Informal Risk Capital & Informal Risk Capital & Venture CapitalVenture Capital

Financing the BusinessFinancing the Business Stages for FinancingStages for Financing

Early-stage financingEarly-stage financing Seed capitalSeed capital Start-up financingStart-up financing

Development-stage financingDevelopment-stage financing Second stageSecond stage Third stageThird stage Fourth stageFourth stage

Acquisition-financingAcquisition-financing Traditional acquisitionsTraditional acquisitions Leveraged buyoutsLeveraged buyouts Public-equityPublic-equity

Risk-Capital MarketsRisk-Capital Markets Informal risk capitalInformal risk capital Venture-capital marketVenture-capital market Public equityPublic equity

Informal Risk & Capital Informal Risk & Capital MarketsMarkets

Business angelsBusiness angels Usually start-upUsually start-up Hard to calculate exact sizeHard to calculate exact size

CharacteristicsCharacteristics IndustriesIndustries Investment sizeInvestment size Time frameTime frame Finding them Finding them

Venture CapitalVenture Capital Nature of Venture CapitalNature of Venture Capital

DefinitionDefinition General partnersGeneral partners Limited partnersLimited partners Length of investmentLength of investment

Overview of Venture CapitalOverview of Venture Capital 1946- American Research and 1946- American Research and

Development CorporationDevelopment Corporation

1958- Small Business Investment Act1958- Small Business Investment Act 1960s= 585 SBICs Today= 3601960s= 585 SBICs Today= 360

Late 1960s- Private Venture Capital Late 1960s- Private Venture Capital FirmsFirms Today=980Today=980

Overview of Venture CapitalOverview of Venture Capital CorporationsCorporations State-sponsored Venture CapitalState-sponsored Venture Capital University-sponsored Venture CapitalUniversity-sponsored Venture Capital

CharacteristicsCharacteristics SizeSize IndustriesIndustries Stages of business being fundedStages of business being funded Geographic locationGeographic location

VC ProcessVC Process What do venture capitalists want?What do venture capitalists want?

Basic GoalBasic Goal Trusting relationship with entrepreneurTrusting relationship with entrepreneur Business criteriaBusiness criteria

Strong management teamStrong management team Unique Product/MKT OpportunityUnique Product/MKT Opportunity Good ROIGood ROI

Early-stage v. late-stageEarly-stage v. late-stage

VC ProcessVC Process Portfolio establishmentPortfolio establishment Four stagesFour stages

PreliminaryPreliminary Evaluate business planEvaluate business plan Background informationBackground information

Agreement on principal termsAgreement on principal terms Due diligenceDue diligence

Longest stageLongest stage Detail-orientedDetail-oriented

Final approvalFinal approval

VC ProcessVC Process Where to find venture capitalists?Where to find venture capitalists?

Member listsMember lists ReferralsReferrals

Approaching venture capitalistsApproaching venture capitalists Call to check specializationCall to check specialization Send plan and short letterSend plan and short letter General rulesGeneral rules

Valuing the CompanyValuing the Company Eight FactorsEight Factors

Nature and History of VentureNature and History of Venture Economy and Finances from BusinessEconomy and Finances from Business Book Value and Overall Financial ConditionsBook Value and Overall Financial Conditions Future Earnings CapacityFuture Earnings Capacity Dividend-paying CapacityDividend-paying Capacity Goodwill and Intangible AssetsGoodwill and Intangible Assets Any Previous Stock SalesAny Previous Stock Sales Market Price of Stocks in Same IndustryMarket Price of Stocks in Same Industry

Ratio AnalysisRatio Analysis Liquidity RatiosLiquidity Ratios

Current RatioCurrent Ratio Current Assets/ Current LiabilitiesCurrent Assets/ Current Liabilities

Acid Test RatioAcid Test Ratio (Current Assets-Inventory)/ Current Liabilities(Current Assets-Inventory)/ Current Liabilities

Activity RatiosActivity Ratios Average Collection PeriodAverage Collection Period

Accounts Receivable/ Average Daily SalesAccounts Receivable/ Average Daily Sales Inventory TurnoverInventory Turnover

Net Profit/ Total AssetsNet Profit/ Total Assets

Ratio AnalysisRatio Analysis Leverage RatiosLeverage Ratios

Debt RatioDebt Ratio Total Liability/ Total AssetsTotal Liability/ Total Assets

Debt-to-Equity RatioDebt-to-Equity Ratio Total Debt/ Total EquityTotal Debt/ Total Equity

Profitability RatiosProfitability Ratios Net Profit MarginsNet Profit Margins

Net Profit/ Net SalesNet Profit/ Net Sales Return on InvestmentReturn on Investment

Net Profit/ Total AssetsNet Profit/ Total Assets

General Valuation General Valuation ApproachesApproaches

Comparable Publicly-Held CompaniesComparable Publicly-Held Companies Present Value of Future Cash FlowsPresent Value of Future Cash Flows Replacement ValueReplacement Value Book ValueBook Value

Adjust book value (depreciation, Adjust book value (depreciation, unsellable intangible assets, fair market unsellable intangible assets, fair market value)value)

General Valuation General Valuation ApproachesApproaches

Earnings ApproachEarnings Approach Weighing recent years’ earnings after adjusting Weighing recent years’ earnings after adjusting

for extraordinaryfor extraordinary Factor ApproachFactor Approach

Similar to Earnings ApproachSimilar to Earnings Approach Weight earnings, dividend-paying capacity, book Weight earnings, dividend-paying capacity, book

valuevalue Liquidation ValueLiquidation Value

Lowest valueLowest value

General Valuation MethodGeneral Valuation Method ($ of VC Investment) * (VC investment ($ of VC Investment) * (VC investment

multiple)multiple)VC Ownership % = (Projected Profits in 5 years)* (P/E multiple of VC Ownership % = (Projected Profits in 5 years)* (P/E multiple of

comparable company) comparable company)

(Earnings) * (Earnings Multiple)(Earnings) * (Earnings Multiple)Present Value= (1+i)^nPresent Value= (1+i)^n

Initial FundingInitial FundingInvestor’s share= Present ValueInvestor’s share= Present Value

ValuationValuation Internet CompaniesInternet Companies

Due DiligenceDue Diligence MarketMarket FinancesFinances Management TeamManagement Team

Deal StructureDeal Structure Venture Capitalist Venture Capitalist

needs:needs: Rate of returnRate of return Timing and form of Timing and form of

returnreturn Amount of controlAmount of control Perception of riskPerception of risk

Entrepreneur Entrepreneur needs:needs: ControlControl Amount of fundingAmount of funding GoalsGoals