Essays

[3] Several people have told us that the most valuable thing about startup school was that they got to see famous startup founders and realized they were just ordinary guys. Though we're happy to provide this service, this is not generally the way we pitch startup school to potential speakers.

[4] Actually this sounds to me like a VC who got buyer's remorse, then used a technicality to get out of the deal. But it's telling that it even seemed a plausible excuse.

Thanks to Sam Altman, Paul Buchheit, Hutch Fishman, and Robert Morris for reading drafts of this, and to Ke

An Alternative Theory of Unions

People who worry about the increasing gap between rich and poor generally look back on the mid twentieth century as a golden age. In those days we had a large number of high-paying union manufacturing jobs that boosted the median income. I wouldn't quite call the high-paying union job a myth, but I think people who dwell on it are reading too much into it.

Oddly enough, it was working with startups that made me realize where the high-paying union job came from. In a rapidly growing market, you don't worry too much about efficiency. It's more important to grow fast. If there's some mundane problem getting in your way, and there's a simple solution that's somewhat expensive, just take it and get on with more important things. EBay didn't win by paying less for servers than their competitors.

Difficult though it may be to imagine now, manufacturing was a growth industry in the mid twentieth century. This was an era when small firms making everything from cars to candy were getting consolidated into a new kind of corporation with national reach and huge economies of scale. You had to grow fast or die. Workers were for these companies what servers are for an Internet startup. A reliable supply was more important than low cost.

If you looked in the head of a 1950s auto executive, the attitude must have been: sure, give 'em whatever they ask for, so long as the new model isn't delayed.

In other words, those workers were not paid what their work was worth. Circumstances being what they were, companies would have been stupid to insist on paying them so little.

If you want a less controversial example of this phenomenon, ask anyone who worked as a consultant building web sites during the Internet Bubble. In the late nineties you could get paid huge sums of money for building the most trivial things. And yet does anyone who was there have any expectation those days will ever return? I doubt it. Surely everyone realizes that was just a temporary aberration.

The era of labor unions seems to have been the same kind of aberration, just spread over a longer period, and mixed together with a lot of ideology that prevents people from viewing it with as cold an eye as they would something like consulting during the Bubble.

Basically, unions were just Razorfish.

People who think the labor movement was the creation of heroic union organizers have a problem to explain: why are unions shrinking now? The best they can do is fall back on the default explanation of people living in fallen civilizations. Our ancestors were giants. The workers of the early twentieth century must have had a moral courage that's lacking today.

In fact there's a simpler explanation. The early twentieth century was just a fast-growing startup overpaying for infrastructure. And we in the present are not a fallen people, who have abandoned whatever mysterious high-minded principles produced the high-paying union job. We simply live in a time when the fast-growing companies overspend on different things.

The Equity Equation

An investor wants to give you money for a certain percentage of your startup. Should you take it? You're about to hire your first employee. How much stock should you give him?

These are some of the hardest questions founders face. And yet both have the same answer:

1/(1 - n)

Whenever you're trading stock in your company for anything, whether it's money or an employee or a deal with another company, the test for whether to do it is the same. You should give up n% of your company if what you trade it for improves your average outcome enough that the (100 - n)% you have left is worth more than the whole company was before.

For example, if an investor wants to buy half your company, how much does that investment have to improve your average outcome for you to break even? Obviously it has to double: if you trade half your company for something that more than doubles the company's average outcome, you're net ahead. You have half as big a share of something worth more than twice as much.

In the general case, if n is the fraction of the company you're giving up, the deal is a good one if it makes the company worth more than 1/(1 - n).

For example, suppose Y Combinator offers to fund you in return for 6% of your company. In this case, n is .06 and 1/(1 - n) is 1.064. So you should take the deal if you believe we can improve your average outcome by more than 6.4%. If we improve your outcome by 10%, you're net ahead, because the remaining .94 you hold is worth .94 x 1.1 = 1.034. [1]

One of the things the equity equation shows us is that, financially at least, taking money from a top VC firm can be a really good deal. Greg Mcadoo from Sequoia recently said at a YC di

The reason Sequoia is such a good deal is that the percentage of the company they take is artificially low. They don't even try to get market price for their investment; they limit their holdings to leave the founders enough stock to feel the company is still theirs.

The catch is that Sequoia gets about 6000 business plans a year and funds about 20 of them, so the odds of getting this great deal are 1 in 300. The companies that make it through are not average startups.

Of course, there are other factors to consider in a VC deal. It's never just a straight trade of money for stock. But if it were, taking money from a top firm would generally be a bargain.

You can use the same formula when giving stock to employees, but it works in the other direction. If i is the average outcome for the company with the addition of some new person, then they're worth n such that i = 1/(1 - n). Which means n = (i - 1)/i.

For example, suppose you're just two founders and you want to hire an additional hacker who's so good you feel he'll increase the average outcome of the whole company by 20%. n = (1.2 - 1)/1.2 = .167. So you'll break even if you trade 16.7% of the company for him.

That doesn't mean 16.7% is the right amount of stock to give him. Stock is not the only cost of hiring someone: there's usually salary and overhead as well. And if the company merely breaks even on the deal, there's no reason to do it.

I think to translate salary and overhead into stock you should multiply the a