😮 Substack Deal Goes Wrong!

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SUBSTACK DEAL GOES WRONG

Every so often, I share my entire angel investing portfolio with my subscribers.

I tell everything - which startups are included, how much I invested, and what my equity is worth now.

The latest update was in May, you can check it out here.

I posted one of these updates in July of 2023.

One of my followers, who I’ll keep anonymous, reached out to see if I’d be willing to part ways with my equity stake in Substack.

Substack was one of the hottest community rounds to ever exist, period.

On the day of their launch, $2M flowed in. Within 3 weeks, that figure ballooned past $7.8M.

Not everyone was able to get a piece of the offering - and this potential buyer was one of them.

AN UNBELIEVABLE RETURN

My equity in Substack cost me $500, and the buyer was offering to double that price.

A 100% return was too enticing to pass up, especially since I already had concerns with Substack’s latest valuation.

We drafted up an agreement, but there was one snag in the deal.

SEC regulation mandates that equity investments acquired through Reg CF must be held for 1 year before being sold to a buyer.

The buyer and I agreed to sign the contract, but facilitate payment in a year when the actual transfer of the shares could take place.

Still, this would be a 100% return in just a year’s time.

The best VC’s in the world aim for an annual return of 20-25%, and this sale would quadruple that.

So, fast-forward a year. I message the buyer: ‘let’s do this thing’.

He replies saying that he would send the payment right after he worked out some banking logistics on his end.

I followed up with the buyer a week later.

Radio Silence.

The following week, I saw a tweet of his proudly announcing a splashy investment in a new startup. So I reach out again - clearly the money can be sent now if he’s investing in other companies.

He messages me back, asking for advice on a potential startup - ignoring my previous messages.

I redirected his attention to our agreement, as pictured below.

Over the next 3 months, a weird communication pattern evolved. The buyer would reach out to me about potential startup deals he wanted to invest in, but somehow not have money to pay me.

As one could imagine, I was losing my patience.

I upped my pressure, and eventually the buyer remarked that he did not have the money to pay me.

Now, why was I pressuring so hard to finalize the deal? Obviously, it would have been a great return for me. But I had yet to transfer the shares, so it’s not like I ‘lost’ anything.

Let’s imagine this scenario played out during the 1-year waiting period: Substack explodes in growth and gets acquired for a 1,000% return.

Not the most likely event, but a legitimately viable outcome.

I would have still given him the equity, which would have appreciated to $5,000 in value had this scenario happened. He essentially optioned the deal, waiting to see how it played out for a full year before walking back on the agreement.

This gave him zero risk, and all the upside.

A RESOLUTION EMERGES

Now all hope wasn’t lost. We had signed a contract, so legally the buyer was obligated to pay.

However, there was a chance he legitimately might not have the money - I couldn’t know his situation for certain and I ultimately didn’t want to put someone into debt over something relatively small.

We came to an agreement that the buyer would pay a ‘breakup fee’, which is common in M&A deals but not typically used for the sale of stock.

Essentially, a breakup fee is a monetary sum the buyer pays to the seller in case the deal falls through.

The buyer and I agreed on $100, or 10% of the agreed upon purchase price.

I got the payment, still have the shares, and the 15-month saga officially came to a close.

LESSONS FROM THE DEAL

I was hoping this article would be a walkthrough of how a successful transaction is carried out for startup investments, but it’s not always that clean.

This was a learning experience for me, and I had a few key takeaways that I walked away with:

• ALWAYS sign a contract. I’m more of a handshake agreement kinda guy, and it was actually the buyer who put together the contract. This turned out to be a lucky break, as I would have no leverage if a deal was never signed.

• Reputation is everything. One bad transaction can seriously damage your reputation, preventing further deals from coming your way. It’s likely that I won’t do business with this buyer again, but if I do I’m requiring 100% payment upfront.

• Set Deadlines. I wasted lots of time and energy following up with the buyer for 3 months. I wish I had included a clause in the contract that specified ‘Payment must be received by X date’. It would have at least shortened the amount of time I would’ve spent following up.