CHAPTER 17

Chapter 17Funding a

Rapidly Growing Venture

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Learning Objectives

• Explain the role of the venture capital market

• Describe the process associated with the initial public offering

• Discuss how to grow with strategic alliances

• Explain ways to value a business


The Cost and Process of Raising Capital

• Raising money takes time– It takes twice as long as expected for money

to reach the bank– The chosen financial source many not

complete the deal• Entrepreneurs always need backup investors• Second round investors often buy out first round funding

sources

• “It takes money to make money”


The Venture Capital Market

• Venture capital: – A pool of money managed by professionals– The ability to secure funding depends upon

• The status of the venture capital industry• What the entrepreneur brings to the table


Figure 17.1: Total U.S. Investment in Billions


Figure 17.2: Venture Capital Investment by Industry for 2006


Sequence of Events - Securing Venture Capital

• Understand the goals/motivations of the venture capitalists

• VCs are fundamentally risk averse • Three major stages during which entrepreneurs

receive funding • Idea and proof of concept stage• Early growth and transition• Rapid growth


Figure 17.3: Funding Stages and Risk


Funding Stages and Risk

• Venture capitalists scrutinize new opportunities by evaluating:

• The market• Management• Technology

• Venture capitalists also look at potential for significant growth, risk of failure and the quality of the business plan

• Perform due diligence on the venture activity• Venture capitalists invest in growing businesses

through the use of debt and equity instruments to achieve long-term appreciation on the investment in 3 - 5 years


Getting to a Term Sheet

• Does not guarantee a “done deal”• Lays out the amount of investment the VC firm

is willing to consider and the conditions under which it is willing to consider the funding

• Entrepreneur not required to accept the term sheet as is


Capital Structure

• Components of an investment deal– Amount of money to be invested– Time and use of the investment monies– Return on investment to investors– Level of risk involved

• Provisions of the deal– Equity and debt positions– Anti-dilution provision– Forfeiture provision


The Initial Public Offering-IPO

• Advantages-disadvantages of going public– Advantages

• A big source of interest-free capital • Future option of additional stock offerings• More prestige and marketplace clout• Restricted stock and stock options can be used to

attract new employees and reward existing employees • Easier for founders to harvest rewards• Restricted stock and stock options can be used to

attract new employees and reward existing employees


The Initial Public Offering-IPO (continued)

• Disadvantages– Dramatic decline in pre-IPO issuer’s financial

condition and significant rise in failure rate post-IPO

– Public offering process is expensive– Going public is very time-consuming– All company proceedings become public– Stringent disclosure rules under Sarbanes-

Oxley Act – Intense pressure post IPO to perform in the

short term


Figure 17.4: The IPO Process Simplified


Growing Via Strategic Alliances

• Collaborative relationship between two or more firms

• Intent is to accomplish mutually compatible goals that would be difficult for each to accomplish alone

• Advantages of alliances with big companies:– Excellent course of growth capital– Better financial deal for a growing company

• Cautions:– Investigate the potential partner carefully– Investigate best business practices– Ensure that benefits will flow in both directions


Valuing The Business

• Financial yardsticks– Fair market value– Intrinsic value– Investment value– Going-concern value– Liquidation value– Book value


Calculating the Value of a Business (continued)

• Non financial yardsticks– The experience level of the management

team– Firm’s distribution channels level of

innovation– Nature of the company’s relationships in the

industry and with customers– Company’s ability to be fast and flexible– Amount/kind of the company’s intellectual

property


Methods for Valuing a Business

• Financial measures– Multiple earnings– Discounting cash flows– Real options model– Venture capital model

CHAPTER 17

Economy & Finance

venture capital investment

venture capital industry

growing venture

securing venture capital

risk venture capitalists

investment deal

venture capitalists

financial deal