Why your venture capitalist gets preferred shares and you don’t

You‘ve registered your company in Singapore, jumped through all the necessary regulatory hurdles and issued yourself and your co-founders common stock. Now you’ve started sending your pitch decks to venture capitalists throughout the country and they’re all asking for preferred shares in the event they invest in your company.

As an entrepreneur, you’re probably wondering why these investors get this special class of shares? They’re not the ones in the trenches, doing all the hard work. What makes them so special? And what’s the difference between these preferred shares and common shares anyway?

What are preferred shares?

During every round of investment, a new class of shares can be issued, and more often than not, they’ll be preferred shares. Presumably, the pricing and value of the shares will be different from that of the common shares. Compared to common shares, preferred shares are a class of shares that provide additional rights and privileges to the investors in that round. As the number of rounds of financing increases, there can be multiple series of preferred stock.

Why do venture capitalists get preferred shares?

In a nutshell, preferred shares provide the venture capitalist investing in your company protect and increase the value of their investment. For the most part, the investor is given these preferred shares because they’re taking a huge financial risk investing in your startup.

Getting preferred shares compensates for what will usually be a minority stake in the startup at a price normally higher than that of the common share and to retain a level of control over the company’s decisions. Unfortunately, the reality is that this comes at the expense of the common shareholder.

So what addition rights and privileges do preferred shares have?

This varies from funding round to funding round, and from investor to investor.

However, the rights that are usually asked for include:

1). Liquidation Preferences

2). Board Seats

3). Information and voting rights

4). Dividend rights

5). Anti-dilution rights

These will be explained in more detail in subsequent blog posts.