Tài chính doanh nghiệp - Chapter 11: Professional venture capital

Chapter 11Professional Venture Capital 1© 2012 South-Western Cengage LearningENTREPRENEURIAL FINANCE Leach & MelicherChapter 11: Learning ObjectivesDiscuss the history & current status of venture investing in the U.S.Explain the professional venture investing cycle and its relevance to entrepreneurs seeking professional venture capitalList major elements in the design & structure of a venture capital fundDescribe the venture capital screening process & list characteristics central to determining a venture capitalist’s willingness to investDiscuss the various roles a venture capitalist can take in providing financing and services to an emerging ventureEnumerate several terms or conditions to be negotiated when structuring venture capital financing2Historical Development of Professional Venture CapitalVenture Capitalists (VCs): individuals who join in formal, organized firms to raise and distribute venture capital to new and fast-growing venturesPre-World War II Era: Most venture investing came from wealthy individuals and families1946: Beginning of Professional VCs Formation of American Research & Development (ARD)3Historical Development of Professional Venture Capital (cont’d)ARD’s Early Performance$3.5 million was raised ($2 million from institutional investors)By end of 1947, ARD had invested in eight ventures, six of which were startupsBy 1951 the performance was still lack-luster (stock price was at $19 down from the initial offering price of $25 in 1946)4Historical Development of Professional Venture Capital (cont’d)1953: Small Business Administration (SBA) was formed Legislation permitted the federal government to actively engage in fostering new business formation1958:SBA Created Small Business Investment Companies (SBICs) Due to tax and leverage advantages, the SBIC became the primary vehicle for professionally managed venture capital 5Historical Development of Professional Venture Capital (cont’d)ARD’s Later Performance:In 1957, ARD had invested $70,000 in the startup company Digital Equipment Corporation (DEC)1972, ARD was sold for $813 Per ShareOriginal ARD investors received a compound annual return of 14.7% due primarily to DECWithout the DEC investment, the rate of return would have been only 7.4% 6Historical Development of Professional Venture Capital (cont’d)Late 1960s-Early 1970s:Boom-Bust Cycle: Many SBICs began having operating problems due to the mixing of risky venture investments & high financial leverage (debt service commitments) 1970s:Professional VC organizational structure changesMovement to private partnerships from public firms & volatile financial markets 7Dot.Com Bust and Recent History8Professional Venture Capital Investing Cycle9Useful TermsCarried Interest: portion of profits paid to the professional venture capitalist as incentive compensationTwo and Twenty Shops:investment management firms having a contract that gives them a 2% of assets annual management fee and 20 percent carried interest10Organizing The Fund:VC Fund Placement MemorandumFrontmatter DeclarationsState Securities DisclosuresOffering SummaryFund OverviewExecutive SummarySummary of Terms11Soliciting Investments: Suppliers of Venture Capital – 25-Year Average12Obtaining Commitments:Arrangements with Fund InvestorsCapital Call: when the venture fund calls upon the investors to deliver their investment fundsCommon to require subsequent investments consistent with the levels of investors’ initial contributions13Due Diligence and Active Investing:VC Fund ManagementDeal flow: flow of business plans and term sheets involved in the venture capital investing processDue diligence (in venture investing context): process of ascertaining the viability of a business plan14VC Screening Criteria1. Venture Capital Firm Requirements2. Characteristics of the Proposal3. Characteristics of the Entrepreneur/Team4. Nature of the Proposed Industry5. Strategy of the Proposed Business15VC Screening Criteria1. Venture Capital Firm RequirementsCash out potentialEquity shareFamiliarity with technology, product, marketFinancial provisions for investorsGeographic locationInvestor control16VC Screening Criteria Venture Capital Firm Requirements (cont’d)Investor controlInvestor groupRate of returnSize of investmentStage of development17VC Screening Criteria2. Characteristics of the ProposalRequirement for additional materialStage of plan18VC Screening Criteria3. Characteristics of the Entrepreneur/Team a. Ability to evaluate risk b. Articulate regarding the venture c. Background/experience d. Capable of sustained effort e. Managerial capabilities f. Management commitment g. References h. Stake in firm19VC Screening Criteria4. Nature of the Proposed IndustryMarket attractivenessPotential sizeTechnologyThreat resistance20VC Screening Criteria5. Strategy of the Proposed BusinessProduct differentiationProprietary product21Screening Outcomes1. Seek lead investor position2. Seek a non-lead investor position3. Refer venture to more appropriate financial market participants4. SLOR (standard letter of rejection) the venture22Structuring a VC InvestmentTerm Sheet: summary of the investment terms and conditions accompanying an investmentTypical Issues Addressed in a Term SheetValuationOngoing funding needsSize and staging of financingPreemptive rights on new issuesCommitments for future financing rounds and performance conditionsForm of security or investmentRedemption rights and responsibilities23Structuring (cont’d) Typical Issues Addressed in a Term SheetDividend structure (Number of VCs and outsiders)Additional managementConversion value protectionRegistration rightsExit conditions and strategyIPO-dictated events (e.g. conversion)Co-sale rights (with founders)Lock-up provisions24Structuring (cont’d) Typical Issues Addressed in a Term SheetEmployment contractsIncentive optionsFounder employment conditions: compensation, benefits, duties, firing conditions, repurchase of stock at termination, term of agreement, post-employment activities and competitionFounder stock vestingConfidentiality agreements and protection for intellectual property25