Financing start-up and growth , venture capitalist

Start-up finance

1. 18-1
Overview
•Starting with a plan
•Financing start-ups
•Financing growth
•Valuing the business

2. Risk Points and Associated Funding
Preparation for Start-Up
Seed Capital
Friends and Family
Private Investors
SBIR/STTR
Early Stage Funding
Private Investors
Some Venture Capital
Strategic Partners
Late Stage Funding
Venture Capital
Public Equity
Strategic Partners
Revenues
Manufacturing
Risk
Development
Risk
First
Customer
Marketing
Risk
Management
Risk
Initial
Public
Offering
Year 1 Year 2 Year 3

3. 18-3
The Fundamental Truths
About Raising Money

4. 18-4
1: Raising Capital
•Takes twice as long as projected
•Investors identified may not work out
•Second-round may request buyout
•Significant costs to raising capital

5. 18-5
Upfront Costs
Financials
Consultant
CPA/Auditor
I-Banker
Marketing Costs
Prospectus
Legal
Printing
Back-end Costs
I-Banking
Legal
Brokerage
Easily up to $200,000
2: Cost of Raising Capital

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3: Can You Impress Investors?
•Defensible competitive advantage?
–Patented technology
–Cycle time
–Marketing, advertising, and sales force
–Low cost manufacturing
•Customers?
•Experience?
•Growing market?
•Who are your friends?

7. Understanding the Funding Stages

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Start with a Financing Strategy
•Look for smart money (who invests is
more important than terms)
•Buy top management with first $$$
•Get moving fast, early prototype with
customer feedback
•Focus on one investor and get an intro
•Don’t marry your first date
•Go for the best deal, not the biggest

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Financing the Start-up
•Entrepreneur resources
–Savings, credit cards, mortgages, stock
market accounts, friends and family
•Bootstrap
–Hire as few employees as possible
–Lease or share everything
–Use other people’s money

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Stage One: Bootstrapping
in an Incubator
•Average incubee’s sales increased
•> 400% from time entered to time exited
•> Average annual growth in sales
was $239,535
•87% of grads still in business
–Only 20% of new start-ups

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Do Incubators Meet Needs?
•Higher order needs need to be met
–Human network, access to expertise and
capital, partnerships, professional resources,
product design, first 100 customers
•Some negatives
–Perception of being babied
–Artificial buffer
–Equity stake by incubator

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Stage One: Private Investor
“Angel” Profile
•Educated white males—40s/50s
•Net worth over $750k
•Used to be entrepreneurs
•First stage financing and young firms
•Invest near home—involved
•One to two deals a year
•Invest between $10,000 and $500,000

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More on Angels
•3 to 10 year time frame for ROI
•5–10 times their investment, function
of risk
•Find deals through referrals from
business associates
•Make decisions more quickly
•Requirements for due diligence may
be lower

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MORE on Angels
•Order of investment interest
–Manufacturing—industrial/commercial
–Manufacturing—consumer
–Energy/natural resources
–Services
–Retail/wholesale

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An Unlikely Angel Investment
•A “me too” type of product
•No intellectual property
•Business location more than 100 miles away
•Mature or fading industry
•Return on investment less than 15 percent
•Not enough market research with customer
•Weak competitive analysis

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An Unlikely Angel Investment (cont.)
•A poorly defined vision for the company
•No management team, a solo entrepreneur
•Weak management team with no experience
•Exit time more than 7 years away
•Unfamiliar business or industry
•Minority position with no voting rights
•Too many co-investors

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What Winning Angels Do
•Consider the source carefully
•Focus on the model, not the plan
•Emphasize the entrepreneur and the team
•Seek a scalable business
•Look for the exit
•Identify the unfair advantage
•Focus on deals where they know something

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Stage One/Two:
Private Placement
•Raising capital from
private investors
–Securities:
common/preferred stock,
notes, bonds, debentures,
limited partnership shares, etc.
•Reg D
–Sophisticated investors
–Blue Sky laws

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Private Placement
•Advantages
–Less costly, less time consuming than IPO
–Availability of standardized offering
statements
–Don’t have to file with SEC

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Alternative Sources
•Strategic alliances
–R&D limited partnership
–Joint venture
•Small Business Investment
Company (SBIC)
•SBIR Grants
–Phase I: develop concept and test feasibility
–Phase II: pursue the innovation and develop
the product
–Phase III: commercialize the technology

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Debt Sources
•Commercial banks
•Commercial finance
companies
•Small business
administration
•State-funded venture capital
•Incubators
•Customers and suppliers

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Venture Capital
•Less than 1% of the
300K companies growing
20%+ per year are
backed by VCs

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Venture Capital Terms:
Basic Principles
•VC gets money back first
•Participation in upside
•Control over fundamental events
•Creation of path to liquidity
•Preferred stock is the investment security
of choice

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Capital Structure
•Investment deal has
–Amount of money to be invested
–Timing and use of investment moneys
–Return on investment to investors
–Level of risk involved
•Preferred stock or debentures

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Rules for Dealing with VCs
•Know your enemy
•Don’t shop the business plan
•Approach through a referral
•Write a killer executive summary
•Check out the terms sheet carefully
•Be patient
•Be prepared for a staged investment

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What VCs Relate to
•Location can matter
•Growth track: bigger is better
•10X investment in 5 years
•25–50% per year
•PE = 15:1 or more

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What VCs Relate to (cont.)
•Planned exit—make it short
•New paradigm, lead products
•Number of co-investors
•Bridge financing to position for an IPO
•Board seats

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Ownership
•Stage 1: give up 30% + for every $1M
•Stages 2–3: give up 8–15% per $1M
•Stages 4,5,6: give up 5–6%

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Your Due Diligence on the VC
•Identify your dream teams
•Don’t accept a term sheet before due
diligence. Stay in control
•Request 5 references from each VC

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Your Due Diligence on the VC (cont.)
•Interview references
–Why did you choose this firm?
–How effective have they been in securing deals
and partnerships?
–How effective have they been in recruiting
board members?
–How have they helped your company increase
its valuation?
–On a scale of 1–5, how would you rate the
contact partner?

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The Initial Public Offering (IPO)

32. The IPO Process

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Advantages of Going Public
•Source of interest-free growth capital
•More prestige and clout
•Easier to form alliances and
negotiate deals
•Public stock used to attract employees
and reward existing employees

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Disadvantages of Going Public
•Expensive process: $300,000+
•Time-consuming
•Company information is public
•CEO responsible to shareholders
•Entrepreneur may not control stock
•Pressure to perform in the short term
•SEC reporting requirements

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Of 3,186 firms that went
public in 1980s, only 58
percent still listed on one
of three major exchanges

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The stock of only one
third of these firms was
selling above issue price

37. Development
Seed & Early Stage Growth & Harvest
R&D Break-even
Profitable, Needs
Expansion Capital
Buyout,
Merger, IPO
Direct Offerings
Warrants
Common Stock
Common Stock Common Stock
First Customer
Multiple
Customers
Multiple Products
May 2002 Nov 2002 June 2003 Sept 2005
Notes
Bonds
Debentures
Common Stock
Preferred Stock
Direct Offerings
Sept 2003
Direct Offerings
Warrants
Notes
Common Stock
Preferred Stock
Debentures
Major Financing Instruments
at Different Milestones

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Valuing the Business
•Fair market value: willing seller and buyer
•Intrinsic value: interpreting balance sheet and
income statements
•Investment value: worth to an investor
•Going concern value: current financial status
•Liquidation value: amount recover from
sale of assets
•Book value: accounting measure that is the
difference between total assets and total liability

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Valuation Methods
•Multiple of earnings
–Market price of common stock/earnings
per share
•Discounted Cash Flow Analysis
–How much an investor would pay today to
have a cash flow stream of X dollars for X
number of years into the future

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Other Factors in Valuation
•The assumptions used to estimate value
•The degree of legitimate control the owner
has in the business
•Intangibles like a loyal customer list and
intellectual property
•The bottom line: Negotiation determines
the value

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Summary
•Plan financing stages carefully
•Use friendly money first
•Stick with private placement as long
as possible
•Do YOUR due diligence
•Get references
•Be proactive