Fri, 22 July 2022
Startup Boards -- Why Use an Early Exit Deal Structure
Hello, this is Hall T. Martin with the Startup Funding Espresso -- your daily shot of startup funding and investing.
In startup funding, 65% of the investments after three years are still in business but are no longer on the venture track.
In most cases, they are growing businesses but are not going to be bought out for a significant return to the investor.
The market conditions changed, competition took over, or the founder was no longer interested in keeping pace to achieve a venture exit.
The best-case scenario was the entrepreneur would sell the business for 2 to 3X after 10 years, in which case the investor would get a minimal return.
In my investing experience, three years into the investment, it becomes clear if the company will continue on the venture path or not.
This was due to competition in the market, a difficult fundraising environment, or just plain poor performance by the company.
The entrepreneur signals their departure from the venture path by taking above-market rate salaries.
I call this taking the “payroll exit,” in which case they no longer needed an “equity exit.”
This leaves the investor stranded on the equity plan with no way out.
It’s very difficult to negotiate a buyout from the startup for the investor's shares since there’s no market for setting the value.
An Early Exit deal structure gives the investor a way out of this situation which is far too common in the startup funding world.
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