If you want to survive in today’s global business, you have no option but to become a tech company. Experienced software engineer and entrepreneur Jared Hobbs shares his insights into what companies are doing these days that most people are not entirely aware of. As he dives deeper into how companies have evolved and are evolving, he also discusses how this evolution has impacted the tech world. Jared shares some concepts on how to get investors and how and when to capitalize your company other than the traditional ways.
Watch the episode here:
Listen to the podcast here:
Becoming A Tech Company with Jared Hobbs
We are in the season on entrepreneurship where we’re focusing our guests, the topics of discussion, the questions all around the idea of the entrepreneur. Previous themes have been on capitalism, on the notion of life, liberty and property. It’s been fun to focus the episodes, the guests, the questions around this central theme. We’re almost at the end of this season on entrepreneurship. I hope you have been learning a lot. If you’re here for the first time, welcome and go back and definitely check out previous episodes. I know you’re going to get a good course on the idea of the entrepreneur.
This episode is different because I’m interviewing not necessarily a professional speaker or presenter, but someone that I have a lot of respect for. He’s my neighbor and become a friend. He has been in the technology space for quite some time. He works and is part of the foundational software engineering team for Carta. Carta is one of those multibillion-dollar companies that has owned the space of organizing the ownership of public and private companies, not necessarily the ownership but employee ownership. There are other things that they’re doing as well. They’re very innovative and are owning this space.
Jared had this front-row seat of looking at the world from that perspective, which is very unique and it’s led to some high-level conversations with him and I. I’ve learned a ton about how the business world is changing from how companies are getting capital, how they’re being valued. Also from the standpoint of what employees are expecting of companies in that space, which I believe it’s shifting to non-tech companies. Jared in the interview argues that all companies are essentially becoming tech companies, especially if they want to survive in this day and age. It’s a fascinating interview. It’s a perspective that most do not have. We tried to stay as high level as possible because there is some terminology, that technology lexicon that most don’t understand. I believe that we got some good nuggets out of Jared. I may have him back on because there were some things that we’ve talked about offline that I was so intrigued by and wanted to discuss and explore further, but due to the lack of time, we weren’t able to. I want you, depending on your role, to look at this interview from that perspective, wherever you are in your professional space, if you’re an employee, if you’re an owner or if you’re an entrepreneur or maybe a combination of the few things.
First as an employee, I find it interesting how employees are being compensated differently these days and they’re not necessarily looking for companies where they can work for 30 years. They’re looking for companies that align with values in a sense, but also the notion of work has changed. They’re more working to live instead of previous generations who were living to work. I find this interesting because it has put some pressure on companies because if one company is offering what employees are demanding, then that company is going to get high-level employees, high engagement, high retention. Whereas a company that doesn’t necessarily keep up with those times is going to lose top talent, have turnover and probably is going to lose a lot of money. I believe that this space is rapidly evolving as far as what employees are demanding as part of their overall compensation and overall experience in the workplace.
From an investor standpoint, that’s another role that is interesting to look at, the businesses that are coming online these days. You have multibillion-dollar businesses that aren’t profitable, which means that they are spending more money than they’re making. We get into that conversation as well. Also from an entrepreneur space, that perspective, which is what are the various ways in which you can be capitalized? Not necessarily just money capital, but also how do you associate with those that have built big businesses, big companies? They’ve done it with this new way in which companies are capitalized through venture capital, private equity and navigate those waters, which can be pretty treacherous if you don’t know what you’re doing. There’s capital, not just in money, but also the experience that surrounds a lot of incubators and other spaces in which these types of companies are coming online.
It’s a fascinating topic to me. I hope you get a lot out of it. I feel that this is a conversation that needs to happen more because I see in my own business how things are changing. I’m observing the world around me, whether it’s industries that have been around for hundreds of years to companies that have a very good reputation. Things are being disrupted very quickly and it’s going to be an interesting couple of years. You are going to learn a lot from Jared. He moved into the neighborhood. I’ve been there for several years now and we have a lot of things in common. He has a tremendous amount of knowledge associated with his craft and his field. Hopefully, you’ll learn from him. Without any more delay, let’s get to my very fascinating interview with Jared Hobbs.
I have a special guest. I have been talking a lot about the way in which our society is evolving, how business ownership is evolving, how entrepreneurs are evolving. It seems so fast, it’s hard to keep up with. I brought in my neighbor. His name is Jared Hobbs and he moved into the neighborhood from Palo Alto. It was cool because when I first met him, his wife is a Latina. His dog was the same name as my dog and he liked the same type of music. It was cool. It’s was like my kindred spirit moving in next door. Jared is a software developer, software engineer and he is part of the founding engineering team with Carta. It’s been fascinating to have conversations with him. I wanted to have him on because he has some insights into what companies are doing these days that most people, including myself, aren’t entirely aware of.
We’re going to get into how the evolution of companies and employees has impacted the tech world, how it’s evolving into the rest of the business world from an ownership standpoint and how companies are being capitalized these days. How are they getting investors? What options are available to you? Also, if you’re the entrepreneur or the business owner, there are many ways when you can capitalize your company other than the standard traditional ways. However, there are a lot of unknowns, so we’re going to talk through those because Jared has been at the forefront of that for the last several years.Most companies in Silicon Valley are valued more for their network effect and potential to make money rather than what they're making now. Click To Tweet
As investors, that’s another thing that I find difficult. These days you have a lot of companies that are multibillion-dollar companies that early on didn’t make any money. They made money from a revenue standpoint but weren’t necessarily profitable. Meaning they were spending more than they were making, but yet they grew and became these huge industry giants. I want to talk through that as well because for me as an investor, you want a company to be profitable. You want it to be earning cashflow. Looking at a company that’s not doing that immediately sets in some concerns.
I want to talk through how as an investor, you look at a company that is capitalized in a modern way and how to determine whether there is some viability there worth investing in or not. Jared, let’s get into it. I know we’ve had some pretty high-level discussions. We talked a little bit now in regards to what you have been a part of. Maybe start with what was your experience like in Palo Alto. How has it been to see different companies on the Carta platform and how they’ve been able to transform based on what tools had been available to them that may not be available or even known about to other businesses?
The business world in Silicon Valley is different. It’s a bubble. It’s different than any other business type that I’ve seen. It’s the only place where you can have a business raise millions and millions of dollars and not have any cashflow, not have any money coming in.
That’s fascinating that people would put money toward that.
It seems like a lot of those companies valued more on their network effect, on the potential to make money rather than what they’re making now. What you’ll see is a company, a couple of founders that have an idea. They start getting some traction and they take their idea to Sand Hill Road in Palo Alto where all the investment firms are. They pitch that idea and these investors see that maybe these people do have this strong network. They’re looking for the next Facebook and the next Uber. Even if this business isn’t making money and they’re burning more money than they are taking in, that network effect is what’s valuable.
What’s the payoff for them? First off, the full potential thing. I think everybody has potential. Looking at those that achieve, what do they look for as the variables to determine whether or not it’s going to be successful?
Venture capital is funny. They’re looking for that one payoff. They’re going to be throwing money at a lot of different companies with the hope that one of them pays off. Most startups fail. That’s a fact. Most of them won’t make it past Series A in financing and they’ll shut their doors. If a venture capital firm finds that needle in the haystack, that one company that will make it to a unicorn or a decacorn status, then it was all worth it. It doesn’t matter that they lost money in all these other companies.
Is there a formula for that or is it just throwing money at the wall and hoping that one investment sticks?
I’m sure some firms are like that, but for most of the firms I’ve noticed, they look in multiples of an ARR.
ARR is the Annual Recurring Revenue of a company. Some of these early-stage companies will have ARR and it will be low, but they’ll be valued based on a multiple of that. Also, investors will look at proven track records of the founders. If a founder had a previous successful startup, they’re more likely to fund that person because they’ve proven themselves. If a founder has not proven themselves and they don’t have a team that’s worked on successful startups before, but they have good ARR numbers, that’s a good signal for those VCs.
You can go the VC route and go and pitch these bigger firms to get that type of capital to start. Crowdfunding is the one that comes to mind. What are some other ways in which smaller businesses or entrepreneurs with ideas have gone to the marketplace as opposed to borrowing money from mom and dad, going to a bank and getting a loan? It received capital and then taken and turn an idea into something tangible.
There are a lot of success stories with companies like Kickstarter, GoFundMe and Indiegogo. A lot of these are exchanged for our product. I haven’t seen a lot of companies give equity through these crowdfunding platforms. I’m not even sure if they’re allowed. Actually, I’ve seen a couple on Carta that have gone that route. The problem with that though is your cap table gets inundated with all these people, all these very small investments. There are laws where you can’t have more than a certain number of people on your cap table. It gets tricky if you try to fund that way.
Do you think that will change? Is there pressure to change it?
I think there is pressure to change it. I know Carta is lobbying the Congress right now to get a lot of changes from happening, especially in the accredited investor space. They’re trying to slack those rules a little bit to make it easier for the average person to invest in privately held companies. A lot of the early-stage startups will go to the bootstrapping route. They’ll try to build their company based on their own savings. The founders will be the main seed investors. Other companies will go to Angel investors, which are wealthy individuals that usually give money in the very early stage, in what we call the pre-seeding stage.
What are some of the more popular Angel investing platforms that people may not be aware of?Normally a startup will fund their platform or their development using their own money, friends, and family money and angel investors. Click To Tweet
Angel List is the main one that I’m aware of. I’m sure there are other places too. Just go into networking events or pitch competitions, you’ll meet these Angel investors. Normally, a startup will fund their platform or their development using their own money, friends’ and family’s money and Angel investors. If they start seeing some traction that maybe they have a good idea here, they’ll go to a seed-stage fundraise. There are a lot of Angel investors that participate in seed stage. There are also VC firms that participate in seed stage. There are also incubators, Y Combinator, Techstars, Idealab, things like that. These are great. They usually will give you a small amount of money. I think Y Combinator is something like $120,000 in exchange for 7% equity.
Let’s take a back step and describe these stages. At least myself, I don’t know if I understand it 100%. Usually when you have an investment in a new company, there’s essentially one stage. You put an investment, a loan. You put a capital contribution and then you start spending it and hoping you can bring in revenue. That seems like the only stage. Talk about these seed stages and these different series stages and how that all works.
Speaking from what I know in the Bay Area, how it usually goes is you want to raise money. You’ve decided to take on outside capital in exchange for equity. You build a pitch deck and then you start shopping around. There are different pitch competitions where you show your idea off and then you get people that are interested. They start throwing money at you. You sign a term sheet and then you start working. Usually, what happens is there’s a pre-seed stage and that’s usually friends and family, individual contributions, things like that. That’s just to test, do maybe market research to see if you have an idea that could become profitable. After your idea has been proven and you think that you can build this thing, you need to raise more money. That’s your seed money.
Do the people that put seed money in get paid off and they’re out or they stay in and now the company becomes bigger because there’s more money in it? How does that work?
Every new round of financing that a company takes on, the existing investors will get diluted. A lot of times, the company will give those investors an opportunity to put more money in to get their percentage back up to where they were. A lot of times, these small investors don’t want to do that. They just want to cash out. Usually, when you’re raising a new round of financing, it’s an opportunity to provide liquidity for the existing shareholders. Maybe if you’re raising a Series A now, your seed stage investors want to get some liquidity out from their investment. They’ve probably been around for five years or less. They want to see some return.
Is that the term of the initial term sheet or is that determined when the next round of funding comes in?
It will usually always be written into the term sheet of when they can get their money back out and everything. When you’re raising money, the shares that you give them are usually preferred shares also. In cases of an exit, an acquisition, an IPO or something, those preferred shareholders get their money out first before any common shareholders do.
Do founders usually take a common or do they also have preferred?
Some founders do preferred, but most founders’ stock is common but it’s a higher level of common than normal common. Debt gets paid out first, then preferred shares, then founders’ common and then common.
When you go to these different stages, how do the valuations change? If you’re going to bring in new capital, you’ve proven an idea, but then what does that mean? How do you value the next stage? If the idea is proven, is there another theory or formula to determine how is it going to be valued and what determines the next stage after that?
When talking about these tech companies, there are two valuations. There’s the fair market value, which is the value of the common stock and there’s the preferred price, which is what investors are willing to pay for it. They’re both valued in different ways. The common stock, that valuation is required on form 409A of the IRS Tax Code. That’s usually done by an external third party. Carta is the biggest provider of foreign aid in the United States. There’s a Black-Scholes statistical model that goes into that valuation. There are a lot of little knobs and levers that they can pull to tweak the valuation.
There’s a discount for lack of marketability because a lot of times these companies aren’t making any money, so it makes it a little harder. For comparable companies, they only have public companies that they’re able to compare to because private companies aren’t releasing their financials. It’s a little hand-wavy on how that math works because it’s not an apples to apples comparison. For preferred stock, the investors are the ones that value the company. They do their own due diligence before they invest. They’ll also look at comparable companies. They’ll look at their own portfolio of investments and see any similarities there. They will give you a valuation. When you hear about a tech company being valued at $1 billion, that’s not their fair market value. That’s their preferred price that the latest investors have put on their company.
One of the biggest IPOs in history happened, Uber. It was good for a lot of people, but it wasn’t good for others. There are a lot of later-stage investors in Uber that lost money on the IPO. They can keep money in and hopefully it will be more valuable in the future, but how does that happen? A lot of these big companies that have been funded and capitalized this way are now going public. WeWork is another one that’s about to go public. WeWork, their financials is like they’re bleeding money and they’re going public. They’re bleeding money, why would the public market invest in that? Maybe go through the Uber thing first.
Uber is interesting. They went public at an $80 billion valuation or something like that. They were private for a long time, so they had many rounds of private financing. I don’t know exactly offhand how many rounds they did, but it was like Series F, Series G. It was up there. Every round, it dilutes more and more. Seniority goes to the latest investors. Early investors are way down at the bottom of the chain also.
The early investors lost more than the latter stage investors.
Probably, I haven’t looked at any of the public records on it but that’s what I would imagine. With that company, especially now that they’re public, people are seeing their financial. They’re seeing how much money they’re losing. There’s been an analysis done where they said there isn’t anything that they can do to become profitable other than raising the prices. If they raise their prices, no one’s going to use it.There's capital not just in money but also the experience. Click To Tweet
WeWork is still private and they’re bleeding money. If they don’t raise any more money, they’re going to go out of business. Their options are ultimately to do another round of funding or to go public and they’re trying to go public. Why are they going public? How do you characterize the mentality of somebody willing to buy shares in WeWork if they’re bleeding money?
Companies, when they go public, it’s usually because they need to raise more money. They can’t raise any more private money. Their investors don’t want that. They want out. I’m not sure in cases like that why the public would buy into it when these private investors want out. It’s economics that I don’t understand.
They’re going to go and they’re going raise money and people are going to invest in it because it’s the sexy thing to do.
A lot of times, the companies that aren’t making money even publicly, their values keep going up. I don’t know if it’s a fear of missing out thing. People want in on a company that they believe can 100x in value. You look at earlier IPOs like Google, Amazon, Facebook. Facebook has pretty high evaluation at the time. Compare those to recent IPOs, those things were like nothing. These IPOs keep getting bigger and bigger. Who knows if we’re going to hit a ceiling? We’re in some bubble that’s going to pop and everyone’s going to lose money on all these investments.
Let’s go now to the employee side of things, which is pretty fascinating. We’re going to mention some books and some other people to follow so you can keep up. This is the business world that we live in. It’s not like it’s going to go away. It’s so big and it’s evolved so much where it’s going to continue to evolve. We’re going to approach it in a few ways, but we’ll talk about some books and some other people to follow to keep up with these not necessarily trends but the way in which business is evolving. I want to talk about employees. The employees of Uber or WeWork and I’m talking more about not necessarily the Uber drivers, but the employees that are the developers helping with the technology, the design, the R&D. If WeWork is bleeding money, don’t employees know that they’re bleeding money? How does that preserve the culture of the company? What are these companies doing that’s different than the companies in the past?
When we talk about burn, it’s a normal thing especially in tech startups. If you’re not burning money, you’re not utilizing that capital that you raised. Investors don’t like that. They want to see you spending that money. If you’re not spending it, why did you even raise it in the first place? There’s a yearly or a monthly burn rate and a company will have a runway of time that they can burn this money before they’re out of money. They usually raise money before that runway ends. I’m not sure about WeWork in particular, but I’m sure they’re expecting to burn a certain amount of money. They know how much they’re making, how much they’re spending. Their investors are probably expecting them to burn a certain amount every month. If they’re burning more than that, they could be in trouble. If they’re not hitting that burn target, they’re also in trouble. Without knowing their specific plans and what their investors expect of them, there isn’t much we can do. I’m sure their employees probably know about those things too if the company is transparent about their financials.
Let’s get into how employees are compensated these days. It’s been different in the past, and that’s some of what Carta is trying to make easier. Maybe speak to that because employee retention is important.
In the past, people have gotten a salary. They might have gotten other perks. They’ve gotten their benefits, their health Insurance, 401(k) maybe, things like that. Nowadays, especially with platforms like Carta, which make it easy to grant options to your employees, it’s expected now. If I’m a recent graduate in a technical field and I’m looking for a job, if that company doesn’t offer equity as part of my comp package, I’m not even going to look at that. It’s something that’s expected now like, “If you’re not offering equity, then I’m going to go somewhere else that is offering equity.” Especially living in Palo Alto, you meet a lot of different people. What you notice is the people that have money that can afford to live there, that have a house are either business owners or they’re employees that won the stock lottery. If you want money, if you want to be wealthy, you need to be an owner. You need ownership. Without that ownership, you’re living paycheck to paycheck. You’re not going to become financially independent that way unless you can take part of that paycheck and invest it in something that’s going to make you an owner.
It started as more of a tech phenomenon. Do you see it evolving into other sectors?
Definitely. I think it was Fairchild Semiconductor in the ‘70s that was the first company to offer equity to their employees. It stayed in the tech sector for a long time. Platforms like Carta make it so easy to grant employee equity that lots and lots of more companies are doing that. We’re now in a period of time where every company is a tech company. Every company relies in technology. If they require technology, they require a software already, you’re going to manage your company’s ownership on a platform like Carta. Why not carve off 10%, 20% of your company to give to the employees? It makes them happy. It makes them work harder because now they have a vested stake in the company. There are all sorts of different rules that you can put into the contract to make sure that they stay. Most option grants come with a one-year cliff. You don’t get any grants until you’ve worked there for a year. After that one-year cliff, it vests on a monthly basis. It incentivizes employees to stay there until their options vest at least as a minimum. Other companies will offer refresh grants. As soon as one of their grants is almost done vesting, they might give them another grant that vest it another four years to keep them around.
How many companies are on Carta? Do you know more or less?
There are a lot.
Hundreds, thousands, tens of thousands?
There are thousands of customers, something around 8,000 companies. There are close to 800,000 employees.
Based on what you have experienced from the time you started, do you agree with the theory that this is going to be the new way in which employees are paid or compensated?
Definitely. Equity is probably more important than your W-2 salary. Your W-2 salary can go up incrementally. It’s not going to make a big difference. If you’re working at a company that gives you decent equity and you’re helping to make the value of your company go up, as soon as there’s a liquidation event, an IPO or an acquisition or something, those options are going to be worth way more than your W-2 salary.Raising a new round of financing is an opportunity to provide liquidity for the existing shareholders. Click To Tweet
From the business owner’s standpoint, why would this make sense for a business owner? We’ll get the first one out of the way, which is this is what employees are expecting. It’s similar to the standard expectation of employees now is that they get healthcare. That wasn’t the case necessarily many years ago, but now it’s an expectation. Going into this way of receiving compensation, that’s going to become an expectation. How does it make sense for a business owner to do this?
One thing, it’s to stay competitive, you’re going to have stock options to your employees. There are tax benefits also for the business owner. With option grants at least, you’re not giving away any stock until it’s the option to buy stock. You are giving your employees the option to buy stock at a discounted price. A lot of employees won’t exercise it until a liquidation event. They’ll do a buy to cover option where they’ll sell everything and then they’ll use that money to pay to exercise the option and the tax that’s necessary. Our CEO at Carta told us many times that he believes there are four stages of employment, where we started out in slavery and moved to indentured servitude and right now we’re in a payroll.
Most society in general, the employment world.
The future will be ownership where you’re not paid just by a monthly paycheck. You’re also given equity and you become part owner of the company that you work for.
How do you determine by employee to employee? Do they all get the same or is it different based on levels of experience, expertise, how long they’d been there or is it equally split across the board?
It’s totally up to the company. It’s very flexible in that, especially in an early-stage company, they might want to give more equity to those founding team members because it’s a lot riskier for them. They’re quitting maybe a job in Corporate America. They’ll work in untested or unproven startup. Once a company is in a later stage, Series B, Series C, maybe the company is making money.
Those are the liquidity events that you were talking about?
Yes. Once that happens, a later stage employee, employee number 200 or 300 will probably get a lot less equity. A lot of times it’s proportional to the risk involved.
Is there a formula to help with that?
I don’t think Carta has that formula. I know that we have an internal formula that we use for our new hires, but every company will be different. Before, our general rule of thumb was 0% to 20% option pool for employees. The first 10% goes to your first ten employees at 1% each, then the other 10% is allocated for all the rest of your employees. You can refresh that off option pool with later rounds of financing and things like that.
For me, a lot of these intrigued me for a while, especially since we’ve started talking. Looking at this being a topic that I am assuming most people don’t study or are aware of, what are some of the recommendations you have for them to learn more?
To learn more about options, there are books and blogs. There’s a book that’s a required reading for Carta employees. It’s called Consider Your Options, which talks about ISOs and NSOs and RSUs and all these different equity instruments. Our CEO at Carta, Henry Ward, He’s got some great blog posts out there. You can find them on Medium. Also Carta’s blog itself, there are a lot of great posts on equity, on 409 valuations, on all sorts of startup-related issues.
There are some required readings at Carta which I found interesting. Zero to One, Peter Thiel’s book and The Lean Startup. The one that was interesting to me is How to Win Friends and Influence People, which is an older book by Dale Carnegie. Why do you think that is a recommended reading?
I think that was one of the first books that was recommended to all new employees to read. It helps an employee gain leverage. It helps with the business relationships, personal relationships and to build this leverage that you need to gain the advantage over competitors, over even your boss, your manager. In the business to business world, you need to build leverage in order to win a contract or to get funding.
Did you know the whole Warren Buffett story behind Dale Carnegie? The only certificate he has in his office wall is his graduation from the Dale Carnegie Institute. I find that interesting. It’s all businesses relationships ultimately. There are some definite core principles and core values around relationship in that book. Jared, this has been awesome. I know you dove into a variety of topics and bounced around. What do you want to use as maybe your final charge to readers in regards to this specific topic?
To the business owners, to the entrepreneurs, there’s so much money out there. There are so many ways to get money. If you think that raising outside funds is the way to go, go for it. If you think that you can bootstrap it and not have to give away part of your company to become successful, that’s also a great way. There’s real value in the accelerator and incubator. If you can get into something like Y Combinator, I totally think that it’s worth it to give away 7% of your company for that network that you’ll get by getting in there. For the employees, keep pressuring your companies to give equity if they don’t already. It’s something that will help you out. Most startups will fail, so your options could end up worthless, but in the chance that your company succeeds, it can make you a lot of money.
There’s a piece in the book that I wrote, as well as a lot of what I believe is employees essentially have all the information at their disposal to be successful. The gap between where you are and where you want to be isn’t necessarily the lack of information. It’s where to get that information. It’s also to understand more about yourself and how you equate to value in the marketplace. A lot of the charge I give people sometimes is go out and look at the marketplace, whether it’s PayScale.com or Salary.com and see what the market is offering. Look at where your position is currently, but more importantly is where you want to go. See what is required from you, either an at experience standpoint, a skill standpoint, a certification standpoint. That information is more valuable than ever, which will enable you to make more money at a much quicker pace than the standard 3% to 4% cost of living increases most people are expecting.
Know what’s you’re worth, that’s a huge thing.
That creates the baseline to becoming worth more. Jared, this has been awesome. Thanks for taking the time.
Thanks for having me.
I appreciate it. See you again soon.
- Jared Hobbs
- Angel List
- Y Combinator
- Fairchild Semiconductor
- Consider Your Options
- Carta’s blog
- Zero to One
- The Lean Startup
- How to Win Friends and Influence People
About Jared Hobbs
Jared Hobbs is an experienced software engineer and entrepreneur who has started several small companies. Jared graduated cum laude from the University of Mexico in 2008 with a bachelor’s degree in Computer Science. Jared specializes in creating and developing applications for financial technologies, mass data analysis, image processing, image correlation, and other business-class applications.
In addition to his small business ventures, he is currently working as a Lead Software Engineer for Carta, Inc. where he has played an instrumental role in helping the company grow and scale from 6 employees to well over 300. Jared lives in Salt Lake City, Utah with his wife, children and dog.