trust me
Verify and and I mean like it's it is Real liability to the directors and Officers that Were watching that were were approving Like what you just said would be I would Love to see that that that spreadsheet Send it out to the board have the email Have the board minute say after Reviewing the Google sheet that was About the investor Outreach the board Decided to do X like that's that's like Give our litigators a chance that's the Gold standard you know and if it did Come down to litigation you have Opposing Council file or or they you Know you do some a phone call they write A letter and you say listen you know This is going to come out and Discovery Do you have the board docs and they're Like No And okay great let me let me Share the board docs with you here it is Were you aware that this existed a Google sheet with 30 targets and are you Aware that they had second meetings with These four and these four said they were Declining for these reasons I like no I Wasn't aware of that okay great so Before you file you should know that This occurred and so these claims maybe Are less valid or not valid at all yeah And I mean it may not be a complete get Out of jail free card but it is it is One of the best things that we advise of Like again we may not be able to control
The terms as as the company like it may We may end up having to take some really Punitive aggressive things but at least At least control the process so that we Can we can have have the best possible Uh look there as a steward of capital Let me give free legal advice from you Here I've had a couple situations where I disagree and I I've said we are a Launch fund with x% ownership this has Happened you know five times in 400 Companies which you know have some Number of rounds of financing so we're Talking about thousands of rounds of Financing I say yeah we're voting uh in A we're opposed to this so we're voting In opposition to it and the founder like Really and I'm like yeah for this reason We don't believe that this is you know We don't think you should be selling Secondary and raising money and we think You should have gone with the other deal That didn't have the secondary offering In it because we is bad hygiene so we're Voting against this but we understand That we own 6% and you know whatever you Needed 80% or something to and we're Getting dragged along like oh we talked To our Council they said you need to Vote for it and I'm like actually we Don't this is how governance works so Maybe you can talk a little bit about When you have somebody like me a Conscientious objector who says I just
Can't vote in this or I'm going to Abstain from voting or I think I did Abstaining once um and then I V voted no Maybe twice in the history of what we've Done it was pretty severe you know I'll Leave it at that um so what do you think Of that situation you have a board Director who says listen I just can't Vote for that yeah I mean ideally From company and Director uh perspective is you have Those conversations outside of an actual Formal board approval and you find a way To get to get there from a compromise Perspective like I would be shocked uh And I'd be curious to to know in the Case where you did vote no if the Investor on the other side said oh yeah Cool I'm all right with that still if One of the Directors that voted no I think this was A spin out you know they wanted to spin The company out and the amount of equity They were giving so there was like two Products inside the company the founders Left to go do this other company with The asset from this company gave the Existing investors like 20% and I was Like well what's going to happen to this Shell of the company that we own 10% of Like it's going to zero essentially Because nobody's going to be here to run It and I'm like well that seems Profoundly unfair you just took the one
Asset and moved it over here and then You guys own 80% the existing the new Investors own 15% the previous investors Own five why don't we just stay in this Cap table and just shut that other Business down like oh well because we Won't own enough equity we got too much Of an overhang I was like okay I vote no And you know that's still hanging out There and so to our Point earlier and I I said no because if our LPS came to us And said do you allow this I didn't want To have the liability saying I allowed It I wanted to have on the record that I Voted against it that there was an email That said here's the reasons Why and if that company becomes worth a Billion dollars to your point Before you know we would be able to then Make a Claim yeah and I mean like there's There's the board vote and the Stockholder vote and depending on which Hat you're wearing right at the board Level you've got it you're you're Supposed to be exercising your fiduciary Duties to the company and to the Stockholders and if you're like hey this Is not a good thing for all of the Stockholders for you to do some Self-dealing Transaction then then yeah right like It's you gota you got to speak up I'm Getting upset about it right now
P you know me I'm I'm such a you know It's just I don't know if it's my Irish Catholic upbringing in Brooklyn and my Dad just my dad was so principled as a Greek business owner and my Irish Catholic mom and her family is just very Principled and man it just gets my Irish Up when literally somebody does Something that's unethical or immoral or Shady in any way and I'm getting annoyed By it right now but you know I do have One thing that keeps me from annoyed People who do these kind of things they Tend to fail it is true it is true it's Almost Universal you and I went through A couple of wars and like that company That we had you know a couple of Companies we had that you know were a Little dicey they're no longer in Existence and we were able to secure Save our investment and watch that Company and that founder Literally drive into a brick wall and we Were the only people who got off got out Of the car you know and when you see a Reckless driver you know it's an Indication to me that people who do Something Reckless are doing more Reckless things that you're not aware of And they will do it again and if they're Rewarded for recklessness or bending Rules um they can get the the wrong Message and they double down on kind of Stuff right yeah yeah it kind of goes to
Character right it goes to character but And then also incentives you know we see In our Industry um in order to run these Companies you have to be an extreme it's An extreme Pursuit and then in some Cases you know you're you're bending Some rules reinterpreting some rules You're Disrupting being a disruptor but you Just have to be careful I I don't Recommend people become disruptive or Drr destructive with legal issues in Corporate issues just keep that one on The straight and Narrow we we've had a few examples uh Really high-profile examples right over The last couple of years of perhaps uh Bending not not not walking the line Delicately but no you are way way over On the other side of the line you're Literally like Wy coyote running off the Cliff and like you just don't realize There's nothing underneath you you know And I so many of the crypto companies we Looked at I said and maybe we should end On this you know and I don't have Anything against crypto but when one of Our crypto companies told us meet our New Panamanian lawyers in the BVI and We're setting up a Nonprofit and the Nonprofit is um got five directors but We can't tell you who the directors
Are because of a safety risk and like Well I'm a director of the company That's spinning out the nonprofit in Panama through a BVI attorney and you Know how I knew this might not be a good Situation when the formation of the Panamanian nonprofit was a million Dollars in legal puse and I was like Wait a second they have the best Attorney in the world Becky and Wilson Cini and she'll incorporate the next Company you know or like the retainer It's like it's not what we're paying for What and I said to this woman who was Doing this in the BBI I said I asked a Question why is it a million dollar She's like well there's some risk Associated with it and it's complex and I was like we're paying you a million Dollar because it's risky like couldn't Believe she said it out loud she's like Well maybe that's the wrong word it's Complex it's really more the word and I Was Like yeah I'm good red flag red flag red Flag I mean literally it was like Somebody just took a case of red flags And D it on the table was like I'm not In the red flag Business all right Becky you're Wonderful thank you for protecting me at All times and our startups uh and if you Are uh dealing with iy situation just Call Becky she's awesome um her dance
Card's pretty full but Wilson s zini Always has uh some great attorneys over There man wild rides we've been on great Adventures together and uh you know Every now and again one of these Companies wins big and it makes it all Worthwhile uh so thank you so much Becky The joy of the ride right gets a little Wild at Times bring some drama mean folks if you Want less legal fees and unless Volatility don't be in the startup world It's a little bit binary here but uh Great Council makes it a lot easier We'll see you all next time bye-bye Thanks Jason appreciate it
