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Common mistakes made by first-time founders

Some common mistakes made by first-time founders include:

  1. Lack of focus: Successful companies often focus on one product or service for a specific group of customers, solving a significant problem for them .
  2. Waiting too long to set up a company: Delaying the process of incorporating a company can lead to tax and valuation issues .
  3. Ignoring legal and governance matters: Founders should not neglect legal considerations and proper governance, as it can have long-term implications for the company .
  4. Starting as an LLC instead of a corporation: While starting as an LLC is not inherently wrong, it may lead to complications if seeking venture capital funding .
  5. Failing to properly document co-founder relationships: Disputes between co-founders can be challenging to resolve, so it is crucial to have clear agreements and understand each co-founder's entitlements .
  6. Improperly handling equity distribution: Mishandling equity distribution can cause confusion, especially when dealing with multiple rounds of funding and different types of investors .
  7. Exaggerating or lying to investors: Being dishonest during discussions with investors is a big mistake and can harm a founder's reputation .
  8. Not preparing for due diligence and legal compliance: Founders should ensure that contracts, agreements, and intellectual property rights have been properly transferred to the company .
  9. Not having a plan for sufficient runway: Startups should aim to have 18 to 24 months of runway to avoid running out of funds prematurely .
  10. Trying to build a company solely to sell: A focus on building a sustainable enterprise is important, rather than solely aiming to sell the company .

These are just a few examples of mistakes that first-time founders should be aware of and avoid. It's important for founders to seek guidance from experienced professionals and constantly educate themselves on the best practices within the startup ecosystem.

Jason Calacanis: I really appreciate it. Okay, let's get back to this amazing episode. here's a great question from jake he says what are some easily avoidable mistakes that first-time founders often make i mean how much time do you have jake i'm going to just rattle off a couple number one a lack of focus. The companies that succeed focus in on one product, one service for one group of customers that solves a very acute problem for them, a significant problem, a problem that they don't have a solution for, or that you can build a solution that's 10 times better than a previous solution. Let's take an example. Uber, when it started, had one service, Uber Black. It was the nice Lincoln Town Cars. It was meant for executives going to and fro airports or from meetings who could afford a $100, $50 to $100 ride, black Lincoln Town Car type service. They did not launch with UberX, UberPool, UberEats, UberFreight, UberWork, or UberVTOL, flying cars. They started with one thing. Now, why did they pick that thing? Well, because it was massively profitable. The most profitable segment of all of Uber services is the Uber Black service because it's the most expensive and it's targeted towards?
Jason Calacanis: I actually never knew that I always wondered, like, how does signing authority work? And is it nebulous? And, you know, what stops somebody who works at a company from signing 20 agreements to acquire 20 different products or services and then send them to their apartment? And the answer is nothing but people generally who are in these positions have been vetted. They signed agreements and people generally like to follow the law and not steal.
(someone): Well, and in that example, the company would have a very nice claim against that that employee for all sorts of wrongdoing.
Jason Calacanis: to jail. As we've seen, sometimes a presidential pardon will come for people who steal, but I wouldn't rely on it. We'll leave out the names to keep the guilty or pardoned anonymous here. All right. Wait until funding to set up a company. Yes, tax and valuation issues ensue. This one is always, always, always a major issue because founders want to save money, and incorporating is, I don't know, it's not expensive, but it's not cheap. If you're a first time founder, you know, and we'll get into that in a minute. But let's talk about this mistake and why it's such a big mistake.
(someone): Yeah, I mean, I hear this one all the time, too.
Jason Calacanis: like we need to have proper governance. And I sold my LPs in my fund that I one of our strengths is that we have a seat at the table. And when these companies decide to raise more money, we might be able to put more money in, as opposed to when I did the Uber or Robin Hood or calm deals, I don't have a board seat. might have some information rights, but I don't have a seat at the table with those companies, nor should I maybe in comms case, I was at 6%. It's kind of on the bubble. But in those other cases, had basis points, I don't have a seat at the table, like I get whatever information I can glean from the founders, just as as much as they trust me to have that information, right. So I when I went to raise my funds, I said, Listen, we are not just angel investors blindly investing in companies and hoping for the best. we have a system here we're trying to get to 15% ownership here's how we're going to do it and so now i just go back to my founders and tell them that but i i'm constantly having to remind them because founders have a zone of excellence and they don't consider legal their zone of excellence so they ignore it yes they kind of like put it out there and it's like come on man that's like ignoring eating your vegetables just eat the damn vegetables i know like you may not like carrots or green beans but And I'm not calling your whole professional vegetables.
(someone): Let me just be clear. I see where we stand.
(someone): But as as the board, I mean, ultimately, it's the board that makes the decision to both go forward with the financing and to go forward with the re up. The board should be exercising fiduciary duties with respect to each of those transactions and understanding what is the landscape, what if we walk away from this deal, how bad is it, etc. I mean, the times when I think that founder re-ups make sense is where you have maybe a couple of founders who have been involved, so they didn't have as big of a percentage to start with. We've gone through multiple rounds of funding. They're still showing up kicking butt every day. But they're fully vested, and their percentages now creep down to less than 10%.
Jason Calacanis: And they're at 7% at a year five, they're not getting any more equity. And they're in low single digits. We're in there in single digits. Why not? I did this, I think twice in my career, where I just said, I came up with my own standard. Because I said, Listen, I think that this is a reasonable request, five years, five points. Now I can go to all the investors they ever say I say I took this founder and got them to commit for five years. Okay, yeah, sure. That's $5 million is $100 million company, but they have to stay five times 12 is 60. They got to stay for 60 months.
(someone): No. So, so yeah, so starting as an LLC. There's nothing terribly wrong about that, other than if you're going to look for institutional money, VC money, you're going to have to switch over to a corporation. And the cost of doing that grows, the more that you do in the LLC. If you create the LLC, and literally, all you've done is created the LLC, and you haven't done anything else, you haven't brought in any investments, you don't have any other people that you've given equity in that LLC, it's probably not going to be that big of a deal to flip it. But most LLCs that we end up having to do the conversion into a Corp 4 is messy. There's tax issues that go along with that. You're talking about two different types of animals like you're talking about an LLC that is a pass through tax treatment. We've talked about this on another one of our so go look at that.
(someone): Go look at that one.
(someone): When you flip that into a corporation that does get taxed at the corporate level, there's issues. What types of deductions have those individuals taken? So you as a founder in the LLC can get hit with a tax issue when you flip to the corp. You also have to just go through the process. LLCs typically don't have stock options. So a lot of times people are like, Oh yeah, I gave my consultant a stock option in the LLC. Oh, might not. Because they don't really work.
(someone): And the lawyer says, okay, great. We got to issue you some stock. Oh, by the way, the valuation of your company now has to take into account the fact that you have a term sheet sitting on your desk saying that the value of the company is worth $8 million. Granted, you don't have to issue your stock at $8 million because that's for preferred stock. But you absolutely do have to go and get what we call a 409A valuation report from a third party to say, what is the value of the common stock? Assuming that this financing goes through, it's no longer. 1000th of a penny per share, I can promise you that I don't know what the value is, but it's a whole lot further north of that. And that's, from a founder perspective, one of the biggest reasons why you should be motivated not to wait, like, you're gonna pay a lot for your stock for no reason.
Jason Calacanis: Let me ask you a question that you might be a little biased in. I meet a lot of founders who say I went on this website, and they had incorporation documents, or there was a service I paid 500 bucks for, and they just incorporated me. you must take on clients who have done this before. Do those are those services actually okay to use? Or do they lead to downstream problems?
(someone): Yes and no. So, if you go through one of those services, and I think we've seen them all, if you go through one of those services, some are better than others, right? There are.
(someone): Absolutely. It got funky. So, I get this question a lot from founders of like, okay, you know, we want the super voting shares, we want dual class common, we want founders preferred. At the end of the day, the advice is the same across all of those and that is, And you're right, they will refer to the Googles, the Facebooks of the world of like, well, look, Mark, he still owns, you know, control of the company because of the super voting shares. And I say to them, quite simply, like, if you are Google or Facebook, you can pick these terms. If you are not, these terms aren't going to fly. It's going to cost you more money to put these structures in place at the beginning. They're not, you know, just pull off the shelf standard terms, they require a lot more maneuvering on the formation side of things. You're definitely not going to be able to do this in a legal Zoom clerky online. You're going to have to go to a real lawyer who puts this together and that's going to cost you more money to put these in. There's tax issues usually with these unless you do them at the very beginning and you do them right. And then come your first round of sophisticated investor shows up at the door and says, Okay, you got to get rid of all this. Yeah, rip it all out. So then you're going to pay the legal fees to literally go through and take it all out. So it's just it's a lot of time and energy and money.
Jason Calacanis: It's a very small mix of the investment in companies. So Again, if you're going to do this, you really want to be doing it in a growing market. And you're going to want to have to go fast. And you're going to want to have other people involved. If you don't want other people involved, if you don't want to be collaborative with investors and hear their opinion, if you are not swinging for the fences and trying to grow really fast, don't take venture capital, don't even consider it. you can just have a bootstrap company get to profitability and just sweep the cash off every year, make it an LLC instead of a corporation with shares, and just focus on distributions year after year. So building to sell is really a dangerous idea. You don't want to do that you're building to build a large sustainable enterprise. And the second option is you sold to somebody now bootstrapping versus funded companies. I hope that this candid candid advice is helpful for you as you start your journey. Remember, you got to have great skills, you got to be able to build these products yourself, you've got to be able to build a team and you got to be able to have great customers, product team customers, product team customers. Those are the three pillars of building great companies. The market is out there for so many products, you know, and all you need to do is build a great team.
(someone): Yeah, it sinks. It really does. Right? Because, because what you're Wow, with the exception of you settle it with that former co-founder, and you have a nice settlement agreement that is wrapped up with a pretty bow to where investors know that there's a full release, they've signed, they agree that this is what they're entitled to, and that's it, and you're done. That would be the instance where you can get past it. But to get to that settlement agreement can be difficult. And what I found a lot of times in these startups is, it's a lot of emotion that goes into it, much like marriage or a personal relationship, right? As I was the co-founder, I sunk my heart and soul into this, I'm entitled to- My ideas, my ideas in that product. Exactly. And it's hard to get away from, like, just thinking reasonably and rationally as to, what somebody might be entitled to.
Jason Calacanis: And other industries, you know, they for something like movies, they have the Writers Guild. And when there's a dispute between people or the Producers Guild, I believe they can go to this like third party and say, Hey, I wrote 18 pages, this person wrote 90, here's the first script, here's the second script, here's the deltas of that change. And they, they kind of negotiated for you, there's like almost like a negotiation happens, okay, you'll be a co writer, or you can take your name off the script. But
(someone): Oh, might not. Because they don't really work.
Jason Calacanis: I gave them a promise and a handshake of something that cannot exist in an LLC because those are units. Exactly. Exactly. You can't give partnership units, but they can be revoked. I mean, it's just it's a whole different entity.
(someone): It's a whole different ballgame. And it will cost more money to get it over to a court. But it's not just legal. It's tax. And this is another thing. When founders come to us about this, the first thing I ask is like, okay, we're going to need to talk with your... You should get your company accountant involved. Oh, we don't have one. Okay, you're gonna have to get one. And you're gonna have to get one now that understands all the issues that come up a flipping an LLC to a corp. So you may have delayed on a on a legal aspect, but you're going to make up for it both in legal tax and accounting.
Jason Calacanis: All right, we're going to do a part two, you can go to this week and startup slash basics. And you'll see part two of common first time founder mistakes with Becky from Wilson's and Sini stay tuned to
(someone): So this 30 days is a serious 30 days. No, no exceptions to it. But if you make the filing within that 30-day period, what the filing says is you're basically telling the IRS, hey, I understand that I may not vest in all of these shares, but I want you to tax me today as though I am vested in all of the shares, and I want to pay tax today on all of it. The beauty of that is when you buy your shares on day one, you are paying the fair market value for those shares. So the delta between what you pay and the fair market value should be zero, which means tax me on zero. Perfect. Great. That's exactly what you want to get taxed on. Sounds fair to me. So that's what the 83 be election does is allows you to get all of that done up front, ensure that you don't have ongoing taxation at different valuations over the course of the period of time that you're investing. And if you perfect do it, right, you have zero tax.
Jason Calacanis: Perfect. So this is absolutely critical for you to get right. And it's really easy to do this. As a matter of fact, it's no work for the founder. This is your attorney's job, correct? No,
(someone): No. Okay, whose job is it? It's the founder's job. It's the founder's job. Okay, but we tee it up.
Jason Calacanis: contracts, venture hacks, and it was an email newsletter, there was no angel list, there were no syndicates, it was just people shooting emails around, which actually you did as well. So take your time, making those first couple of bets, there's no rush, and don't feel pressure. Be disciplined. The other thing I'll say is, you know, maybe the first 10 bets you make could be in product and companies with products in market and some traction, so that you're not making these bets before the products even launched. You can actually use the product. Okay, we got a live question from Gatsby. No indication if he's great or not. The question is, what are typical mistakes you see founders make in their first meeting with you they should avoid? Okay, this is a great question. What are silly, stupid things that founders do? Or you've seen that are just a mistake when you're meeting with investors?
(someone): I mean, the number one is lying. A lot of these founders are just they really want to get the deal done. And they feel pressure to basically put their best foot forward. And it's pretty easy to sort of stretch from exaggerating to lying. And when you're on the other side of the table, and you just watch these folks all day long come to the door, you get a really good pattern recognition of when they're lying.
Jason Calacanis: Don't do things on the slide. And don't let these things stack up because founders are very difficult to calculate, you know, the attorneys and different cap table software out there, they can get it wrong, people can be confused and founders all of a sudden look at seven or eight safes or six or seven convertible notes, and they don't know what they own. It's basically what happens priced round. the gold standard super easy price. The shares the shares in the company, you sell a certain amount. And it's a little more expensive documents can cost 20k some top tier firms 4050 k depending on how complex it gets. And that's basically the cost of doing business in Silicon Valley. Sometimes venture firms will ask you to pay their legal bills, I highly recommend you tell them no. And they will typically acquiesce, especially in a market like this that's very founder friendly. Or if they ask for 50, you can say, how about 10? And then maybe you wind up at 20. Again, sometimes venture firms will ask the companies to pay their legal bills for the deal where they're putting money in. And so good idea to, you know, always ask for that discount. Okay, item 77, you want to have a plan that gets you to 18 to 24 months of runway. Why?
Jason Calacanis: And they, they kind of negotiated for you, there's like almost like a negotiation happens, okay, you'll be a co writer, or you can take your name off the script. But But there's a process there here in startups, we don't really have like some startup board, or founder, you know, guild where we say, Oh, go to the founder guild, and they'll come up, they'll help you mediate this. And in the cases where it does get settled, and there's a lot on the line, sometimes the new investors become the reason for this to settle, right? Like, hey, they're going to invest, if we can settle this, here's what, you know, we can do, or if not, this company is going to get sold, and it's gonna get shut down.
(someone): Yeah, I mean, that's all that's a hard, hard place to is like, if you're, if you're the founder that's at the company, and you're going to, you know, a former co founder, it's hard to say, Hey, I really need to settle this because we have an investor on the line. In some regards, that works, because this co founder presumably is walking away with some equity. And it's like, hey, do you want your equity to be worth anything or nothing? And if you want it to be worth something, we need to come to the table and settle. But you're also revealing a card in your hand that Yep. you need them. And they recognize the leverage. Yeah.
(someone): And they recognize the leverage. Yeah.
Jason Calacanis: I tell my founders, because we do a cap table review before people join our accelerator. Now that seems over the top. But this comes from a lot of scar tissue where we will see somebody gave half the company to a dev shop or a third of the company to their uncle or whatever. And we say, Hey, we're giving you $100,000 to come to the accelerator, we're fine with you using up to half of that to settle this. If you want to use 10k or 50k or anything in between, feel free, but coming to the accelerator is contingent on the cap table being cleaned. And this class is starting on, you know, April 1, and this one starting on May 15, pick which one you want to go to go talk to your co founders or whatever, and settle it. And if you don't, you don't. And I just use that as like, I just don't want to be associated with a company, or put even just 100k, which is a tiny amount of capital for you know, us and our $44 million fund. I don't want to waste all of my team's time and the founders time putting the 100k in to only have one of my seed investor friends give a term sheet and then they discover the problem and they pull the term sheet. And now we just spent 16 weeks helping introduce the founder to a thousand people all for naught because of these issues.
(someone): Just do it right tight is right. Absolutely.
Jason Calacanis: If you're really detail oriented, you might get it right, you may or may not. And then hiring an attorney does cost and doing all the setup a couple of $1,000 I would say typically in my experience. So yeah, you can save some money on the margins. But I always tell everybody just do it right. This is not the place to try to save money.
(someone): Yeah. Yeah. So that's one of the one reasons, right? For founders, you personally, this is going to affect your pocketbook. This is going to affect how much you pay for your stock. So get it done early. The other thing would be any type of contracts. What have you done up until this point? You didn't have a company. So if you hired a website developer, you hired somebody to do... Write some code for you. that contract must have been between you personally, and that developer, you now got to get that contract and all the rights under that contract into the company.
Jason Calacanis: The old assignment now comes to cleanup work.
(someone): Exactly. So you know, maybe maybe the third party is amenable to signing a quick, easy and assignment. No big deal. You still have to go through the process of getting that assignment. Or they could be like, well, no, you pay more.
Jason Calacanis: Exactly. That's the extraction starts.
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