Once associated with mythical creatures, the term Unicorn is now being used for immensely successful companies. These are essentially tech companies that have achieved over billion-dollar valuation. As more and more startups are achieving the coveted unicorn status each year, one might wonder how long does it take for a company to reach the coveted unicorn status?
Recent research has revealed that it usually takes around seven years for most startups to pass the billion-dollar valuation, or in other words, to enter the unicorn club. However, with the advancement in technologies, this time has been decreasing rapidly.
Technology is at the core of today’s startups. It plays a crucial role in speeding up things especially when it comes to scaling a company. Now, it’s easier and faster than ever before for any brand to attract new consumers and promote their products or services that once used to take a significant amount of time and resources.
One way to boost your startup and reduce potential financial issues is to gain adequate financial knowledge from trusted sources like myfin. Financial literacy is important to make sound investment decisions. Apart from providing necessary knowledge about inflation, loans, and interest rates, it can help you better understand various financial market instruments, such as bonds, investment funds, and stocks.
Why Founders’ Stake Usually Decreases With Time? (Diluted Founders)
When a founder or an entrepreneur launches a startup, the 100% equity or the ownership of their startup is with the founder or divided among the team of founders. The equity may be equally divided or given according to the contributions, roles, or duties performed by various founders.
Any of the co-founders may arrange their own startup capital (bootstrapping) in the form of sweat equity or cash. By doing so, any co-founder can buy higher stakes from other co-founders.
However, as the startup grows, it will need more capital to survive than what the funders can invest from their own pockets. This is when they start looking for outside funding.
Once they manage to find like-minded investors to invest money in their idea, founders have to give them some equity in return – a piece of the total pie. This means, as more and more investors start putting money in a startup, the stakes owned by founders start diminishing.
At times, founders also leave a portion of the equity in advance to future investors. For instance, if a startup has two co-founders, they may take a slice of 40% equity each, leaving 20% to the investors in advance. However, when the seed rounds of funding reach Series A and B stages, the original percentage of the equity slice also becomes diluted significantly.
What Stake Is Usually Left To The Shareholders?
When you bring in new shareholders, it always results in dilution for the existing shareholders. For instance, if a new investor’s contribution allows him to get a 10% stake in the startup, then the existing shareholders (who had 50% stake previously) will now have 45% of equity each.
When it comes to giving up the stake, founders don’t have to give up their shares. But, they simply issue more numbers of shares. This usually leads to dilution. For instance, if an entrepreneur has 100 shares, and a new investor receives a 10% stake in his company, then the founder will simply add 11 more shares.
In Mathematical terms:
New shares (11)/Total Number of Shares (111) X 100 = 10%
Now the question arises, what stake should each stakeholder receive? This is somewhat tricky. There are several factors to consider. What’s the actual worth of the invention, patent, or idea, and the value of know-how and experience? What each stakeholder should get depends on what they bring to the table.
Let’s say, Elon Musk agreed to become a board member in your startup or provide you with some help in growing your company. So, what do you think about how many shares should he receive?
Here, you have to consider the perceived value that his association would bring to your startup. For example, if your company is valued at $1 million without Elon Musk and it has increased several folds with his association, you have to consider this increase in value before offering him the shares.
It gets more complicated when you consider the hard assets like equipment and cash and soft assets like knowhow and intellectual property provided by others.
Let’s take a look at an example:
Three engineering graduates decide to launch a software company that sells software development products. They all make almost similar contributions. They have similar knowledge and sweat equity. They decide to make Steven (one of the founders) the CEO of their new company. When it comes to dividing the pie, they give 40% to Steven and take 30% each.
They are all happy with the division for now. However, a few years down the line, they hire an experienced CEO with extensive experience and ropes in a VC investor for funding. Now, they have to determine the new value of their venture and how much stake they have to give up for these additional resources.
This is usually decided by the VC suitors by considering the present market investment conditions and how lucrative the particular deal is. Early investors and founders enjoy the highest return on investment because they are the ones who took the initial risk and invested in a company.
Frequently Asked Questions:
- What Is Equity?
Equity is also popularly known as shareholder’s Equity. In privately held companies, it is called owners’ equity. The term is used to represent the money given to the shareholders in a company after liquidating all its assets and paying off all the debt.
- Who Is a Shareholder?
Also known as a stockholder, a shareholder can be an individual, institution, or company that owns a minimum of one share of a company’s stock (equity).