When Facebook acquired Parakey in July, everyone assumed the stockholders of that fledgling startup would be popping the champagne bottles. No matter what the acquisition price (it wasn’t disclosed), if the sellers got Facebook stock in return for their Parakey shares, it would likely be worth a fortune down the road.
It turns out that wasn’t the case. The acquisition price, say two sources close to the deal, was paid in cash and was “less than $4 million,” providing investors with just a 2x return on their investment. Meanwhile, Parakey founders Blake Ross and Joe Hewitt were rewarded handsome stock options to join Facebook as employees in lieu of any cash compensation.
The primary investor in Parakey was Sequoia Capital, but a number of angel investors also participated in the sub-$2 million round that closed in December 2006. The investors were told about the acquisition in mid 2007 just prior to it closing. The terms of the deal were fully disclosed to them, including the number of shares that were being granted to Ross and Hewitt.
Some of those investors clearly weren’t happy with the fact that they were getting a 2x cash return while the founders received different, and likely far more lucrative compensation. Their preference would have been to receive Facebook shares or simply to have kept Parakey as an independent entity with a chance for a larger liquidity event down the road. But reputation matters in silicon valley and they made the decision not to disrupt the deal to avoid being labeled as difficult investors. Clearly, though, it left a bad taste in their mouth.
Even as investors are lining up to fund new Facebook applications, some others are saying they’re unlikely to invest in startups that are focused only on that popular social network/platform. The fact that Facebook is now involved in directly funding some of these application developers via fbFund only makes them more wary – the company may simply pick off the most talented developers and leave the companies, and any investors, behind.
It is often hard to muster up much sympathy for the venture capitalists that fund all of the startups popping up in silicon valley and elsewhere. But their money keeps the system running smoothly. If they don’t see a fair return based on the risk they are bearing (most startups fail outright and are a write off), that well oiled machine could come to a grinding halt.
In this case its not clear that investors were treated unfairly. They did get double their money back for a six month investment, after all. But the Parakey acquisition is an important data point that will be considered by others in the future. Just because Facebook comes knocking on your door doesn’t mean its going to be a big payday for everyone involved.
face book delivers!
good company
rc
trading tennis blog
Michael,
I am an “old” VC with most of my investments in Europe but that sort of side management deals were just the type of exits my mentor at Atlas Venture warned me, 13 years ago! It is very difficult for the investors to completely protect themselves from that possibility, and that is why many of them still insist on “tough” liquidation preferences, to make sure they can’t get screwed too easily. LPs are bad, but they make sense…
Well, most private investments have strict clauses on when an acquisition offer can be accepted. It is hardly likely that Sequoia or any other investor would have been left in the dark without this. It most certainly would have required a supermajority or even unanimous board approval.
Facebook paid the price that they wanted and didn’t succomb to VC hype and pay an exorbitant multiple. I am curious if Sequoia sees the writing on the wall and took their 2x multiple before this bubble pops.
I do like how Facebook is looking for and handsomely rewarding their people.
Facebook is the hot property at the moment just like friendster or myspace were once .
When big players like google come into playfacebook will die like friendster.
Social networks come and go and the crowed signup because its the cool new thing.
Zuckerberg better take teh cash now before his time runs out and he becomes known as suckerberg
http://atencorp....wordpress.com/
@Goo Facebook is a platform, google is search and advertising. Sure, Google can further buy its way into this arena but with quick growth comes quick failure.
I would just like to add the fact that the net is ultimately going to be a fight between Google and Microsoft. Other players will align themselves on either side.
Can you imagine in a couple years when Facebook has 200 million users worldwide, with half of them logging in every day, and a 25 year old will be CEO of this company? I can’t think of a parallel in world history where someone as young as me had this much influence. Oh wait. Alexander the Great. I want Facebook to be the social operating system of the web. That is something Google isn’t and is never going to be. At this point, nobody is closer to that vision than Facebook. That is what Microsoft understands. If they had any sense Google would have approached Facebook for a buyout. Instead they allowed their ego to get in the way.
The Internet is The Lazy Man’s Way to getting rich. The WSJ story proves that. I wonder how many of the firms at Techcrunch 4.0 will hit the jackpot. Hopefully at least 90 per cent. After all this is the Internet not the old economy. In the old economy you have to slog in a mcob for a paltry 50k each month. The first thing that is important for any net entrepreneur is not to have ethics. That is why I breached security ay Harvard and violated copyrights and privacy. I had hacked into House websites to harvest images of students without their permission and made money with it. In 2004 I made Facebook, took a leave of absence from the college, and a year later dropped out like my role model Bill Gates.
Comment number five is simply jealous.
What is Facebook going with Parakey anyway? How does it tie in to them opening their API’s and the strategy they already have with developers?
#7: After fake blogs, now fake comment authors ?
That said, it would be interesting to read “100% genuine / not comparing himself to Alexander the Great / Mark Zuckerberg” comment!
Investors often lose sight of the fact that many small companies without true IP are nothing more than project teams. What FB pay for a company who, without the project team, doesn’t have much. It sounds like the deal was realistic which may be cause for concern for some.
@Jean-Yves – tough liquidation preferences are likely why this deal was structured as it was — the project team was at the back of the cash bus in any liquidity event and that project team is in essence what FB was buying.
The well oiled machine is not going to come to a grinding halt when an investor gets 2X their money in six months (in cash, to boot). That is well above required venture returns.
Everyone is in this game for themselves, including the founders of Parakey. Good on them for structuring a deal that puts most of the value of the transaction into the hands that created the value (i.e. FB buying a project team, not code).
newsflash : serial rapist only gets to third base…film at 11
Most likely the investors were updated but had little say with the acquisition.
I am glad to see some founders do what they want for a change. IMO Facebook probably paid a fair price. And although the return was only 2X for the investors…..at least it was a positive return. How many investments can most VCs say that about?
This goes to prove moreso that Facebook is aiming to be the next Microsoft – see Zuckerberg’s repeated mention that “we could be working on this for the next thirty years” at TC40, all the talk of a ’social operating system,’ etc. etc. Buying up companies and poaching talent is just part of the routine… not to judge though – I’m pretty sure most of you, put in the same position, would do the same thing.
And isn’t the idea that 1 good investment should be enough to pay for all the nine bad investments that get written off? Here, with a 2x payback and depending on the value of the investment, it’s likely not a good enough payback to bolster other risky investments.
In response to Mr Zuckerberg (7),
Do your employees a favor and get over yourself. Maybe you were too young to remember the first internet bubble, CDROM bubble etc. but Facebook domination of the internet is far from assured by any means.
In fact this is the new new economy or neo-econs (trademark me) or new economy 2.0 (tradeamark me). The new internet economy died in 2000.
It is true that Alexander the Great was only 24 but he had been part of numerous invasions early in his career that did not work out as well. Only time will tell if you are thinking with your head or your sword.
Hey Mark Zuckerberg.
I have question.
1. What are you plans for Facebook’s future?
2. Are you planning to develop web operating system?
3. How do you feel when people called you the next evil jedi or evil bill gates?
If Facebook just wanted the people, how could different liquidation preferences have made any difference?
The Parakey folks could quit at any time and join Facebook, leaving the investors with the whole company to do with as they please. However, they don’t have anything that facebook wants, so there’s no $2M.
This is a tough one. Because you are a little detached you see that everybody got what they wanted, maybe not just at the levels they might have preferred. The only part that may be a little tricky is that the founders left the investors high and dry; how does this do to their reputation?
Let me rephrase myself a little …
“The only part that is tricky is the perception that the founders might have left the investor high and dry. So, what does this do to their reputations”.
I don’t give a damn
http://vidsonly.blogspot.com
Let’s assume the VC’s RECEIVED 2x their original investment within 6 months.
that’s an Internal Rate of Return of 300%. That’s pretty good. And its hard to see that the Parakey guys promised them higher returns than that in the long-haul. So, instead of the deal going bad, the deal went well.
Naturally, the VC’s may have tried to play hard-ball – but as noted above, making the work-horses unhappy isn’t likely to make the VC’s any wealthier.
We have no doubt the VC’s “don’t want to be known as difficult” because being difficult means they will lose deals and money.
Well-played by the Parakey guys – delivering to their investors, and finding a new opportunity to make their future work product EVEN more rewarding (assuming FaceBook is worth something).
Can anyone explain to me why the VC’s should expect to get money out of the future work product of individuals?
It is probably important to note the Zuckerberg isn’t the “decider” at Facebook. As much hype as he gets, it is the VCs holding his hand that are steering the company.
He is an inept leader (which makes the Alexander the Great comparisons especially laughable) who, if you’ve seen him in any public forum, looks like he’s in way over his head. No charisma, no business sense, no real experience.
Of course the biggest fools here are the companies who are considering a stake in the company at an astronomically high valuation (mainly because Zuck&Handlers have been holding out for more money like a star athlete). The problem here is that Facebook is much like Barry Zito: not worth the money.
They’re having a hell of a time with their CPM and with close to $100m in revenue they’re expected to just barely be in the black. How long are advertisers going to pay for ads that nobody clicks on?
As a user from the early days (when there were only 4 colleges in the network), I can honestly say that I’ve clicked on… maybe 4 ads. Of course they were for parties or other events on my campus, so I had a mild interest in them. I am not alone in this regard.
The bottom line is that users actively tune out the advertising on Facebook, making the notion that buying Facebook for access to said users one lacking in foresight.
It’s hard, as you point out Michael, to feel sorry for the investors. These guys got a 100% return in 6 months, with an exit to the hottest company in the Valley. I can point you to a bunch of big time VCs that would die for that kind of exit.
It’s really hard to align the interests of the investors perfectly with the interests of the founders. These investors have likely already made their FU money, so they can afford to gamble with someone else’s bird-in-the-hand. But they took a minority stake, so they agreed not to have that control.
So all in all, no one got screwed. The guys that negotiated the power used it to their advantage. Rock on.
This is … um… ridiculous Michael. VCs can take care of themselves in these deals and it’s good to see the founders actually getting a decent payday. I suppose if the founders did a lot of secret dealings during the buyout you could say this was not “fair”, but this was a square deal where people made money. The VCs did NOT buy the founders souls and all their future relationships to all other companies – they just bought a piece of their company and sold it at an annualized return of some 400%
If you want fair financing, you go to a bank. If you can’t get financing through a bank, then you need to bootstrap it a bit more.
http://virtualprivatebank.com/