Private Equity Securities Flashcards
What are the 3 key components of a venture security?
1-Preferred Stock
2-Vesting of founder, management, and key employee shares.
3-Covenants and supermajority provisions.
What essential factor differentiates preferred stock from common stock?
liquidation
Redeemable Preferred Stock
aka “straight preferred” no convertibility to equity. Must be redeemed typically sooner of IPO Or 5 to 8 years.
Face Value + Dividend
In PE combination of common stock or warrants.
Convertible Preferred Stock
Shareholder has the option to convert the preferred stock into common stock. Choice to pick returns either liquidation or common equity. (Typically has a mandatory conversion term for an IPO, also has anti dilution provisions).
Participating Convertible Preferred Stock
In the event of sale or liquidation shareholder receives the face value and the equity participation. Functions like a redeemable preferred structure and converts to common on a public offering.
Vesting
period of time an employee must work or until value accretion occurs the stock isn’t owned. The “golden handcuffs”
Covenants
Contractual agreements between the investor and the company. Two types positive and negative.
Positive Covenants
List of things the company agrees to do.
Negative Covenants
Restrictions or limitations imposed on the entrepreneur by investors.
“put” in reference to covenants
Forces the invested company to repay the investors. Forces liquidation or merger.
What are the two reasons mandatory redemption provisions exist?
1-Venture Partnerships have limited life so needs mechanism to provide liquidity
2-Prevents lifestyle companies
Common Stock
security representing ownership rights in a company. It usually entitles a one share one vote.
Pre-money Value
the valuation of a company immediately before an injection of capital occurs.
Pre Money Value = Total Number of Old Shares * Share Price
Pre Money Value = Post Money Value - New Investment
Post-money Value
valuation including the capital provided by current round of financing.
Post Money Value = Pre Money Value + Investment
Post Money Value = Investment/% Ownership Acquired
Post Money Value = Total Shares (includes old and new) * Share Price
Share Price = Investment/Number of new shares issued
Step-ups
describes the increase in share price from one financing round to the next. Also describes the increase in value of company since last round.
Multiple Liquidation Preference
gives preferred stock holders of a specific round of financing the right to a multiple of their original investment if the company is sold or liquidate. Still allows the investor to convert to common stock.
Convertible Debt
Loan vehicle allows lender to exchange the debt for common shares at a preset conversion ratio.
Mezzanine Debt
Debt with lower priority than senior debt, usually has higher interest rate, and often includes warrants.
Senior Debt
higher prior than other loans or equity stock in case of liquidation
Subordinated Debt
loan with lower priority than senior in case of liquidation.
Warrants
derivative securities that give the owner right to purchase shares at a pre-determined price. Typically issued concurrently with preferred stock or bonds.
Options
rights to purchase or sell shares of stock.
Anti-Dillution
referred to as ratchets protect the investor from dilution in down rounds. Two types full ratchet and weighted average ratchet.
Full Ratchets
If the company issues stock at a lower price than existing preferred stock, then the existing stock holder is protected. The pre-existing preferred stock ratchets down to the new lower price, and accumulates more shares.
Weight Average
less harsh than full ratchets. Adjusts the investors conversion price downward based on the number of shares in the new (dilutive) issue.
New Conversion price = (A+C)/(A-D) * old version price
Pay to Play
requires an investor to participate proportionally to their ownership share in down rounds.
Bridge Financing
Short term financing designed to either to be repaid or converted into ownership securities.
Phased Financing
Incremental financing in tranches.
