L3 - Growth Equity Flashcards
What is growth equity?
Growth equity refers to minority investments in relatively mature, rapidly growing, privately-held companies.
It is distinguished from VC by the maturity of the business and the size of the financing.
It is distinguished from private equity since the transactions do not involve a change of control to the investor
Do growth equity companies have a clear path to positive EBITDA and profitability?
Yes.
Who is in the investor base?
Institutional investors from prior financing rounds (including VC)
- but the company may also still be closely held by the founders
Investment amounts in growth equity
- larger than in VC rounds
- span the entirety of the landscape from the first non-VC equity financing of 15-20M to pre-IPO financing of 500M plus.
Investment returns are a function of
growth, not leverage or other financial engineering or cost cutting
Is the loss ratio higher than in VC?
No it is smaller.
Control in minority transactions
- seek participation in, and limits on control of majority owners through board representation and negative controls.
negative control meaning
The negative control provision is designed to provide veto right to the investors for protecting their investments.
exit in minority investments
Absence of control means investor needs a contractual right to enable it to monetize its investment; sale of minority stake to a third party is not desirable.
Type of security held by minority investors
preferred stock
Timing in minority investments
Timeline my be quicker; depends on investment size which drives regulatory approval analysis; rarely third party consents.
Due Diligence
typically more tailored due diligence focused on material risks
Indemnification clauses
Indemnification clauses are clauses in contracts that set out to protect one party from liability if a third-party or third entity is harmed in any way
Are transactions relationship based?
Yes
What can the board (not) do in growth equity?
No affirmative right to fire management, change strategy or inject additional capital, even when the business is not performing
- only negative covenants
Main transaction documents in growth equity
- Equity Purchasing Agreement
- Investor Rights Agreement
- Certificate of Incorporation
- ROFR/ Co-Sale Agreement
- Voting Agreement
- Side Letter (VCOC)
What is the equity purchasing agreement?
The agreement pursuant to which the investor funds cash in exchange for equity. Includes purchase mechanics, reps and warranties, and covenants
Investor Rights Agreement
Sets forth the information rights, preemptive rights, and registration rights
preemptive rights
Preemptive rights give a shareholder the opportunity to buy additional shares in any future issue of a company’s common stock before the shares are made available to the general public.
Registration right
A registration right is a right entitling an investor who owns restricted stock to require that a company list the shares publicly so that the investor can sell them.
Certificate of Incorporation
Publicly filed document that sets forth the rights and privileges associated with the company’s stock, including liquidation preference, dividends, anti-dilution provisions, and approval rights.
ROFR
Right of first refusal (ROFR) is a contractual right to enter into a business transaction with a person or company before anyone else can.
In this context it means that stockholders must first offer their shares to the company and or the preferred stockholders before selling to a third party.
Co-Sale Agreement
the right to tag along in a sale to a third party.
“co-sale rights,” are contractual obligations used to protect a minority shareholder, usually in a venture capital deal. If a majority shareholder sells his stake, it gives the minority shareholder the right to join the transaction and sell their minority stake in the company.
Voting Agreement
Sets forth the composition of the board of directors and the drag-along rights
Side Letter
Sets forth other contractural rights, such as the right to designate board observers.
Growth Equity Deal Term Drivers
- current capital structure
- use of proceeds
- round size and ownership percentage being sold
- pre-IPO round
