How to Issue Weak Preferred Stock to Friends & Family

Imagine that you are just getting settled at your startup and decide a little extra capital could help your startup set the world on fire. So you approach your friends and family about investing in your startup company. Everyone turns you down, except for your Uncle Steve who can’t wait to invest in the next Facebook.

But little did you know that Uncle Steve subscribes via RSS to VentureBlog and follows Brad Feld’s tweets. Thus, Uncle Steve doesn’t want mere common stock but rather desires to be issued preferred stock. You were prepared to issue preferred stock to venture capitalists, but what do you do with Uncle Steve?

Issue Uncle Steve a diluted ‘Series A’ preferred shares. While you can oblige Uncle Steve’s risk tolerance through various economic, control, liquidity, and management terms with the preferred stock, the most important thing to do is maintain the ability to raise future venture funds. Limit shareholder rights (tag-along), keep a basic liquidation preference, think about a drag-along provision, etc. It’s OK to let Uncle Steve get some preferred provisions, but it can’t become an obstacle to future financings.

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Seed Rounds

8 thoughts on “How to Issue Weak Preferred Stock to Friends & Family

  1. […] startup undergoes an larger financing, such as one with a venture capital fund. Angel investors and the friends & family round may sometimes receive preferred stock. Keep in mind there is no bright-line rule when it comes to […]

  2. Ryan, your website is simply amazing. Can I ask you, is doing this type of preferred stock financing very expensive with the lawyers? A lawyer I know told me it might cost $15,000 – $20,000 to do a simple preferred financing round of around $200,000. This is because there is a lot of paperwork involved. Is that a fair price?

  3. Ryan, your website is simply amazing. Can I ask you, is doing this type of preferred stock financing very expensive with the lawyers? A lawyer I know told me it might cost $15,000 – $20,000 to do a simple preferred financing round of around $200,000. This is because there is a lot of paperwork involved. Is that a fair price?

  4. John,

    Not implying you are doing this, but I cringe when people evaluate legal costs on a "per page basis." Yes, there is a lot of paperwork involved in a financing but there also is a lot of deal structuring, corporate cleanup, and securities law compliance issues. Also, cost will depend on the amount of negotiations between company and investor(s). Other factors include if you are using a large firm or a small firm.

    I can't say if that's a fair price or not, but perhaps the lawyer is just trying to manage your expectations.

  5. John,

    Not implying you are doing this, but I cringe when people evaluate legal costs on a "per page basis." Yes, there is a lot of paperwork involved in a financing but there also is a lot of deal structuring, corporate cleanup, and securities law compliance issues. Also, cost will depend on the amount of negotiations between company and investor(s). Other factors include if you are using a large firm or a small firm.

    I can't say if that's a fair price or not, but perhaps the lawyer is just trying to manage your expectations.

  6. I was issued "Preferred Stock" in a corporation and the company now wants to do a distribution, and they are sayng that the distribution may be in the form of a "Preferred Stock" re-purchase.
    Do I have to allow that t happen, I prefer to keep my "Preferred Stock"

  7. I was issued "Preferred Stock" in a corporation and the company now wants to do a distribution, and they are sayng that the distribution may be in the form of a "Preferred Stock" re-purchase.
    Do I have to allow that t happen, I prefer to keep my "Preferred Stock"

  8. Great feedback, Ryan. In exploring a seed round, I’m very interested in learning how best to maintain the ability to raise future venture funds while still managing to raise enough today to get to there. Thanks for the advice!

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