Should founders take money off the table in later venture rounds, and if so under what circumstances? An extraordinary private email to Airbnb CEO Brian Chesky from investor and former Facebook exec Chamath Palihapitiya which was leaked to Kara Swisher at AllThingsD brings this question into sharp focus once again. The email is reprinted below, you should read it in it’s entirety.
Palihapitiya doesn’t take issue so much with the founders collecting $21 million of the $112 million round for themselves, but rather with the way that they did it. “My basic principle on this stuff is that if you want liquidity, that’s fine, but you should make it available to everyone. Otherwise, no one should get it,” he writes. They took it as a straight dividend which, notes Palihapitiya, “allows you guys to take money out of the business and not dilute yourself.”
Airbnb isn’t the first hot startup to take money off the table during a big venture round. Groupon insiders famously took $345 million from a $950 million round back in December, 2010, before things started getting hairy. And half of Twitter’s recent $800 million round went specifically to buy out employees shares. But there is a difference between how Airbnb and Groupon founders rewarded themselves and how Twitter did it. Twitter spread the money more evenly to employees and early shareholders instead of funneling almost all of it to the founders.
A new class of investors is stepping in to provide liquidity to founders, employees, and early shareholders. With the rise of what I call mezzanine venture capital (DST-type deals that function as a bridge between late stage growth deals and an IPO) it has become increasingly common for startup founders and employees to cash out before an IPO or acquisition. In general this is a good thing as it rewards those who take the risk to build successful startups, but if the rewards are not spread equitably it can backfire. Palihapitiya warns, “If you are viewed as self-dealing and shady, it will only hurt your long term prospects.” Read his entire email below and weigh in with your thoughts in comments:
From: Chamath Palihapitiya
Date: Sat, 1 Oct 2011 11:16:05 -0700
To: Brian Chesky
Subject: Airbnb financing…
Brian,
Cc Marc, Reid, my deal teamThanks again for giving me the chance to participate in your latest financing. I had a chance to review the docs at length yesterday and I wanted to follow up as, quite honestly, I’ve never seen a deal like this over ~60 investments I’ve done and I’m pretty concerned.
I’m all for getting the best valuation you can, minimizing dilution and maximizing control. We did this brilliantly at Facebook…all of our financings (except our first $$$ from Peter Thiel) were done not out of necessity but opportunity. As such, our investors had virtually no control and it resulted in a much better outcome. As we’ve discussed, I generally don’t believe investors add much to a success story and so minimizing their impact is a great strategy when you are onto something that is working.
This said, while several of these concepts are reflected in the current deal, there is one big thing that I am fundamentally against and violates my principles and will prevent me from participating in your round. When I saw that you guys were taking $31M out of the company, I didn’t think much of it as I just assumed it would entirely be via a secondary sale.
But as I understand the deal, it seems that you are doing only $9.6M in secondary and $22.5M as a dividend to common (of which $21M goes to you and your co-founders). I am really uncomfortable with this and don’t think its in the spirit of building a good, long term business. Effectively, it is a strategy that allows you guys to take money out of the business and not dilute yourself — I’m not sure why this is such a big deal when you guys are almost 90% vested and the financing is at $1.2B where your dilution is marginal. Further, it excludes many of the employees that probably have helped you and your co–founders get the company to this place as most of these folks probably don’t have any stock but have unexercised stock options and thus won’t get a dividend.
My basic principle on this stuff is that if you want liquidity, that’s fine, but you should make it available to everyone. Otherwise, no one should get it. Your current deal is the farthest away from this principle that I’ve seen in a while…this strategy has been done once before — at Groupon. We can see how “well” they are doing and how short term the investor community is now viewing their motives. I really think you can do better than this…and that you are better than this.Separately, when you look at successful tech companies, it seems that dividends are an approach used by cash rich operations to distribute excess earnings — in fact, the most successful, cash rich tech company in the world, Apple, hasn’t issued a dividend and they have more than $75B in cash! Again, while I think Airbnb will be a good company, this is nowhere near the truth now — you guys still need to scale and build this thing for the future.
I really think you are onto something but I would implore you to not take the easy way out. Treat your employees the same as you’d treat yourself. Do things that you will be proud of and can defend to anyone including your Board, employees, prospective hires etc. In such a competitive hiring market, you are competing with not just your obvious competitors, but also any successful tech company who is also looking for great talent. A principle that treats your employees as well as you’d treat yourself is a huge strategy for differentiation, retention and long term happiness of the exact types of people you will need to be successful. In contrast, if you are viewed as self-dealing and shady, it will only hurt your long term prospects…
In summary, I’m passing on this financing because I strongly disagree with what’s going on. I’m not sure who advocated this approach but I did mention this to Reid [Hoffman, another Airbnb investor via Greylock Partners] last night and he was of a similar mind to myself and surprised this was the approach being taken. If you want some good advice — I would ask that you consider pinging him about different ways to think about going about the liquidity portion.
If you change your mind on how to close this financing, let me know and I’d love to reconsider. Otherwise, good luck and lets keep in touch.
Take care,
Chamath