From the WSGR Database: Financing Trends for …...venture funding environment continues to be strong for entrepreneurs and early-stage companies. Up and Down Rounds Up rounds represented

THE ENTREPRENEURS REPORTPrivate Company Financing Trends Q4 2012

(Continued on page 6)

Total funds raised in venture deals in whichWilson Sonsini Goodrich & Rosati representedone of the principals declined slightly from2011 to 2012. This decrease was consistentwith the declines reported by industry-widesurveys such as PricewaterhouseCoopers’MoneyTree Report.

On the positive side, the percentage of uprounds increased during Q4 2012 from the priorquarter. Also, while median pre-moneyvaluations in Q4 declined somewhat fromearlier in the year, they still remained higherthan those in 2011 and 2010. Finally, preferredstock terms continued to be more company-favorable in 2012 than in prior years. Forexample, the percentage of deals with seniorliquidation preferences was lower in 2012 thanin 2011 and 2010, and the percentage of dealswith non-participating preferred stock washigher in 2012 than in the two prior years.

In sum, although total venture dollars raised in2012 decreased from the previous year, the

venture funding environment continues to bestrong for entrepreneurs and early-stagecompanies.

Up and Down Rounds

Up rounds represented 69% of all financings in2012, down slightly from the 73% figure in

From the WSGR Database:Financing Trends for 2012

For purposes of the statistics andcharts in this report, our databaseincludes venture financingtransactions in which WilsonSonsini Goodrich & Rosatirepresented either the company orone or more of the investors. We donot include venture debt or ventureleasing transactions.

The Tug of Warbetween Foundersand Investors

Founders Seem to Be Winning

By Herb Fockler, Partner (Palo Alto)

In the last Entrepreneurs Report, wepresented the results of a study weconducted looking at approximately 300 ofthe first-round equity financings in which ourfirm has been involved from January 1, 2008,through September 30, 2012. We started witha data set of approximately 700 total deals,including angel, seed, and traditional venturecapital deals.1 We then screened these dealsbased on the amount invested ($2 million to$20 million) and the pre-money valuation ($1million to $50 million), excluding deals that,for one reason or another, did not appear tobe a typical first-round equity financing.2 (See“Pre-money Valuations Since 2008, or ‘HowMuch Is My Company Worth?’ Revisited,”THE ENTREPRENEURS REPORT: PrivateCompany Financing Trends, Q3, 2012.)

As part of the Report, we noted that sincelate 2011 there has been a substantial andbroad-based increase in pre-money valuationsin first-round equity financings. For most ofthe period, the median pre-money valuation(looking at 25 deals at a time) rangedbetween $5 million and $8 million, with aroughly year-and-a-half period in which themedian never exceeded $6 million,corresponding with the time of the financialcrisis and its aftermath. The median pre-money valuation for the entire period was

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

Q1 2010

Q2 2010

Q3 2010

Q4 2010

Q1 2011

Q2 2011

Q3 2011

Q4 2011

Q1 2012

Q2 2012

Q3 2012

Q4 2012

Down Flat Up

Up and Down Rounds by Quarter

1 These financings are a subset of the Series A and seedfinancings (aggregated without regard to size) reviewedelsewhere in that issue and the current one.2 While we excluded deals that appeared to be preceded byanother equity round and thus were not truly first-round equityfinancings, we did not exclude deals that were preceded byconvertible debt financings. Interestingly, the results of the studydid not vary markedly between companies that had completed aprior debt financing and those that had not.


2

THE ENTREPRENEURS REPORT: Private Company Financing Trends Q4 2012

2011. In Q4, up rounds were 76% of all deals,similar to Q2’s 77% and much higher than Q1’s 43%.

Down rounds as a percentage of total dealsdecreased from 20% in Q3 2012 to 14% in Q4,and were much lower than in Q1 (35%). Flatrounds remained unchanged at 10% of dealsin both Q4 and Q3.

Valuations

Median pre-money valuations in 2012 weresubstantially higher than in 2010 and 2011,although they slipped in Q4 for both Series Adeals ($5.8M versus $8.0M in Q3) and forSeries C and later deals ($89.0M versus$96.2M in Q3). The median pre-moneyvaluation of Series B deals actually rose in Q42012, to $31.1M from $20.0M in Q3, primarilyas a result of a higher median amount offunds being raised.

Amounts Raised

While average amounts raised were slightlylower in 2012 than in 2011, median amounts(see graph on page 3) raised were generallyhigher, suggesting fewer small deals last year.In Q4 2012, the median amount raised inSeries A financings declined to $1.8M from$2.6M in Q3. By contrast, the median amountraised for Series B transactions more thandoubled, from $3.2M in Q3 to $7.0M in Q4,and the median amount raised for Series Cand later deals rose sharply, from $6.4M in Q3to $11.8M in Q4.

Deal Terms

Liquidation preferences. Senior liquidationpreferences were used in 37% of all Series Band later deals in 2012, down from 47% ofdeals in 2011 and 50% in 2010. The use ofsuch preferences decreased both in up rounds,

from 34% of deals in 2011 to 30% in 2012,and in down rounds, from 79% of deals in2011 to 56% in 2012. Conversely, pari passuliquidation preferences were used in 58% of2012 Series B and later financings, up from51% of 2011 deals and 48% of 2010 deals.The percentage increased both for up rounds(67% in 2012 versus 64% in 2011) and fordown rounds (39% in 2012 versus 18% in2011). These trends likely reflect theincreasing valuations in later-stage rounds in2012 as compared with 2011 and, thus, thecorresponding greater negotiating power ofearlier investors.

Participation rights. The proportion of dealswith non-participating preferred stockcontinued to increase in 2012 as comparedwith prior years, to 67% in 2012 from 58% in2011 and 49% in 2010. The proportionincreased both in up rounds, from 59% in2011 to 67% in 2012, and in down rounds,

$4.0 $4.0 $5.0 $5.3 $5.5 $5.0 $5.6 $8.0 $8.2 $8.0 $8.0

$17.6 $20.0 $18.8 $15.1

$29.0

$17.5 $18.0 $12.3 $15.0

$28.0 $20.0

$36.1

$64.0 $60.0 $60.0

$78.3 $71.1

$51.6

$75.8 $80.0

$120.0

$96.2

$5.8

$89.0

$0.0

$20.0

$40.0

$60.0

$80.0

$100.0

$120.0

$140.0

Q1 10 Q2 10 Q3 10 Q4 10 Q1 11

Q2 11 Q3 11 Q4 11 Q1 12 Q2 12 Q3 12 Q4 12

Mill

ions

Series A (excludes Angel) Series B Series C and Later

$31.1

Median Pre-money Valuations

from 32% in 2011 to 41% in 2012. Thepercentage of deals with capped participatingpreferred stock declined to 14% in 2012 from16% in 2011, while the percentage with fullyparticipating preferred stock decreased from26% in 2011 to 19% in 2012. Again, thesetrends likely reflect the increasing valuationsin later-stage rounds in 2012 as comparedwith 2011 and, thus, the correspondinggreater negotiating power of companies andearlier investors.

Anti-dilution provisions. Broad-basedweighted-average anti-dilution protectionprovisions continued to be overwhelminglyprevalent, being used in 92% of 2012 deals,

nearly identical to the 91% figure for each of2011 and 2010. Broad-based weighted-average was used in 92% of 2012 up rounds,as compared with 91% of such rounds in2011, and in 85% of 2012 down rounds, upfrom 80% in 2011. The use of full-ratchet anti-dilution stayed level at 3% of financings in2012, the same as in 2011.

Pay-to-play provisions. The use of pay-to-playprovisions decreased from 12% of 2011 dealsto 8% in 2012. Pay-to-play usage decreasedboth in up rounds, from 5% of 2011 financingsto 4% of 2012 deals, and in down rounds,from 31% of 2011 financings to 26% of 2012 deals.

Redemption. The use of redemption provisionsdropped slightly, from 24% of deals in 2011 to23% in 2012. Investor-option redemption (usedin 22% of deals) continued to be far morepopular than mandatory redemption (1%).

To see how the terms tracked in the table onthe following page can be used in the contextof a financing, we encourage you to draft aterm sheet using our automated Term SheetGenerator. You’ll find a link in theEntrepreneurial Services section ofwsgr.com, along with information about thewide variety of services Wilson SonsiniGoodrich & Rosati offers to entrepreneurs andearly-stage companies.

3



$1.9 $1.9 $2.2 $2.0 $2.0 $2.0 $1.4

$2.0 $1.9 $2.1 $2.6

$3.8 $4.7

$5.2

$8.3

$4.5 $3.6

$4.3 $3.9 $3.3

$6.7

$3.2

$1.8

$7.1

$12.1

$7.3

$10.0

$8.8 $9.0 $8.8

$6.0

$10.0

$13.5

$11.8

$6.4

$0.0

$2.0

$4.0

$6.0

$8.0

$10.0

$12.0

$14.0

$16.0

Q1 10 Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11 Q1 12 Q2 12 Q4 12Q3 12

Mill

ions

Series A (excludes Angel) Series B Series C and Later

$7.0

Median Amount Raised

4


Private Company Financing Trends (WSGR Deals)1

1 We based this analysis on deals having an initial closing in the period to ensure that the data clearly reflects current trends. Please note that the numbers do not always add up to 100% due to rounding.2 Includes flat rounds and, unless otherwise indicated, Series A rounds. 3Note that the All Rounds metrics include flat rounds and, in certain cases, Series A financings as well. Consequently, metrics in the All Rounds column may be outside the ranges bounded by the Up Rounds and DownRounds columns, which will not include such transactions.

2010 All

Rounds2

2011 All

Rounds2

2012All

Rounds2

2010Up

Rounds3

2011Up

Rounds3

2012Up

Rounds3

2010DownRounds3

2011DownRounds3

2012DownRounds3

Liquidation Preferences - Series B and Later

Senior 50% 47% 37% 38% 34% 30% 63% 79% 56%

Pari Passu with Other Preferred 48% 51% 58% 59% 64% 67% 34% 18% 39%

Complex 2% 1% 2% 3% 1% 2% 3% 3% 0%

Not Applicable 0% 1% 3% 0% 1% 1% 0% 0% 5%

Participating vs. Non-participating

Participating - Cap 23% 16% 14% 26% 17% 13% 22% 22% 17%

Participating - No Cap 27% 26% 19% 21% 24% 20% 34% 46% 41%

Non-participating 49% 58% 67% 53% 59% 67% 45% 32% 41%

Anti-dilution Provisions

Weighted Average - Broad 91% 91% 92% 95% 91% 92% 89% 80% 85%

Weighted Average - Narrow 3% 4% 3% 4% 7% 3% 3% 6% 5%

Ratchet 3% 3% 3% 1% 2% 2% 2% 6% 8%

Other (Including Blend) 3% 3% 3% 1% 1% 3% 6% 9% 3%

Pay to Play - Series B and Later

Applicable to This Financing 9% 6% 5% 3% 1% 1% 17% 20% 23%

Applicable to FutureFinancings 4% 6% 3% 2% 4% 3% 3% 11% 3%

None 87% 88% 92% 95% 94% 96% 80% 69% 74%

Redemption

Investor Option 24% 22% 22% 23% 25% 23% 29% 32% 35%

Mandatory 1% 2% 1% 0% 2% 1% 3% 3% 3%

None 74% 77% 77% 77% 73% 76% 68% 65% 63%


5

Bridge Loans

In Q3 2012, we began to report aggregateterms for convertible bridge loans. Q4 2012saw some significant changes from Q1-Q3,with terms generally tightening for pre-Series A loans and loosening for post-Series A loans.

Interest Rates. Interest rates for pre-SeriesA loans converged towards the 8% mark.Pre-Series A loans with a rate of exactly8% increased from 31% of deals in Q1-Q32012 to 44% in Q4, while loans with ratesabove 8% fell from 6% of deals in Q1-Q32012 to zero in Q4, and loans with rates ofless than 8% also declined substantially,from 63% of deals in Q1-Q3 2012 to 56% in Q4.

Interest rates for post-Series A loansgenerally declined. Post-Series A loans withan interest rate of 8% fell from 49% ofdeals in Q1-Q3 2012 to 25% in Q4, whileloans with rates under 8% increased from36% of Q1-Q3 deals to 61% in Q4.

Maturities. Maturities for pre-Series Aloans shortened modestly. Pre-Series Aloans with terms longer than one yeardecreased from 65% of Q1-Q3 2012 dealsto 56% in Q4. By contrast, maturities forpost-Series A loans converged on a term ofexactly 12 months. Post-Series A loans withterms of exactly one year increased from34% of Q1-Q3 2012 deals to 41% in Q4,and loans with shorter maturities declinedfrom 39% of Q1-Q3 2012 deals to 33% in Q4.

Subordinated Debt. The use ofsubordination increased for all loans.Subordinated pre-Series A loans increasedfrom 6% of Q1-Q3 2012 deals to 31% in Q4;the corresponding increase for subordinatedpost-Series A loans was from 38% to 43%.

Warrants and Conversion. The proportionaluse of warrants declined from Q1-Q3 2012 toQ4 for both pre-Series A loans (8% to 6%) andpost-Series A loans (36% to 31%). In Q4 2012,100% of pre-Series A deals with warrants setthe coverage at 25%. The coverage amountwas generally lower for post-Series A dealswith warrants; the proportion of such deals

with coverage below 25% increased from39% in Q1-Q3 2012 to 63% in Q4 2012.

Conversion. The use of a price cap onconversion increased in Q4, with a price capspecified in 88% of the Q4 pre-Series A loans(up from 52% in the period Q1-Q3 2012) and29% of Q4 post-Series A loans (up from 18%).The proportion of loans featuring conversioninto equity at a discounted price alsoincreased. Discounts rose from 78% of pre-Series A loans in Q1-Q3 2012 to 88% in Q4;the corresponding increase for post-Series A

loans was from 45% to 54%. The conversiondiscounts for post-Series A loans generallyconverged to 20%, with 79% of Q4 loansfeaturing this discount, up markedly from 32%in Q1-Q3.

Multiples. Repayment of loans at a multiple inthe event of an acquisition became much morepopular for pre-Series A loans, increasing from6% of such deals in Q1-Q3 2012 to 47% in Q4.The corresponding increase for post-Series Aloans was more modest, from 20% to 25%.


Bridge Loans

Q1-Q32012Pre-

Series A

Q4 2012Pre-

Series A

Q1-Q32012Post-

Series A

Q4 2012Post-

Series A

Interest rate less than 8% 63% 56% 36% 61%

Interest rate at 8% 31% 44% 49% 25%

Interest rate greater than 8% 6% 0% 15% 14%

Maturity less than 12 months 6% 13% 39% 33%

Maturity at 12 months 29% 31% 34% 41%

Maturity more than 12 months 65% 56% 28% 26%

Debt is subordinated to other debt 6% 31% 38% 43%

Loan includes warrants1 8% 6% 36% 31%

Warrant coverage less than 25% 33% 0% 39% 63%

Warrant coverage at 25% 33% 100% 30% 38%

Warrant coverage greater than 25% 0% 0% 15% 0%

Warrant coverage described as variable or "other" 33% 0% 15% 0%

Principal is convertible into equity 98% 100% 97% 97%

Conversion rate subject to price cap 52% 88% 18% 29%

Conversion to equity at discounted price2 78% 88% 45% 54%

Discount on conversion less than 20% 16% 14% 14% 14%

Discount on conversion at 20% 53% 57% 32% 79%

Discount on conversion greater than 20% 32% 29% 55% 7%

Conversion to equity at same price as other investors 14% 6% 44% 36%

Repayment at multiple of loan on acquisition 6% 47% 20% 25%

1 Of the 2012 pre-Series A bridges that have warrants, 40% also have a discount on conversion into equity. For 2012 post-Series A bridges withwarrants, 17% also have a discount on conversion into equity.

2 Of the 2012 pre-Series A bridges that have a discount on conversion into equity, 4% also have warrants. For 2012 post-Series A bridges that have adiscount on conversion into equity, 13% also have warrants.

6

only $7 million. But in late 2011, pre-moneyvaluations started to increase dramatically,first to $10 million and then for a time to $14million. As noted in the Report, this resultseemed very surprising—during portions ofthe spring of 2012, 12 of the preceding 25first-round venture financings had pre-moneyvaluations at or exceeding twice the medianfor the period.

Since the last Entrepreneurs Report, we haveupdated the study to include deals from theremainder of 2012. The trend of high pre-money valuations of early 2012 has continued,if not strengthened. As shown in the chartabove, not only did the moving 25-deal medianpre-money valuations continue in a range of

$10 million to $14 million—again, significantlyhigher than at any other time in the last fiveyears—but it steadily increased within thatrange over the last half of the year and ended2012 at the $14 million mark. The median pre-money valuation for the period 2008 throughthe end of 2012 rose to $7.4 million.

In our earlier article, we speculated as tosome of the possible causes of the increase invaluations, including the “Instagram effect”pulling valuations higher; a founder-favorableclimate fostered by former successfulfounders now turned super angels; andpossibly an increase in the number ofbusinesses started by second-time founderspossessing the reputation to command higher


The Tug of War between Founders and Investors . . .Continued from page 1...


$0.0

$2.0

$4.0

$6.0

$8.0

$10.0

$12.0

$14.0

$16.0

$18.0

$20.0

1/1/08 7/1/08 1/1/09 7/1/09 1/1/10 7/1/10 1/1/11 7/1/11 1/1/12 7/1/12

Mill

ions

Amount Raised Moving Average Pre-money Moving Average Amount Raised Moving Median

Pre-money Moving Median Median Pre-money for Period Pre-money Valuation ($M)

Initial Equity Financings ($2M and up) Pre-money andAmounts Raised 25-Deal Moving Averages and Medians

Many new ventures areseeking their initial equityfinancing later than hadbeen the case previously,both in terms of time andin terms of technology,product development,and achieved milestonesfor value creation.

7

valuations, as well as the personal wealth tofund their own ventures and perhaps a lowerdesire to seek traditional venture funding thistime around. Each of the foregoing may havecontributed to the recent valuation increase,but we believe the largest factor is simplythat, as a result of incubators and acceleratorsand the proliferation of readily available toolsto start and operate new ventures,entrepreneurs are able to stretch theirresources for longer periods of time andconcentrate on things that build company

value. As a result, we believe that many newventures are seeking their initial equityfinancing later than had been the casepreviously, both in terms of time and in termsof technology, product development, andachieved milestones for value creation.

Since the last Entrepreneurs Report, we haveconsidered how to expand our study to provideadditional insights for entrepreneurs as theyfound new ventures. One area we will bepursuing is examining the impact the recent

higher valuations may have on thesecompanies when they seek to raise a secondround of venture capital. On the one hand, thehigh early valuations may lead to a greaternumber of down Series B or later rounds. Onthe other hand, founders may feel that theearly higher valuations have given them moreavailable equity in their ventures with whichto raise later-round capital. But any results ofthis examination will have to wait the 12 to 18months that it normally takes for a company towork through its first-round investment.


20%

25%

30%

35%

40%

45%

50%

55%

60%

1/1/08 7/1/08 1/1/09 7/1/09 1/1/10 7/1/10 1/1/11 7/1/11 1/1/12 7/1/12 1/1/13

Pece

ntag

e O

wen

ersh

ip

25-Deal Moving Median Imputed Founder Share Median Imputed Founder Share for Entire Period

25-Deal Moving Median Imputed Investor Share Median Imputed Investor Share for Entire Period

Median Imputed Founder and Investor Shares of Fully Diluted Capitalization


8

In the meantime, we are presenting in thisissue another way of looking at the results ofthe study. The chart below shows theimplications of pre-money valuations—andespecially the recent higher valuations—onthe relative ownership in a new venturebetween founders and investors. After all, thedollars of pre-money valuations are somewhatarbitrary and merely a means to allocateproportional ownership and control betweenfounders and investors after the firstfinancing. Using the pre-money valuation andthe amount invested, we calculated impliedfounders’ and investors’ percentage ownershipof the fully diluted capitalization of the newlyfunded company.3 We then plotted thesepercentages against each other on the chart(they are actually mirror images).

Many founders assume that the split inownership between investors and founders in

the first financing is about even. Since theoption reserve almost always comes out of thefounders’ share, this would result in anapproximate split of 50%/30%/20% amonginvestors, founders, and employee stockoption plans. The study, however, shows thatfounders actually have done considerablybetter than this at almost all times during thepast five years. Except for a relatively shortperiod during mid-2009, founders’ andinvestors’ percentages have varied inopposition in a narrow band between45%/35% in favor of investors and 45%/35%in favor of founders through the end of 2011(again, with a constant 20% for the optionreserve). Early 2008 started as an investor-favorable period, but had changed to founder-favorable by year end. The trend quickly andsteeply reversed in early 2009, with themedian founders’ percentage falling fromaround 45% first to just above 35% and thendown to 30%, most likely reflecting thedifficult business climate caused by thefinancial crisis. The median founders’percentage did bounce back to nearly 40% fora while near the end of 2009, but it was 18months before it exceeded the medianinvestors’ percentage, indicating the length ofthe crisis and the slow recovery that followed.

The fall of 2010 through the end of 2011, onthe other hand, was a founder-favorable time,with the median founder/investor splitgenerally at, or just under, 45%/35% in favorof founders. Nonetheless, the fluctuations inthe median split during the pre-2012 part ofthe period tended to balance themselves out.In fact, the median split for the period fromthe beginning of 2008 through the end of 2011was exactly 40%/40%.

The situation changed dramatically in 2012.The significant increase in pre-money

valuations discussed above, coupled with therelatively constant amounts invested, resultedin a strong increase in the percentage thatfounders were able to retain in the companiesthrough their first equity investment. Not onlywas the median founder/investor split foralmost the entire year above 45%/35%, but itwas at or above 50%/30% for much of theyear and as high as 55%/25% for a couple ofmonths in the fall. The increase was so strongthat it pulled the median founder/investor splitfor the entire five-year period up from40%/40% to 43%/37%.

How long these atypically high founders’ownership percentages will continue isunclear. It seems remarkable that founders areable to negotiate 55%/25%/20% ownershipsplits among founders, investors, and optionreserves, but the fact that the figuresdiscussed here are medians over 25 dealsmeans that in 12 of those 25 deals duringperiods in the fall of 2012, founders were ableto retain more than 55% of their companiesthrough their first financing. Truly, a veryfounder-favorable time.


The Tug of War between Founders and Investors . . .Continued from page 7...

In 2012, the increasewas so strong that itpulled the medianfounder/investor splitfor the entire five-yearperiod up from40%/40% to 43%/37%.

Many founders assumethat the split in ownershipbetween investors andfounders in the firstfinancing is about even.The study, however,shows that foundersactually have doneconsiderably better thanthis at almost all timesduring the past five years.

3 We also have allocated a percentage of the new company to an employee option plan, which we have assumed conservatively for the purposes of this study to be 20% of the fully diluted capitalization. As discussedelsewhere in this Report, option plan reserves following a Series A financing are generally in the range of 10% to 20%. In addition, we have assumed that the dilution resulting from the option plan reserve always comesout of the founders’ share.

9

By Jim Brenner, Associate (Palo Alto)

The use of options and other stock awards toattract key employees is a standard andimportant feature of entrepreneurialcompanies. In almost all cases, new investorsrequire a company to increase the size of itsoption pool as part of the pre-money valuationprior to the financing, protecting the newinvestors from being diluted when thecompany subsequently issues equitycompensation to new hires and existingemployees. In effect, then, existingstockholders must suffer all of the dilutioncaused by the increase to the option pool priorto the closing of the new investment. As aresult, a larger increase in the option pooleffectively reduces the pre-money valuation ofthe company, so the negotiation of the optionpool is an extension of the overall valuationnegotiation. This situation can lead to acommon question among founders as theynegotiate for new investments: “How muchstock should I set aside for my option pool?”

The last time The Entrepreneurs Reportconducted a survey of start-up company optionpools to help answer this question was duringthe summer of 2008, a few months prior to theglobal economic downturn.1 The 2008 surveyanalyzed 95 companies immediately followingtheir Series A financings, almost all of whichwere led by institutional venture capitalinvestors (as distinguished from angelinvestors or strategic corporate investors). Theresults of the 2008 survey showed that a clearmajority of these start-up companiesestablished option pools in the range of 11%to 20% of the fully diluted capitalization of thecompanies.

Given that the economy has changedsignificantly since the 2008 survey, wedecided to update the data to answer somekey questions:

• Since 2008, have the average or mediansizes of option pools immediatelyfollowing Series A rounds changed? If so,what are the possible reasons for thechanges?

• What are the average and median sizesof option pools after Series B, Series C,and Series D rounds?

• What are the average and median sizesof the remaining pools of ungrantedoptions available after each of theserounds?

To answer these questions, we reviewed 155financings from January 2011 throughDecember 2012, allocated across rounds asshown in the following chart:

We looked at the aggregate amount of thegranted and ungranted options in the totaloption pool immediately after the closing ofthese financings. We then calculated thesenumbers as a percentage of the fully dilutedcapital of the company.

Series A Financings

The average size of the post-Series A totaloption pools that we examined was 15.9% offully diluted capital and the median size was

14.5%. There was substantial deviation fromthe mean. The distribution of the total optionpools after these financings is shown in thegraph on page 10.

As indicated, more than 58% of Series A total option pools constitute between 10%and 20% of fully diluted capital. This result isbroadly consistent with the findings of the2008 study, which found approximately 54%of Series A financings closed with a totaloption pool that ranged between 11% and 20%.

It is also useful to note that immediatelyfollowing the Series A financing, an averageof approximately 24% of the stock options inthe plan already had been granted. Since theglobal recession, investors expect start-ups toaccomplish much more before their Series Afinancings. Many companies must bootstrapthemselves for a year or more before theirSeries A financings, frequently raising moneythrough convertible debt or seed financings.During this pre-Series A phase, companiesoften hire employees and grant them stockoptions, thus reducing the number of


Option Pools: What’s Market in the “New Normal”

1 See “Starting Up: Sizing the Stock Option Pool,” THE ENTREPRENEURS REPORT: Private Company Financing Trends, Summer 2008.

Round of Financing Number

Series A 36

Series B 34

Series C 33

Series D 23

Other* 29

“Other” includes Series E rounds and higher, formation, and seed-round financing.

Since the globalrecession, investorsexpect start-ups toaccomplish much morebefore their Series Afinancings. Manycompanies mustbootstrap themselves fora year or more.


10

ungranted options at the time of the Series Afinancing. As a result, some stock options thattraditionally may have been granted after aSeries A financing are being grantedbeforehand.

Size of the Total Option Pool

The total option pool represents the proportionof the company that the founders and theother investors are willing to share with thecompany’s employees and other serviceproviders. The average size of a total optionpool appears to remain fairly constant across

companies as they mature. In our survey, boththe average and median of the total optionpools stayed within a couple of percentagepoints of each other for rounds A through D.Thus, as additional financings increase acompany’s capitalization, additional shares areallocated to the total option pool (see chart at right).

Although there are significant deviations fromthese averages and medians, as illustrated bythe graph of the Series A total option poolsabove, the standard deviation does decline ascompanies mature, from 8.46% of the average


*Includes “Other” category

Round

Average %of Total

Option Pool

Median %of Total

Option Pool

A 15.91% 14.55%

B 13.67% 13.46%

C 14.43% 14.74%

D 14.55% 13.05%

Aggregate * 14.90% 14.50%

2.8%

<5%

25%

20%

15%

10%

5%

0%

8.3%

5% –7.5%

8.3%

7.5% –10%

19.4%

10% –12.5%

16.7%

12.5% –15%

19.4%

15% – 17.5%

2.8%

17.5% – 20%

5.6%

20% – 22.5%

2.8%

22.5% – 25%

13.9%

>25%

Perc

enta

ge o

f Sam

ple

Percentage of Fully Diluted Capital

Series A - Size of Total Option Pool

Option Pools: What’s Market in the “New Normal” . . .Continued from page 9...


11

size of the pool for companies following aSeries A financing to 5.79% following a SeriesD transaction.

Focus on Ungranted Options

We also looked at the percentage ofungranted options still available followingeach round. During negotiations betweenfounders (and existing investors) and newinvestors, this number is more important thanthe size of the total option pool.

Two of the more important questions for themanagement team to ask themselves whennegotiating the size of any option poolincrease are: “Who will be expecting stockoptions?” and “How many options will I needto grant them?” The amount of ungrantedoptions typically reflects the equitycompensation that is expected to be requiredfor employee growth and continued incentivesbetween the time of the financing and thenext round (12 to 18 months on average).

Thus, to an investor trying to avoid dilutionthrough an option pool, determining thenumber of shares needed to meet theseexpectations will be more important than theoverall size of the option pool.

Our data shows that as companies progressthrough rounds of financing, there is a cleardecrease in the number of ungranted shares inan option pool (an average of 12.06%following Series A rounds to 4.78% followingSeries D rounds).2 These results align with theconventional wisdom that, as time passes, thenumber of ungranted options in a company’s

total option pool (as a percentage of fullydiluted capitalization) will decrease, forseveral reasons:

• First, as the company grows, its key teamwill be filled out, such that any remainingshares in the total option pool will be fornew hires or option refreshes, which tendto be significantly smaller than theamounts needed for the initial grants tothe key team.

• Second, even if an option pool isrefreshed, additional financings willfurther dilute the option pool if thenumber of shares of preferred stock soldto new investors is greater in proportionto the number of additional sharesreserved under the option pool.

• Third, as the valuation of the companyincreases, the percentage of the companyissued to each individual new employeetypically decreases, as the perceived risk

involved in joining the companydecreases and the perceived value of theequity increases.

While the overriding factor ultimately shouldbe a company’s hiring and compensationexpectations, this data set should offer ahelpful guide in determining whether a currenttotal option pool (or proposed increase) ismarket when negotiating a financing termsheet. Typically, the most effective way formanagement to negotiate the size of an optionpool with potential investors is to build abottom-up analysis showing expected hiringand equity allocations. Wilson SonsiniGoodrich & Rosati will continue to monitorand report on these trends.


2 The standard deviation from the average percent of ungranted options also declines as companies mature, from 9.42% for Series A rounds to 4.01% for Series D rounds.

Round

Average %of OptionsAvailablefor Grant

Median %of OptionsAvailablefor Grant

A 12.06% 10.56%

B 8.71% 8.85%

C 6.07% 5.58%

D 4.78% 4.30%

Aggregate * 8.51% 7.39%

*Includes “Other” category

Two of the moreimportant questions forthe management team toask themselves whennegotiating the size ofany option pool increaseare: “Who will beexpecting stockoptions?” and “Howmany options will I needto grant them?”


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Dow Jones VentureSource Ranks WSGR No. 1 in Issuer-Side Venture Financing in 2012

Dow Jones VentureSource’s legal rankings for issuer-side venture financing deals in 2012placed Wilson Sonsini Goodrich & Rosati ahead of all other firms by the total number ofrounds of equity financing raised on behalf of clients. The firm is credited as legal advisor in332 rounds of financing, while its nearest competitor advised on 243 rounds of equityfinancing.

According to VentureSource, WSGR ranked first nationally in 2012 issuer-side deals in thefollowing industries: information technology, healthcare, clean technology, communicationsand networking, consumer goods, electronics & computer hardware, energy and utilities,industrial goods and materials, medical devices & equipment, semiconductors, and software.

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From the WSGR Database: Financing Trends for …...venture funding environment continues to be strong for entrepreneurs and early-stage companies. Up and Down Rounds Up rounds represented