9/10/2014 The Handshake Deal Protocol

http://www.ycombinator.com/handshake/ 1/6
Silicon Valley runs on
handshake deals. A handshake
deal is a verbal commitment to
a transaction. The actual
transaction comes later, when
documents are signed and
money changes hands.
Why do we need handshake deals? Why not
just wait till the actual transaction? Because
things can happen fast in the startup world.
So both investors and founders need a way to
reserve space in a transaction. Founders need
it because creating documents and getting
them signed would slow down their
fundraising, and investors need it because if
they had to wait for documents to get created
and signed before they could commit, theyd
miss out on the hotter deals.
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The Handshake Deal Protocol
Paul Graham March 2013
Intro
9/10/2014 The Handshake Deal Protocol
http://www.ycombinator.com/handshake/ 2/6
Handshake deals are not unique to Silicon
Valley of course. They tend to arise wherever
trust is sufficiently high and speed is
sufficiently important. Diamond dealers
apparently use them a lot.
Unfortunately, things dont work as smoothly
in Silicon Valley as among diamond dealers.
This is not a closed community of pros who
deal with one another day after day. Many
participants in the funding market are noobs,
and some are dishonest.
Every cycle we get reports of supposed
handshake deals that fell through. Without
video of the conversation its hard for us to be
sure whether there really was a deal and the
investor welched, or there wasnt and the
founders are just victims of their own
wishful thinking.
The problem is compounded by the fact that
some investors deliberately mislead startups
about how interested they are in investing.
Startups prospects can change rapidly. If
investors say no in a way that sounds like yes,
they can essentially take a free option to
invest. They havent actually committed, so it
costs them nothing, but if the startup turns out
to be a hot one, they can retroactively claim
that their almost-yes was an actual yes, and
that the startup is morally obliged to let
them invest.
Fortunately there is a way to fix most of these
problems: to define a standard protocol for
The
Problem
The
Protocol
9/10/2014 The Handshake Deal Protocol
http://www.ycombinator.com/handshake/ 3/6
handshake deals. Were going to start using
this within YC, and we hope it will spread to
the rest of the startup community.
The protocol defines an offer as an amount to
be invested, plus a valuation or valuation cap
(or no cap), plus an optional discount. Here
are some example offers:
$100k at $5 million pre-money.
$100k at a $5 million cap.
$100k uncapped.
$100k uncapped with a %10 discount.
According to the protocol, you have a
handshake deal if and only if the
following happens:
1. The investor says Im in for [offer].
2. The startup says Ok, youre in for [offer].
3. The startup sends the investor an email or
text message saying This is to confirm
youre in for [offer].
4. The investor replies yes.
Unless and until this process is completed,
there is no handshake deal. So it is in the
interest of investors to complete the 4th step,
because until they do the startup is under no
obligation to take their money.
Since both parties will usually have mobile
devices from which they can send such
messages, they should ordinarily do it in
person as the final step of the agreement.
They should each regard it as suspicious if the
Audit
Trail
9/10/2014 The Handshake Deal Protocol
http://www.ycombinator.com/handshake/ 4/6
other is unwilling to.
At the very least this protocol will tell us
whos at fault if we get a report of a
handshake deal falling through. But it should
do more than that. A definite protocol that
leaves a trail will both prevent founders from
misleading themselves, and discourage
investors from misleading them.
I dont think the offer has to specify the
documents to be used. In practice this is rarely
an issue. People either use one of the
standard documents (for small investments)
or negotiate in good faith (for large ones).
Market terms are well enough understood
that it should be easy to see whos at fault if
one party is making difficulties about the
terms, and thats all we ask from this protocol.
The protocol deliberately makes it
impossible to say certain things. For example,
an investor cant just say theyll invest $x,
without specifying a valuation or cap. Investors
who do that can escape their commitment
later by claiming the price turned out to be
too high. An offer to invest has to specify a
valuation or cap, or no cap. Otherwise its
incompletely defined and thus not even
an offer.
It also isnt possible to make a handshake deal
on an offer to invest a range of money.
Investors will sometimes try to make a deal to
invest, say, $50k to $150k. If a startup agrees
to that, theyre obliged to save $150k of space
Avoids
Ambiguity
9/10/2014 The Handshake Deal Protocol
http://www.ycombinator.com/handshake/ 5/6
but the investor is only obliged to invest $50k.
An offer to invest a range of money is really
two separate things: an offer to invest the
bottom end of the range, plus an expression
of interest in possibly investing more. So we
suggest startups respond to each separately:
do a handshake deal for the bottom end of
the range, and respond politely to the
investors interest in investing more, but dont
feel any obligation to take more money till the
investor commits to investing it. Knowing
theyre guaranteed no more than the lower
end of their range should sometimes cause
investors to commit upfront to investing more.
And if it doesnt, it would have been a mistake
for the startup to rely on getting more.
Finally, it isnt possible to add conditions to a
handshake deal. For example, there is no way
for an investor to use this protocol to offer, as
some investors try to do, to invest if other
people wille.g. to say that theyll invest as
part of a larger round if you can find a lead.
That sort of commitment is so worthless in
practice that its a mistake for startups either to
rely on it, or to feel themselves bound by it. Its
not even rightly considered an offer, but at
best a lead (and one that will rapidly
grow cold).
Startups and investors can of course make any
sort of arrangement they want. But they dont
have a handshake deal according to this
protocol unless the terms are precise
and unconditional.
9/10/2014 The Handshake Deal Protocol
http://www.ycombinator.com/handshake/ 6/6
Thanks to Sam Altman, Marc Andreessen,
Paul Buchheit, Ron Conway, Ronny Conway,
Chris Dixon, Ben Horowitz, Ash Patel, Geoff
Ralston, Joshua Schachter, Harj Taggar, Albert
Wenger, and Fred Wilson for reading drafts
of this.
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