Venture Capital How to Sell Your Soul for a Buck

VC Characteristics n Usually early-stage equity or equity- linked financing n Involves high risk n Lacks liquidity or marketability n Returns are primarily from capital gains n Provided by patient investors - who may give value-added advice

9 Years of VC Funding YearDealsAvg/Deal Total $ $4.46$10, $4.75$14, $5.88$20, $9.92$53, $13.38$104, $9.17$40, $7.09$21, $6.69$18, $7.31$21,004 Source: National Venture Capital Association

Venture-Backed IPOs Performance

What do VC’s Want? “VCs simply want to believe that the valuation of a company – either public stock price or private valuation – will grow high and stay high long enough for them to sell their interest.” “VCs simply want to believe that the valuation of a company – either public stock price or private valuation – will grow high and stay high long enough for them to sell their interest.” Source: Cliff Conneighton; Venture Management Handbook: An Entrepreneur’s Guide to Stock, Finance, and Contracts - pg 99

What do VC’s Want? n 5X or better capital growth in yrs. n 25% annual capital gains at a minimum n Eventual liquidity (3 - 5 years) n Excitement!

What do VC’s Get? Actual performance of venture capital and private equity funds

What Kind of Company? n At least $10M Revenue in 5 years n At least 20%/Yr Revenue Growth n At least 15% pretax profit margin

Four Essential Questions for the Business Plan n Does any large, definable, and identifiable group of people really need your product or service? n Are they willing to pay someone (you or a competitor) considerably more than, perhaps twice, what it costs you to produce and deliver it? If the answer depends on volume, do you know what the volume/cost curve looks like? n Is there some sustainable advantage you will have, in proprietary technology, cost, capability or marketing, over others who do or would compete in this market? n Do you have the management team that can execute the plan successfully? Conneighton Pg. 100

Types of Ventures n Life-Style Ventures –5 Yr Revenue projections < $10 M –Started by people with life-style motives –90% of all startups –Zero interest to venture capitalists

Types of Ventures n Middle Market Ventures –5 Yr Revenue projections $10 - $50M –Offer cash-out and capital gains opportunities –The backbone of the entrepreneurial economy –Rely heavily on bootstrap and individual financing –About 10% of startups

Types of Ventures n High Potential Ventures –5 Yr Revenue projections > $50 M –Potential BIG winners –May require many rounds of financing of several million dollars –Expect to go public within 5 years –Less than 1% of startups

Types of Ventures n Proprietary Technology –You own something way cool –VC’s are very interested n Execution Play –You are trying to do something better than anyone else. –VC’s are not very interested

Types of VC’s n Venture Capital Funds –Over 1750 US venture capital and private equiy partnerships –$585 Billion capitalization –Fund about 500 companies/year –100 to 1 odds (at best) –Typically later-stage deal in excess of $3M

Types of VC’s n Business Angels –The “invisible” capital market –Unknown number of individuals (low profile) –3 to 1 odds of finding one –Typically early-stage deal of $ K involving multiple investors –Find one and you’ve found 5 or 10

How to Find an Angel n Look close to home n Check civic and charitable organizations n Check for private pilots n Check for expensive hot cars n Use gatekeepers (lawyers, accountants) n Check other startups

How to Court an Angel n Show them a great business plan n Kiss their %!! n Ask them for advice (Beware of Micromanagers) n Act like you have done your homework n Don’t act like you know everything n Act EXCITED!

Types of Financing n Bootstrap Financing –Personal savings –Family and friends –Credit cards –Second mortgages –Customer advances –Extended terms from vendors/suppliers 80% of the Inc. 500 fastest growing private companies were financed solely by these methods.

Types of Financing n Early-Stage Financing –Seed financing: A small amount of capital to prove a concept or qualify for startup capital –Startup financing: for completing product development and initial marketing to get ready to do business –First-stage financing: funds required to begin full-scale operation

Types of Financing n Expansion Financing –Second-stage financing: provides working capital for initial expansion –Third-stage or mezzanine financing: provides funds for a major expansion after the company has become profitable

Types of Financing n Bridge Financing –May be needed between stages –Usually used before going public –Meant to be repaid from the next round of financing

Cost of Venture Capital

Capital Gain/ROI Conversion A 7-fold increase in the value of the investment in 5 years is a 48% annualized rate of return on equity.

Reasons for Rejection n Lack of confidence in management n Unsatisfactory risk/reward ratio n Absence of a well-defined business plan n Unfamiliarity with products or markets n Too much wishful thinking

Too Much Wishful Thinking… n Investors expect to bear risk. n Investors expect YOU to know how much risk they will bear and to TELL them. n They need to believe that YOU understand the risk and will be able to MANAGE it.

Don’t Forget Partnering n Companies cooperate for common goals n Usually involves cost/revenue sharing n May involve equity stake n May lead to eventual buyout

Sources of Information n Garage.com – –Pairs high-tech entrepreneurs with seed financing sources.

Sources of Information n vFinance.com – –List of 1800 VC firms, database of 23,000 angel investors n National Venture Capital Association – –Lots of info for and about VCs