PowerPoint Presentations

Growth Funding

Patterns of EntrepreneurshipChapter 7

Session 6: Financial Alternatives for Debt and Equity Capital

copyright 2003 Jack M. Kaplan

Session Outline

• Understand the Venture Capital Process

• Private Placement Process

• Value the Venture

• Select the Valuation Method

• Prepare a Presentation to Investors


Venture capital firms

Investment banking firms

Insurance companies

Large corporations

Growth Equity Investors


Understand the Venture Capital Process

Specialized Industries for the ventureThe Location of the VentureStage of DevelopmentEarly Stage Financing Expansion FinancingAcquisioion/Buyout Financing


VC firms want returns of 30% or more Only for high-growth companies Require deals over $2 million to invest Most often, VC is not available until the

company is ready for commercialization of the product or services

Most want a exit strategy in 3-5 years

Venture Capitalists


The Venture Capital Process

EntrepreneursVenture

CapitalistsInvestment

Bankers

PrivateInvestors

Public Market•Corporations•Angles

Funds

Ideas

Funds

IPO’s

Money Stock


The Logic of the Deal

• Typical start-up - Venture Capital Fund will invest 2-3 million for 40% preferred equity ownership position.

• This gives V.C. a liquidation preference over common shares until the 2-3 million is returned.

• If Venture fails, they have first claim to assets and technology.

• Also blocking rights over key decisions including sale of the company and IPO.


• Antidilution clauses or “Rachets” - This protects against equity dilution of additional rounds of financing at lower values take place.

• This preferential treatment comes at the expense of all common shareholders.

• If company does well, V.C. enjoys upside provision by having right to put additional money at a set price.

• Limit risk by co-investing with other firms.


The VC “LANDSCAPE” in 2000

# of VC Firms in Existence

# of Professionals

# of First Time VC Funds Raised

# of VC Funds Raised This Year

VC Capital Raised This Year ($B)

Avg VC Fund Size Raised This Year ($M)

Source: NVCA Yearbook 2001; Venture Economics

1980

87

1035

24

57

2.08

36.5

1990

375

3794

14

82

3.20

39.0

2000

693

8368

164

497

105.05

211.4


The Committed Capital Bubble

0

5

10

15

20

25

30

35

40

1995 1996 1997 1998 1999 2000 2001

0

1

2

3

4

5

6Uninvested VentureCapital

Years of UninvestedCapital

Years of UninvestedCapital at 1995Investment Pace

Source: VentureOne

Years

Accu

mu

late

d C

ap

ital

Over-

com

mit

men

ts (

$B

)


The Illiquid Bulge

From 1995-2000:

14,463

978

1,529

1,180

10,776

Companies funded

Went public

Were acquired

Went out of business

Remaining

Source: Venture Economics; Venture Source

--

-


A Generic Late 90’s Model

Round Type Date

Amount Raised (MM)

Pre-Money Valuation

(MM) IRR Multiple

1 Seed Jan-97 $ 5 $ 35 79% 18.37

2 1st Jan-98 $ 10 $ 100 65% 7.35

3 2nd Jan-99 $ 25 $ 200 59% 4.04

4 3rd Jan-00 $ 60 $ 600 52% 1.52

5 IPO Jan-01 $ 1000

$ 100 Million


A Generic Early 90’s Model

Round Type Date

Amount Raised (MM)

Pre-Money Valuation

(MM) IRR Multiple

1 Seed Jan-90 $ 0.50 $ 2 101% 32.53

2 1st Jan-91 $ 3.00 $ 10 70% 8.13

3 2nd Jan-92 $ 8.00 $ 32 50% 3.30

4 3rd Jan-94 $ 13.50 $ 100 32% 1.32

5 IPO Jan-95 $ 150

$ 25 Million


Why It’s Great To Be An Entrepreneur - TODAYUS Venture Capital Partnership ReturnsVersus Public Market Returns

Funds Formed 1969-1999 (quarterly returns)

-30

-20

-10

0

10

20

30

40

50

60

Quarter

Qu

arte

rly

Ret

urn

VC Partnerships

Nasdaq

Source: Venture Economics/NVCA


The opportunity is considered “hot” area The venture delivers scalable technology There are client references The team is diligent and goal The entrepreneur is skilled in finance, capital

and deal structures Realistic expectations are incorporated into

goals of the company

Profile of the Ideal Entrepreneur from a VC Perspective


Two Formal Methods:

• Private placement• Public stock offering Private placement controlled by Regulation D of the

Federal Securities Act

Rule 504

• Up to $1,000,000• 12 month completion period• No restrictions on the number of investors

Equity Financing


Rule 505• Up to $5 million• 12 month completion period• No more than 35 non accredited investors and

unlimited number of accredited investors

Rule 506• Unlimited amount of raising funds• No more than 35 unaccredited but sophisticated

purchasers.and to unlimited number of accredited investors.

• must be able to evaluate merit and risks.

Equity Financing


First: Determine motive for valuing the business

– Selling stock or buying a business

Second: Define what is to be valued– Entire company, product line or a unit

division– Income stream determination

Third: Set a point in time for valuation

Valuation Process


Recent profit history

General conditions of company

Market demand and competition -- at time of offering

Ability to transfer goodwill

Future profit potential

Management team

Factors to Assess a Company’s Value


Valuation: Select the valuation method– Apply the methods and compute valuation

Weight the Values: Apply a percentage allocation to each value (E.G.: 40% to adjusted book value, 30% price earnings, and 30% to discounted value)

Determine Value and Weight


Asset Valuations

Earnings Valuations

Discounted Cash Flow Valuation

Valuation Techniques


No single valuation captures the real value of the firm. Value is the perception of opportunity, risk, and financing resources available.

Difference is determined by vision, market analysis, time pressures, and negotiating.

Valuation Statement


Asset Valuation

– Book Value– Adjusted Book Value– Liquidation Value– Replacement Value

What is the Business Worth?


Book value – Current assets + property + equipment (net of depreciation)

– Total net worth

Used primarily for accounting purposes

Asset Valuation


Current assets + market value of property + equipment + intangible assets

Adjusts for large discrepancies (land, equipment)

Better reflects actual market value

Adjusted Book Value


If the business is sold

Value of assets - quick sale

Asset valuation does not consider intangible factors such as reputation, talent, or goodwill

Liquidation Value


Historical Earnings

Future Earnings

– Projected earnings

– Nature of industries and similar companies

– Anticipated economic conditions

Earnings Valuation


Prepare Executive Summary

– Company, market potential, marketing strategy, competitive position, milestones, product position, financial summary

Prepare Forecast: 1-3 Years

– Monthly: year 1

– Quarterly: year 2 and 3

Choose Valuation Process

Earning Valuation for Start-Up Companies


Determine P.E. Ratio

– Select similar public companies if available

– Use S&P quarterly industry analysis handbook for your P.E. ratio

– Reduce P.E. by 50%, if your size is smaller and illiquidity factor (holder may not be able to sell shares without considerable effort).

Earning Valuation


Use Factors for Rating Scale of 1-6 – Risk assessment

– Competitive position

– Industry and company

– Growth opportunity

– Desirability

– Total and average

How to Calculate P.E. Multiple


Form a corporation Authorize 2 million shares Issue 1million shares Projected P&L is $200,000

Profit after 3 years (EBIT) Projected P.E. is 12 for your industry

(after careful analysis)

Guidelines Using Earning Valuation


Value company at 2.4 million today

Each share is $2.40 outstanding

Determine amount you require to raise

– Sell 100,000 shares @ $2.40

– You are offering 10% of the company for $240,000

Value Guidelines


Select adviser(s) Complete business plan Define use of funds Seek qualified advise from lawyer Select a mentor to advise you Target investor group

– Personal, family, angels, professional

Guidelines


Prepare a Presentation to Investors

– Non-Disclosure / Non-Compete Agreement

– Demo of product

– Hand-outs

– PowerPoint presentation

– Determine if you want qualified or determine if you want qualified or non-qualified investors

– Subscription Agreements

Guidelines


Is useful to investors who are attempting to appraise a return on investment and return on time

Forecasts cash flows and discounts them back to the business

Must have positive cash flow - Calculate



Terminal value – Return of capital via sale

Tax benefits Operating cash flows

– Business related expenses (car, club membership)

– Salary and dividends


PowerPoint Presentations

Economy & Finance

valuation valuation

venture capital fund

venture economicsnvca

equity capital

valuation method

year vc capital

years venture capitalists

vc firms