Venture Capital The Business of Innovation

Kellogg-Recanati International Executive MBATel Aviv, March 2017

Session 5

Izhar Shay

VC 101

Venture Capital

Returns

Investment

Year 1 Year 7

Limited Partners

Great VC (GVC) GP

L.P.

(Cayman Partnership)

“GP”

Management

Agreement

Great VC Management

(M.C.) Inc. (Delaware Company)

Portfolio Investments

Great VC (GVC)

(Cayman), L.P.(Cayman Partnership)

GP

LP

Manager1

40%Manager2

20%

LP

LPManager3

20%

Management

Agreement

Manager4

20%

LP

Venture Capital Org Structure: Capital Flows

Capital Calls

DistributionsC

arry

Inve

stm

ents

Shareholders’ Value Creation

Venture Capital Funding - CAP Table

Distribution of Proceeds - CAP Table Waterfall

Company sold for $$$ - who gets what?

Typical Waterfall:1. Loans and credit lines paid off2. Investors’ Preferred Shares, “LIFO” (Sometimes with interest)

1. (Example: B Shares A Shares Common)3. Common Shares and Preferred “As Converted”

Typical Preferred Terms:“Participating”, “Participating with a CAP”, “Non Participating”

CAP Table Comments

Different classes of shares:• Investors’ Preferred Shares• Common Shares• Employee Stock Options Plan (ESOP)

Investors:• Earlier investors pay less for higher ownership• Later investors pay more but their risk is reduced• Financial Preference can overpower CAP table holdings

Investors’ and Founders’ dilemmas:• Valuation - Shareholders Value• Dilution - “What’s in it for me by the end of the day?”• Control - “Who is going to call the shots here?”• Financial outcome of CAP table

Building Syndicate Investments

Considerations:• Share the risk• More “deep pockets” around the table• Enhanced network of contacts• Value add investors• Strategic investors• Different types of investors• Choose carefully the right combination of investors• Alignment of interests is crucial• Too many investors can become too much…• “Co-opetition”

Venture Capital Funding - Deal Mechanics

Timeline:• Initial contact with investors• First Pitch to investors• Additional meetings and discussions• Business Due Diligence• Negotiations of Terms• Term Sheet• Exclusivity and No Shop Period• Final Contracts Negotiations• Legal / Financial Due Diligence• Legal Docs: SPA, IRA, AOA, DS, Legal Opinion• Signing and Closing

Day 0

Day 30 / 90 / 180

Main Term Sheet Provisions

Deal Terms:• Class of Shares• Amount of money invested• Valuation (Price Per Share), other considerations

Financial Preferences of Shares:• Preference definitions and distribution waterfall• Anti Dilution, Preemptive rights• Conversion of shares

Rights for holders of Preferred Shares:• Voting Rights, Veto Rights• First Refusal, Co-Sales, Bring Along

General:• Conditions for Closing• Confidentiality• No Shop, Exclusivity

Term Sheet Provisions

Term Sheet Provisions

Term Sheet Provisions

Due Diligence

Main Due Diligence Topics (I)

Personal References:• Founders• Management team, key employees

Key operational areas:• Target market analysis• Competitive landscape, SWOT analysis where applicable• Business: Model, Sales, Partnerships, Pipeline, Churn• Technology• Intellectual Property

Legal:• Corporate documents, Shareholders, Board• Litigation

Financial:• Audited financial statements• Reports, plans, budget, financial model and actual results• Commitments, liabilities

Main Due Diligence Topics (II)

General:• Regulatory issues, compliance• Property• Human Resources• Tax matters• Environmental • insurance

Detailed Due Diligence findings to be listed in the Disclosure Schedule

Board of Directors

Board of Directors

Source: http://delcode.delaware.gov/title8/c001/sc04/

Board of Directors

Main responsibilities:• Setting corporate governance policies• Setting strategic goals and tracking management’s execution • Hiring / firing, supporting and reviewing performance of CEO• Approving and monitoring company’s annual budget• Financial planning for adequate funding resources• Setting compensation packages for company’s managements• Setting compensation policies for company’s employees• Overseeing Employee Stock Options Plan (ESOP)• Representing the interest of all stakeholders in the company

Board members:• Shareholders representatives• Common shares representatives (founders, CEO)• Independent Directors

Board of Directors

VC 101

Venture Capital

Returns

Investment

Year 1 Year 7

Thank You!

January 2016