Napster killed the music industry. Launched in 1999, Napster allowed users to download and share MP3 files. Before the internet, we bought and sold music. Now it was free. By March 2000, Napster had over 20 million users. Fans had no incentive to buy records anymore. The Recording Industry Association of America (RIAA) determined this to be copyright infringement. They took legal action against Napster. By 2001, a federal court order it shut Napster down. Sean Parker was a co-founder of Napster.
In the summer of 2004, Mark Zuckerberg and his team rented a five-bedroom house. The address is 819 La Jennifer Way in Palo Alto, California. Referred to as the “Facebook House” it served as the new headquarters. His team included Sean Parker and Dustin Moskovitz. Eduardo Severin, co-founder and chief financial officer, stayed behind in New York.
Methods of Prosperity newsletter is intended to share ideas and build relationships. To become a billionaire, one must first be conditioned to think like a billionaire. To that agenda, this newsletter studies remarkable people in history who demonstrated what to do (and what not to do). Your feedback is welcome. For more information about the author, please visit seanallenfenn.com/faq.
Last week on Methods of Prosperity: Before creating Facebook, Mark Zuckerberg created Facemash. Facemash allowed Harvard students to compare and rate each other’s student ID photos. Harvard shut it down after two days due to privacy concerns. This project caught the attention of the Winklevoss twins. They approached Zuckerberg to work on a similar social network concept, Harvard Connection. Zuckerberg instead developed TheFacebook. He co-founded it with his friends Dustin Moskovitz, Chris Hughes and Eduardo Saverin. Launched in 2004, he faced legal action from the twins who claimed TheFacebook was their idea. Zuckerberg’s focus wasn’t on monetary gain but on connecting people globally. Zuckerberg dropped out of Harvard during the summer of his sophomore year. He relocated to Silicon Valley.
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The following is Methods of Prosperity newsletter number 39. It was originally deployed March 14, 2024. As of November 21, 2024, original subscribers have received up to issue number 75: Sam Zell (continued).
Part 39:
TL;DR
Mark Zuckerberg was a child prodigy. He learned to code and ship useful software. This included CourseMatch, which helped students choose their classes. That predated Facemash, the hot-or-not game. He co-founded Facebook at Harvard University in 2004. Eduardo Saverin contributed significant financial support. Facebook grew in popularity. This motivated Zuckerberg and co-founder Dustin Moskovitz to move operations to Silicon Valley.
Sean Parker, co-founder of Napster, played a crucial role in Facebook’s early development. He became its first president and helping secure essential investments. This included a pivotal $500,001 angel investment from Peter Thiel.
As Facebook evolved, tensions arose between Zuckerberg and Saverin. Zuckerberg arranged the dilution of Saverin’s shares. This restructuring removed Saverin from the company. Facebook began turning into a major social media platform. This transition enabled further investments and set the stage for its global dominance. But the lawsuits were about to intensify.
Key lessons:
Pay attention to corporate structure.
Understand how shares work.
Be in proximity to your team.
Stay aligned with your team.
Be prepared for lawsuits.
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During the early stages of Facebook’s development, Saverin played a crucial role. He guided Zuckerberg on financial and marketing aspects. Zuckerberg and Severin agreed to invest $1,000 to start TheFaceBook. Saverin chipped in more. On January 8, 2004, an IM conversation between Zuckerberg and a friend revealed how much more. Zuckerberg owned ⅔ of the company and the rest belonged to Saverin.
Mark Zuckerberg, born May 14 1984, is from an upper-middle class family in White Plains, New York. His father, Edward Zuckerberg, was a dentist. His mother, Karen was a psychiatrist before Mark and his siblings were born.
Mark was a child prodigy. In last week’s newsletter, you may recall that Mark created video games. He created a family messaging program called “Zucknet”. Which his father used at his dental office. If that’s not impressive, you may recall that he turned down an offer from MicroSoft. Microsoft wanted to acquire his music player named Synapse. His parents hired a private computer tutor named David Newman. Newman later reported that he had a hard time keeping up with the child prodigy.
Around that time, Mark took graduate courses at Mercy College. He later studied literature at Phillips Exeter Academy prep school in New Hampshire. There he earned a degree in classics and became captain of the fencing team. At Harvard, before FaceMash, Mark created a program called CourseMatch. It helped students choose their classes based on the course selections of others.
Eduardo Severin was born into a wealthy family March 19, 1982, in São Paulo, Brazil. His father, Roberto Saverin was in real estate, logistics, and retail. At Harvard, Eduardo could afford to fund his friend Mark’s social network. Eduardo stood by Mark when the Winklvoss twins went after him. They accused Mark of stealing their idea.
Now everything changed. Two weeks after TheFacebook went live on February 4, 2004, it already had 4,000 members. Mark took a 65 percent ownership stake. Eduardo agreed on a 30 percent ownership stake. Dustin Moskovitz had a five percent ownership stake in the new company. By August, Mark and Dustin decided to relocate to Silicon Valley. He moved into the house in Palo Alto, while Eduardo chose to take an internship at Lehman Brothers. This was the beginning of the end of Eduardo and Mark’s friendship.
Meanwhile, at the Facebook house, Sean Parker had a reputation in Silicon Valley. As co-founder of Napster, he was a living legend. He became the company’s first president in 2004. As legend has it, he advised Mark to drop “The” from “TheFacebook”. Parker’s experience and networking skills were instrumental. He secured investments and partnerships for Facebook. He helped transition it from a college project into a viable company. Sean Parker introduced Mark Zuckerberg to Peter Thiel during a dinner in New York.
Peter Thiel made a $500,001 angel investment in the summer of 2004 for 10.2% of Facebook. Accel Partners made a $12.7 million venture capital investment in Facebook in April 2005. This brought Facebook’s valuation to $98 million. Facebook attracted other early stage investors. Jim Breyer from Accel Partners. Maurice Werdegar from Western Technology Investment. It also included Greylock Partners and Meritech Capital.
That capital raise couldn’t have come at a better time, but there was a major problem. Facebook’s CFO, Eduardo Saverin was still on the East Coast, unresponsive. Not only did Severin hold 30 percent of “dead equity” in Facebook, now he was impeding progress. It became necessary to restructure the company. Mark Zuckerberg, Sean Parker, and Dustin Moskovitz terminated Eduardo Saverin from Facebook. They diluted his shares into oblivion.
Zuckerberg formed the original LLC in Florida. Going forward, Zuckerberg created a C-Corp in Delaware. That C-Corp would absorb the LLC in Florida. For the purpose of funding rounds, LLC’s are not the ideal corporate structure. This kind of restructuring would have required Eduardo’s signature under the law. Instead, a C-Corp works by a share distribution. That’s why Zuckerberg created a C-Corp in Delaware. Shareholders in a C-Corp do not transfer or sell them. Instead, if a new investor comes along, the company issues more shares for the newcomers.
Eduardo Saverin froze TheFacebook bank account out of desperation. He tried to get Mark Zuckerberg’s attention in 2004. This action was an attempt by Saverin to address concerns. He tried to assert his position within the company. Zuckerberg’s family had to pay $85,000 to keep the company alive until Peter Thiel’s money came in.
On October 31, 2004. Saverin signed an agreement. The agreement left him with three million shares in the new C-Corp, but no shares from the old LLC. Zuckerberg arranged for the delegation of Saverin’s rights. On January 7, 2005, Zuckerberg issued more than 9 million more shares in the new company. These new shares were compensation to active employees in the company. Saverin was not an employee. This was a Stock Option Pool, which is typical in the startup world. Sean Parker and Dustin Moskovitz earned more shares. Eduardo Saverin had no voting rights and was no longer active.
Accel Partners led another round of funding in April 2005. Facebook raised $12.7M on a $98M valuation. It was at that point that Eduardo noticed that Zuckerberg and company ripped him off. Saverin’s shares went from 30% to 10% (contrary to the 0.3% claim of David Fincher’s The Social Network). This was before Facebook’s IPO in 2005.
Remember the Winklevoss twins and Narendra? Severin went on the offensive, teaming up with them. Facebook was about to become the biggest social network in the world. They wanted revenge against Zuckerberg.
To be continued...
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