Founders Beware the Option Pool Shuffle in VC Negotiations

Founders - don't get caught off guard by the "option pool shuffle" during your next VC fundraise.

Here's the situation:

You've agreed with your potential lead investor on a valuation and round size, well done. But now the question of the option pool arises. You need to increase it (part of the reason you're raising at all is to hire great people, after all) but who will be diluted by that pool expansion?

In most (almost all) cases, the 𝗻𝗲𝘄 𝗶𝗻𝘃𝗲𝘀𝘁𝗼𝗿 𝘄𝗶𝗹𝗹 𝗿𝗲𝗾𝘂𝗶𝗿𝗲 𝘁𝗵𝗮𝘁 𝗽𝗼𝗼𝗹 𝗲𝘅𝗽𝗮𝗻𝘀𝗶𝗼𝗻 𝗱𝗶𝗹𝘂𝘁𝗲𝘀 𝗼𝗻𝗹𝘆 𝘁𝗵𝗲 𝗲𝘅𝗶𝘀𝘁𝗶𝗻𝗴 𝗰𝗮𝗽 𝘁𝗮𝗯𝗹𝗲, 𝗻𝗼𝘁 𝘁𝗵𝗲𝗺𝘀𝗲𝗹𝘃𝗲𝘀.

Not super fun! But it is pretty standard. Bonus dilution incoming for the founder if the original fundraise was on SAFEs, btw (since those investors will convert in this round and suffer no additional dilution).

Which means getting your option pool size right is crucial and our data in the graphic below can help.

Using 15,000+ startups that raised rounds over the past 5 years, the median seed-stage employee pool sits at 11.8% after the round is completed.

Now, this option pool shuffle is only one term in a term sheet. The amount raised, the valuation, and the option pool are all part of the same multivariate equation. There can be trade-offs within the deal that move the pool one way or another.

Especially with seed-stage startups growing headcount at a much slower pace than in prior years, the option pool should reflect the hiring needs of the next 2 years with a little wiggle room.

You can replenish the pool at the next fundraise as needed - in fact most companies only utilize 60%-70% of the pool before the next fundraise.

Just to state the obvious - I still advocate for employees to be given generous equity grants, they're the bedrock of company success. But founders should be aware of how option pools can act as a hidden investor benefit during a round negotiation.

The more you know!

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#startups #founders #employeepool #esop #dilution

{This is a scheduled post - currently in Japan on vacation, pls forgive my lack of response to comments below. Will read them in full later on!}