The Startup Riches Myth: Sell Your Company For Multi-Millions And Still Not Be A Millionaire

big-boy-chair-sailing

As I head off on my 12 month journey to build YakezieNetwork.com into a online advertisement exchange in the personal finance space, I remind myself about the long shot chance of success. I’ve always wanted to be an entrepreneur since middle school, and finally after 20+ years here’s my chance.

There’s an idyllic notion that once you’ve sold your company for multi-millions of dollars you’re filthy rich and never have to work again. I admittedly have this automatic mindset whenever I meet someone who said they sold their company to one of the tech giants. Even if they are still living in a one bedroom apartment with their wife years after the sale, I just think they are being frugal.

By also believing everybody makes 10X more than the value of their car based on my 1/10th rule for car buying I’m able to keep motivation high to work harder since even a Toyota Corolla driver is clearing $200,000 a year nowadays. The goal is to give into the illusion of wealth in order to eradicate self-entitlement.

There is startup fever here in the San Francisco Bay Area partly because of all the stories we hear about 1,000 bagger returns in companies such as Google, Facebook, Instagram, Twitter, Tumblr, AirBnB and more. Sure beats investing in stodgy dividend stocks doesn’t it? Real estate is on fire and it seems like everybody in their 20s and 30s are tech millionaires. Given we have a culture of stealth wealth in San Francisco where you can’t tell a rich person from a poor graduate student, the possibility is real that your unassuming neighbor is rolling in the benjies.

The fact of the matter is that the vast majority of startup founders never make it past year three and even less sell for multi-millions of dollars. Even if a founder sells her company for $30 million dollars to Apple, she probably could have done better working a day job all those years instead, with much less stress! (Related: Joining A Startup Will Probably Make You Poorer Than Richer)

In this article I’ll share with you a very insightful conversation I had with a man who ended up selling his company for tens of millions of dollars circa 2010 three years after business school (Should I Get An MBA?). You’d think as a 30-something year old, he’d just be kicking back on his own private island somewhere blogging right? Not so at all. But before we go through this fella’s example, let’s go through one of my favorite business assumptions first.

A LIFESTYLE BUSINESS OR A CHANCE AT MEGA MILLIONS?

In 2010 I asked everyone in a post entitled, “The Comfortable Lifestyle Business Or The Big Payout”:

Would you rather make $15-000-$30,000 a month and “work” only 2-4 hours a day?  Or, would you rather make minimum wage working 12-14 hours a day for two years with a 25% chance of selling your business for $100 million dollars and netting yourself a cool $25 million?  If you don’t, all you are left with are your experiences.

The answers were pretty mixed based on the comments (cut the numbers in half if you don’t live in Manhattan, SF, LA, HK, London, HK, Paris, Amsterdam). The reason why I asked this question back then was because I was already beginning to formulate my exit strategy from my job on Wall St. I had been working for 11 years and had just started to get a taste of the online business world and its potential. Given I was tired of working 12+ hour days, I opted for the lifestyle business instead.

I never really questioned my decision because money is a means to an end, namely a better life. Working 12 hour days for another several years sounded very unappealing because I already amassed a livable passive income stream. Fast forward to today and I’ve somehow managed to achieve my lifestyle business goal.

It’s interesting how the mind works once you put things down in writing. Your goals become tangible, thereby increases your potential for success. I had completely forgotten about this business dilemma until I met the potential client. I didn’t ask how much he sold his company for back in 2010, but it’s safe to say anywhere between $20 to $40 million dollars based on his feedback.

I asked him the very same question I asked all of you three years ago, and he unequivocally selected the lifestyle business to my surprise! Here’s a guy who sold his company for around $25 million dollars after just five years of operation and is choosing a $180,000 – $360,000 a year lifestyle business instead. I asked him to elaborate further as to why.

THE MATH BEHIND SELLING A MULTI-MILLION DOLLAR BUSINESS

Let’s say you successfully sell your internet startup to Google a mere five years after founding for $25 million dollars. You probably worked 14-16 hours a day everyday, but at least you were working on your baby. Here’s a typical way of how to get there based on my client’s experience for those who aren’t familiar with the startup world.

Step 1: It’s the year 2005 and after working on your brilliant idea for one year, you raise $1 million in Angel money in exchange for 10% of the company. Getting a $10 million valuation is a huge accomplishment in just 12 months of operation. You can’t just suddenly value your company at $10 million without large user and revenue growth so you must be doing something spectacular. You and your equal partner are left with 90% ownership.

Step 2: Grow your business to the point where you raise your first venture round of funding for $3 million in exchange for 25% of the company. You want the $3 million to acquire more users and solidify your company’s market share through more marketing. You and your partner are left with 65% ownership.

Step 3: Hire employees to help build your business further. By the time this person’s company was sold, he had a staff of 40. Give total equity of 20% spread across 40 employees as incentive and part of their compensation package. You and your partner are left with 45% ownership.

Step 4: Raise another $3 million at a slightly higher valuation in exchange for 20% of the company. Business is now booming and spending is a must to keep up and beat the competition. The company is not profitable yet, hence the need for cash to stay alive. You and your partner are left with 25% ownership.

Step 5: Competition is very intense and it’s the year 2007 where everything is just going up, up, up! Raise another $4 million for a 10% stake as business is expected to keep growing at the current pace for the next several years. Your company is now worth about $40 million! You and your partner are left with 15%.

Step 6: It’s the year 2010 and the worst of the financial crisis is over thank goodness.You sell your company as early investors and employees want out. You’ve found a buyer for $25 million, which is much better than $0 if you sold at the end of 2008 or 2009 because nobody wanted to buy an EBIT negative business. At one point the business could have been worth $60 million if you timed a sale perfectly. 10% of $25 million is still $2.5 million. Your stake is worth $1.25 million before tax since you have an equal partner.

Step 7: Your accountant advises you to take a 33%, 33%, 34% payout of the $1.25 million over three years to minimize tax liability. Meanwhile, given you worked at a startup, you made at least $50,000 a year below market for five years in exchange for equity upside = $250,000 opportunity cost. All told, your proceeds after taxes is about $900,000.

If you take into consideration the $250,000 in lost income you would have made working for an established firm, you really only net about $700,000. $700,000 – $930,000 is not chump change after five years of work. But remember, the $900,000 after taxes was distributed over three years after he sold. It’s very difficult to build a huge business by yourself. You need a team of people to help you get there.

During the five years of creating the business he went through enormous stress, relationship breakups, employee arguments, and countless meetings with investors. He appreciates the experience but he would never do it again. His biggest mistake was raising too much money and therefore giving too much of his company away. When things are booming, it’s easy to have the urge to spend, spend, spend since valuations keep on going up. He’s now started a new Y-combinator company and is being much more careful with fundraising. He’d rather not raise any money at all!

MAIN TAKEAWAY

My client reminded me that if you successfully build a lifestyle business, then you should have more than enough time to go for option #2, the home run business. Given I only have to work 1-4 hours a day on Financial Samurai (writing content, responding to inquiries, networking, etc), I can spend the rest of my time building YakezieNetwork.com to be the #1 personal finance online advertisement network. Here’s a post I wrote on Yakezie.com describing the value proposition.

The race is on to try and build a business with the YakezieNetwork.com before the Financial Samurai revenue stream runs dry.  One can never tell what the search engines will do. As long as the content here is helpful and shared by all of you to your friends, traffic will stay steady or hopefully increase over time. If Financial Samurai does disappear, I will be sorely disappointed. However, with a now six figure passive income stream I should be able to at least give my second entrepreneurial attempt a good go for 12 months.

Would you rather go for a Lifestyle Business with low stress and enough income to live a comfortable life or a Home Run Business for a chance at mega millions and a spectacular life?

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Readers, anybody ever join a startup up that sold for mega-millions? How did you do financially and what did you do next? Do you think there is a startup riches myth that is swaying people away from traditional stable jobs? Would you shoot for a mega-million payout or a lifestyle business that pays you $10,000-$20,000 a month that requires only three hours of work a day from anywhere in the world? If you established a lifestyle business, would you still try and pursue a home run business?

Photo: Sailing in the Bay. If you want to sit in the big boy’s chair, you’ve got to go and take it. FS, 2013.

Regards,

Sam

Sam started Financial Samurai in 2009 during the depths of the financial crisis as a way to make sense of chaos. After 13 years working on Wall Street, Sam decided to retire in 2012 to utilize everything he learned in business school to focus on online entrepreneurship.

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Comments

  1. nbsdmp says

    Very interesting article. The thing I kind of take out of reading the story is people want it all so quickly so they take on debt to get there. It is just like driving the $100k car when you make $100k a year or having credit card debt to inflate your personal lifestyle.

    My favorite saying is that it that it usually takes 15 years to make an overnight success. I don’t know the details of this guys business but I venture to guess if he would have taken the slow and methodical approach instead of taking on debt, today he would have a $30M company and own 40% of it and be taking a $1M of salary and distributions out of it. Debt creates empires and it also destroys them.

    • Financial Samurai says

      Don’t think there was debt involved in this example. Just capital raising through equity raising and dilution of existing shareholders. Very common and practice du jour in startup land.

      • nbsdmp says

        I understand…but raising capital you don’t have is one in the same the way I look at it (in some cases maybe worse when the business takes off). My partners and I could have grown our business a lot quicker as well by doing the same thing, but we are a little more conservative in nature so we took the slow road. I get the dilemma because you can’t just go get a loan for risky ventures and you have to sell your soul (and ideas and equity) to the devil. In a lot of cases the business fails unless you do it because you have to scale to a size the makes sense. I suppose that is why the % of the population that makes seven figures a year and are multi-millionaires is so small. It ain’t easy! lol

  2. writing2reality says

    Pretty amazing story, and certainly shows that startups are not the be all end all that many people think. We, as the public at large, generally only hear about the exceptions as opposed to the “run-of-the-mill” startups like the one you’ve discussed.

    For me personally, I agree with your client that it would be fantastic to have a lifestyle business, as that would allow you to pursue other opportunities given the freedom of time. Time is much more valuable than then the money earned from that startup scenario.

    Best of luck with the Yakezie Network! It will be interesting to see how this additional entrepreneurial endeavor turns out, but I have no doubt you will learn immensely.

    • Financial Samurai says

      Thx mate. Worst case I fail, am out of pocket several thousand dollars and get more headaches. At least I’ll learn something.

      What I don’t want is having regret not trying. That is the worst IMO.

      • writing2reality says

        Couldn’t agree more with that last statement. You will never hit a home run, or a single for that matter, if you don’t swing. Especially considering your financial situation, risking several thousand dollars is insignificant compared to the potential return, both in financial and personal achievement.

  3. B says

    Great story. I have yet to find a 9-to-5 that would pay me enough “income” to be “happy”. I’m sure such a job exists and will keep searching, but it seems that many jobs that pay well require the same level of commitment and stress as a start up. Although I know many would argue that it would be less stressful to be the CEO of a large company than the CEO of start up.

    I think the best of all worlds is to work hard when you’re young and save so you can be the Angel money in this story – to me the investor is the clear winner!

    • moneystepper says

      Good point B. When you look at the facebook story, for example, I was more impressed with Bono getting such a profit from the IPO (some reports make him a billionaire as a result) compared to Zuckerberg’s $19bn from the IPO because of the relative workloads each person invested! Investors do seem to be the biggest winners!

    • Financial Samurai says

      Ah, but so many investments also make poor returns or go to zero in the angel VC world too.

      We love to highlight the home runs and maybe the disaster stories but not the majority in the middle.

      But yes, investing is the easier way to go!

  4. Insourcelife says

    I guess depends on your nature – are you a gambler at heart? Then starting your own business with a goal of selling it off in the future might be what you need. And I am not talking about a 1-2 person business, but more like the 40 person business you described. It’s also better to do it when you have no family and no kids. One of the reasons I resigned from a business we started with a partner was because I wanted to spend more time with my family after our son was born and I don’t regret that decision one bit!

  5. Austin says

    Great article. The realities of selling are often less spectacular than the outlier stories we often hear about. In my mind, there is no doubt that the lifestyle business is the way to go. The objective should be to make it as passive as possible. Even this isn’t easy.

    Interestingly, the silicon valley culture you discussed has also lead to these sort of urban legends (and also very real legends) of 20-somethings who sell to Google/Facebook/et al. for a quick $xMM. As that sector matures it seems that the trend is turning toward IPO oriented exit strategies. Furthermore, these IPOs are built on insane valuations.. and people still just gobbling them up. My gut feeling is that Twitter is the icing on the cake here and may mark the burst to web2.0 bubble. I think that if we’re honest with ourselves we know that many of these companies don’t deserve, and can’t sustain, their IPO valuations.

    Perhaps it might be worth your time to establish a sort of dictionary where you can define things like EBITDA. I am sure there are plugins for this and wordpress makes it very easy to create custom post types for things exactly like this. This could be a great resource addition, add further depth to your site and be helpful for readers.

  6. retirebyforty says

    Wow, very informative. Now I’m not so jealous of my FI buddy. He spent 10+ years working his ass off. Not sure how the payoff though.
    I would go for mega million when I was younger. Now that I’m older, my aim is more modest and I’m shooting for the lifestyle.

  7. The First Million is the Hardest says

    Interesting take. I guess I’m with the majority when I assume someone is swimming in Scrooge McDuck levels of cash when they sell a startup like that. Personally, I’ll take the lifestyle business. My goals have always focused more around freedom and having the time to do what I want rather than having ALL the money.

    I’ve been out of the loop for a while, but good luck with the Yakezie project Sam!

  8. JC says

    One thing to remember….once you sell off your company…..you are now a thirty something year old who can leverage the fact that he/she has successfully built a multi-million dollar business, sold it to Apple, and (assuming) made money for investors. It most likely sets you up for a sweet resume to get that 9-5 job. OR, you start another company, and those same investors remembering their first profits will want so badly to invest in your new company you can negotiate terms in favor of less dilution.

  9. JC says

    As far as this $10k-$20k per month lifestyle gig you speak of, sign me up. I know this example is for sake of conversation but earning $200,000/year, living anywhere in the world, and working 15 hours a week…..c’mon man. You may be doing it, good for you, but I dont see this a default choice if one doesnt try to start their own company.

    • Financial Samurai says

      That’s true. Money doesn’t fall out of the sky and even the lifestyle business takes active energy.

      However in this particular case, $200,000 is raining from the heavens for relatively little work that registers a 1 out of 10 on the stress scale.

      This is a fun survey to get folks thinking about risk, reward, and what they really want out of money and life. We can always dream!

  10. Micro says

    I would be more inclined to the 9-5 as opposed to trying to build my own business off the ground. The money is greater in the later category but I would be losing a lot of free time. You can always find ways to earn more money but time is not something that is so easy to get back. There are enough people out there to show that you can pull of a simple 9-5 and make enough to retire comfortably a lot earlier than the traditional 65 year old.

  11. The College Investor says

    Thanks for sharing!Leaving our 9 to 5 job to do what we really want is something a lot of people want to do, so I will probably do the same thing if I’m given the opportunity to leave my job and just focus on my business, but I will probably do some other things differently by trying to achieve balance in my life no matter what. It is not easy, because being an entrepreneur can really be time-consuming especially at the onset of every venture.

  12. Levi Blackman says

    I really would love to leave my 9-5 but I live to diversify my income sources. I like working and having a business on the side because it provides me with outs in case something doesn’t work out. Business flops? Well at least I still have my job to fall back on. Fired from job? Well looks like its time to make this business hop!

    Of course passive income is sugar when it comes to my goals.

  13. greg says

    “anybody ever join a startup up that sold for mega-millions? How did you do financially and what did you do next?”

    Yes. My share wasn’t huge, but a sale in the high hundreds of millions was definitely helpful. There were incentives to stick around, too, so I did since there were great people to boot. Nothing much really changed from my perspective. I have yet to figure out how much I should attribute to my own grilling of execs before signing on around the business model and exit strategies and how much was just dumb luck =P

    To be honest, the opportunity cost of joining existed, but the base was still more than ample. And so it goes in tech.

  14. Ricky says

    I fully agree with going the lifestyle route vs taking a chance on a startup. The likelihood is just not there. I don’t trust myself as a human being to physically and mentally stay committed to something that is going to eat up so much of my life. Calculated risks also can’t help you here. I fall into the startup-age range and I can’t see the marginal benefit of making it super big worth the sacrifices that have to be made.

    Why, though, do you say if you’re suddenly worth millions of dollars that you will still have to work? Sure, you don’t want to just go into reclusive mode, but HAVE to work? I would seriously doubt it, even with abysmal returns and sub-par management of personal finance.

  15. Untemplater says

    I know a couple people who worked for start ups in the Bay Area. One guy got in pretty early and decided to get out for another opportunity later. He should have sold his stock when he left because things went south and now his shares are only worth a fraction of what they were. Another guy I know got out of a different start up and made huge bucks. There’s just no guarantee with these things. So many startups fail and it’s hard to know which ones will survive looking forward. I like stability, so I like being in the traditional route with one foot out in the lifestyle business. My goal is to get both feet out after I’ve saved some more money.

  16. krantcents says

    Besides the economics, I wonder if you really can make a choice. The entrepreneur usually chooses a business because he/she has a passion for it. I think the eventual riches has very little to do with the choice. They may see their choice as an opportunity for financial independence or just an opportunity to work for themselves. This considerably different from a windfall. Also, many of these entrepreneurs are serial and start more businesses not for the riches as much as a desire to create something or follow their passion.

    • Ace says

      Very good points!

      I look at starting a business as more of providing yourself a job (self employment) and to support activities which are interesting.

  17. Jack @ Enwealthen says

    There is something to be said for low stress work. Especially when you can support yourself, and still be learning something interesting every day. It’s only when that learning starts to decline that I find my interest waning, and performance suffering. That’s when you know it’s time to try something new.

    Having bought several Silicon Valley startup lottery tickets in my career, it only underscores the fact that the overwhelming majority of startup employees fail to receive a significant payout, while still working for sub-market wages. While I have to keep working for others, give me a steady paycheck in a large company with great benefits for now, and plenty of spare time to work on my own side gigs. The odds are better.

    Specific to Financial Samurai, I’m sure you can find plenty of people from the Yakezie network willing to guest blog for you to keep the content fresh while you’re focused on the ad network.

  18. Spencer says

    I think my dream would be to build the lifestyle business, where for only a few hours of work a week I could maintain a healthy living standard and location independence. However, I think I would continue to work on either building that “home-run” start up or continue to work at my other passions.

  19. RK says

    I have a business that I started by myself almost 4yrs ago. We have grown to 18 employees and revenues of $1,000,000 per year. It took me almost 2yrs before I was able to take a decent monthly check between 10 & 25k. Initially, growth was hurting our cash flow, but we did not take on any debt and still have not to this day.

    We are cash flow positive and I feel good about where we are at this time. I have many weeks where I work 10-15 hrs per week, but from time to time I am required to work more than a typical 40 hr week.

    While things are going well now, I am always a little paranoid about it coming to an abrupt end. We are diversified with our incoming cash flow, but I feel that complacency kills. It’s tough to find that perfect mixture of low hours, low stress and high income and be able to maintain that indefinitely.

    This past year I have “worked” from Costa Rica, poolside in Arizona and while sitting on a rock in the middle of a trout stream in Colorado. Once you are able to achieve this sort of independence, you never want to give it up. That’s when thoughts of, “am I working enough to maintain this level of success” thoughts creep in and create the paranoia of losing it all. Nothing lasts forever…right?

    I do feel as I have achieved the level of success I used to dream about during my days of working a 9-5. I always thought once I achieved my professional/financial goals that life would just stop in a freeze frame like in a John Hughes movies and play some really awesome 80′s song!

  20. Ace says

    Very interesting post, Sam.

    I would suspect the grave yard is considerably large! The media will always focus on the success stories.

    I’m happy that many people are willing to work so hard to create these new companies….. I enjoy the new services. And, the occasional investment idea.

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