equity venture capital part 2

22
Equity Venture Capital Part 2

Upload: david-keck

Post on 20-Mar-2017

1.031 views

Category:

Economy & Finance


1 download

TRANSCRIPT

Page 1: Equity venture capital part 2

Equity Venture Capital

Part 2

Page 2: Equity venture capital part 2

New ScenarioMulti Round VC Investment

• VCs can manage risk by investing in stages (rounds, series) as the firm meets business milestones

• In this investment scenario, all is the same except that the VC investments are made in three rounds and denoted as Series A, B, and Co After 0, 2, and 4 years at LeanTech

• The objective is to determine the fraction ownership before and after each round of investment so that after the third and last investment, the final ownership fractions and ROIs are achieved

2

Page 3: Equity venture capital part 2

Cash Flow Timeline

3

0 4 5i 2

EVCRound A

IA Round BIB

Round CIC

VC

Exit

Page 4: Equity venture capital part 2

Equity Allocation at VC Exit

4

Value at exit for each investment

Ownership faction at VC exit

Page 5: Equity venture capital part 2

Cash Flow Timeline

5

fA

rA

dA

fB

rB

dB

fC

rC

dC

0 4 5i 2

EVCRound A

IA Round BIB

Round CIC

VCExit d: initial ownership

fractionr: retention fractionf: final ownership fraction

Page 6: Equity venture capital part 2

Equity Allocation at VC Exit

6

Page 7: Equity venture capital part 2

7

Discussion

So the fraction of the equity owned by the venture capitalists at exit dropped from 71% to 41%. Why?

Page 8: Equity venture capital part 2

Initial Share Allocation

8

Retention ratio for each investment

Initial ownership faction

d: initial ownership fractionr: retention fractionf: final ownership fraction

Page 9: Equity venture capital part 2

Initial Share Allocation

9

Initial ownership faction

d: initial ownership fractionr: retention fractionf: final ownership fraction

Page 10: Equity venture capital part 2

10

VC Equity Fractions

Page 11: Equity venture capital part 2

Investment Cash Flow

11

pA

nsA

pB

nsB

pC

nsC

pFDR

nsFDR

0 4 5i 2

EVCRound A

IAnsA

Round BIB

DnsB

Round CIC

DnsC

VCExit

pexit

Page 12: Equity venture capital part 2

Equity Shares

12

Initial ownership fraction

d: initial ownership fractionns: number of shares

Page 13: Equity venture capital part 2

13

Equity Shares

Page 14: Equity venture capital part 2

Share Price

14

I: VC investment p: price of an equity sharens: number of common equity shares

Page 15: Equity venture capital part 2

Share Price

15

Page 16: Equity venture capital part 2

VC App

16

Page 17: Equity venture capital part 2

17

VC App

Page 18: Equity venture capital part 2

18

Summary

Including shares for management is covered in Part 3

Page 19: Equity venture capital part 2

19

Summary• Note that the VC’s ownership fraction is being diluted,

o But diluted down to the targeted ownership fraction at exit (IPO, M&A)

o And that the targeted ROI is achieved

• These are pro-forma financials o An updated expected exit value would change the

calculations for subsequent rounds

• VC investment shares are more typically issued as preferred convertible stocko Preferred shares are converted to common shares via a

conversion ratioo The financial calculations are the same if the conversion

ratio is 1:1

Page 20: Equity venture capital part 2

Summary• There may be contract terms that give investors the

opportunity to not be diluted • Note that in the two scenarios the founders retained 1M

shares and 29% and 59% of the equity respectivelyo The balance of risk between investors and founders was

scenario dependent• The founder’s raised capital, but in exchange they gave up

a fraction of their future earnings, dividends, and capital gainso This is a (rate) cost of capital to the founders – specifically an

opportunity cost

20

Page 21: Equity venture capital part 2

Finance Concepts Introduced• Risk • Uncertainty• Risk management• Return and return rate• Equity valuation• Financial decision making• Expectation• Investment • Return on investment• Discount rate• Growth rate • Common and preferred equity• Public v. private equity

21

• Capital raising• Capital structure

o Equity structure • Cost of capital• Discounted cash flow • Present and future value• Price to earnings ratio • Pro-forma financial planning • Corporate governance • Principal – Agent issues • Share issuance and

repurchase

Page 22: Equity venture capital part 2

22

Homework 2

Your startup firms needs $3M in investment over the next 5 years to reach profitability and an exit point for the VCs.

The $3M is raised in multiple rounds at the start of years 1, 3, and 5. The capital raised in each round is 30%, 40%, and 30% of the $3M total.

Your firm is expected to initially sell in the market at 18x its expected EBIT of $3.6M at the end of year 5

Use the targeted rates of return of 40%, 30%, and 20%.

Calculate and present all information of interest.