Final Flashcards
Understand the relationship between the VC and why you might want to have your attorney be the lead negotiator.
a. VC’s are best buds with their attorneys, they write term sheets all day every day. You should have someone on your side so you are not cheated. For many attorneys, most of their business comes from representing VCs or from VC referrals. Many will throw you under the bus to maintain their VC relationships.
b. An attorney will do the heavy lifting regarding negotiations. Just because they are with a big firm does not mean they are working for you, many will betray you to maintain VC relationships. Just because someone says it’s standard doesn’t mean it is. Everything is negotiable, just because it is said to be standard doesn’t mean it is – make them work for you.
negotiating leverage and who has it when
a. Company needs the money
b. VC can walk at anytime
c. Multiple VC offers
d. Post-deal dynamic
e. Time and hassle factor (avoid this)
f. Knowledge of VC
3) Understand the effects of negotiation hard with a VC.
a. You are going to be speaking to and living with the VC until there is a liquidity event
b. The amount of effort the VC puts into your company will be dependent on the post deal dynamics
c. Remember subsequent to the deal closing the VC can fire you
d. Don’t push too hard on valuation, on terms, and don’t shop a deal you have agreed to
e. ALWAYS BE CANDID AND HONEST – FULL DISCLOSURE WINS
4) Discounted cash flow is how you value a company.
a. It is the valuation method to estimate the free cash flow in present time; good estimation of free cash flow may lead to a potential investment.
5) Know how to calculate the % of ownership if you know the pre-money valuation
Ownership = Investment / (investment + pre-money valuation)
% of ownership = Pre-money valuation /Post-money valuation
Ownership = Investment / (investment + pre-money valuation)
a. How much ownership do you as the owner have?
Post-money evaluation – Investment = Pre-money Evaluation
Pre-money valuation / # of outstanding shared = $ Price per share
Outside Investment / $ Price per share = # of shares issued to investors
# of share you own / ($ Price per share +# of investor shares) = ownership %
6) Understand liquidation preference
a. In the case of a liquidity event, the VC receives the first cash flow that equals an agreed upon multiple of what was invested.
b. Large economic impact if the proceeds are small
c. 1x is normal
d. if a VC is pushing hard for this, it means they don’t have confidence in your company
7) Understand participation (the opposite of liquidation preference).
a. % of cash flow the VC will receive after the liquidation preference
b. Large economic impact if proceeds are significant
c. Normally equal to their % of common when converted
d. If VC is confident in your company they will push hard for this
e. Participating preferred stock gives the holder the right to the agreed upon dividend pay-out, as well as any additional compensation paid to common shareholders in excess of that agreed amount.
8) Understand anti-dilution.
a. Protects the VC by adjusting the stock price of a VC’s investment down in the case that a company’s value has fallen.
b. All founder and employee’s options must participate, not just the VC
c. Two types of anti-dilution provisions:
i. Weighted average: the shares are adjusted based on a weighted average price of the new and old rounds
ii. Full Ratchet: all shares prices are reduced to the lowest level sold.
9) Understand protective rights.
a. Protects the VC since they are a minority investor
b. Avoid giving control to the VC; provisions apply to everyone and anyone
c. It can be done by giving: change of corporate bylaws, additional financing, paying dividends, taking on debt, changing board composition, sale of stock, repurchase of stock.
10) What is the pay to play provision
a. Requirement of existing VC’s to participate in future funding rounds
b. Key to making sure a VC is in it long term
c. If they don’t:
i. Anti-dilution provisions are suspended
ii. Automatic conversion to common stock, which eliminates preferred rights
11) What is a board observer and what can they do?
Someone who does not want to have the responsibility/liability of being on the board, but wants to be privy to all kinds of sensitive information
b. Observers participate but cannot vote
c. They often sway independent members and cause lengthy discussions
d. Both board members and observers are reimbursed for any travel expenses
12) What are cumulative dividends and why do VCs like them?
a. Cumulative dividends accumulate for each period that they are not paid out. This means more money and protection for VC.
b. VCs like them because in liquidation events, dividends come first before distribution to the common shareholders
c. Intended to ensure investors a minimum return of investment in the company
13) What is a liquidity event
a. Cashing out on ownership, when initial investors exit the company
b. An exit strategy for a company
14) What is the VC looking for when looking at a new investment?
a. Reasonable valuation, some control, return of capital, share of the upside, “happiness” of the company and its people
i. TRACTION – Customer acceptance and growth
ii. TEAM IMPRESSION – Impression of the CEO
iii. SOCIAL PROOF – What others think
iv. PRODUCT
15) How long should your presentation to the VC be when explaining your company’s vision and mission?
a. No more than a 10-minute presentation
b. Vision and mission should fit on the back of a business card
17) VCs want companies with a market potential of _____________________.
a. A billion or greater than a billion
