Build a Company for the Long Term

BUILD A COMPANY FOR THE LONG TERM CONTROL YOUR OWN DESTINY JUSTIN FISHNER-WOLFSON

COMPANIES ARE BEING FUNDED Despite the tough environment $1,300M $975M $650M $325M $0M Q1 2008 Q2 2008 Q3 2008 Q4 2008 2009 YTD Total Amount Raised $1,078,325,793 $1,196,744,097 $1,227,841,647 $758,107,693 $762,108,423 Source: Cooley Godward Kronish LLP 3

VALUATIONS ARE LOWER Median Series A pre-money valuations $9M $7M $5M $2M $0M Q1 2008 Q2 2008 Q3 2008 Q4 2008 2009 YTD Source: Cooley Godward Kronish LLP 4

TYPES OF EQUITY • Common • Preferred • Series FF 5

LIQUIDATION PREFERENCES ARE BECOMING MORE COMMON Percentage of Deals with Fully Participating Preferred 70% 60% 50% 40% 30% 20% 10% 0% Q1 2008 Q2 2008 Q3 2008 Q4 2008 2009 YTD Source: Cooley Godward Kronish LLP 6

UNDERSTAND THE TERMINOLOGY • Options • Warrants • Fully Diluted Ownership (FDO) 7

PROPOSED SERIES A FUNDING • $1M Financing • $4M Pre-money valuation • 20% option pool 8

HOW TO CALCULATE DILUTION Step 1: Determine post money valuation 9

HOW TO CALCULATE DILUTION Step 1: Determine post money valuation Money invested + Pre-Money Post-Money Value 9

HOW TO CALCULATE DILUTION Step 1: Step 2: Determine post Determine investor money valuation ownership Money invested + Pre-Money Post-Money Value 9

HOW TO CALCULATE DILUTION Step 1: Step 2: Determine post Determine investor money valuation ownership Money invested Money invested + Pre-Money ÷ Post-Money Post-Money Value Investor Ownership 9

HOW TO CALCULATE DILUTION Step 1: Step 2: Step 3: Determine post Determine investor negotiate money valuation ownership employee option pool Money invested Money invested + Pre-Money ÷ Post-Money Post-Money Value Investor Ownership 9

HOW TO CALCULATE DILUTION Step 1: Step 2: Step 3: Determine post Determine investor negotiate money valuation ownership employee option pool Money invested Money invested + Pre-Money ÷ Post-Money Post-Money Value Investor Ownership Investor Ownership + Option Pool = Dilution 9

WHAT DO THE FOUNDERS HAVE LEFT? Brian Robert • Before: • 2 equal co-founders • After: • 30% for each co-founder 10

WHAT DO THE FOUNDERS HAVE LEFT? Brian Robert Investment • Before: • 2 equal co-founders • After: • 30% for each co-founder 10

WHAT DO THE FOUNDERS HAVE LEFT? Brian Robert Investment Option Pool • Before: • 2 equal co-founders • After: • 30% for each co-founder 10

AVOID DILUTION Try a convertible note • $500K note Equity • 10% warrant per month Debt 11

AVOID DILUTION Try a convertible note • $500K note Equity • 10% warrant per month • This converts at the next financing round Debt 11

FIND A COMPROMISE ON PRICE Convertible Debt Other benefit is... less paperwork • Fewer terms to negotiate • Faster You need to realize... • Investors want a lower price • Creates overhang on next financing round 12

THE COST OF CONVERTIBLE DEBT After 6 months: • $1M Series A • Pre-money valuation of $4M • 20% option Pool Post-Money Value 13

THE COST OF CONVERTIBLE DEBT After 6 months: • $1M Series A Pre-Money $4M • Pre-money valuation of $4M • 20% option Pool Post-Money Value 13

THE COST OF CONVERTIBLE DEBT After 6 months: • $1M Series A Pre-Money $4M • Pre-money valuation of $4M Series A $1M • 20% option Pool + Post-Money Value 13

THE COST OF CONVERTIBLE DEBT After 6 months: • $1M Series A Pre-Money $4M • Pre-money valuation of $4M Series A $1M • 20% option Pool Notes $500K + Post-Money Value 13

THE COST OF CONVERTIBLE DEBT After 6 months: • $1M Series A Pre-Money $4M • Pre-money valuation of $4M Series A $1M • 20% option Pool Notes $500K + Warrants $300K Post-Money Value 13

THE COST OF CONVERTIBLE DEBT After 6 months: • $1M Series A Pre-Money $4M • Pre-money valuation of $4M Series A $1M • 20% option Pool Notes $500K + Warrants $300K Post-Money Value $5.8M 13

THE COST OF CONVERTIBLE DEBT After 6 months: • The note cost 13.8% of the company Option Pool 20% Robert • This is an addition 11% vs the Note 24.5% 8.6% original series A termsheet Warrants 5.2% Brian 24.5% Series A 17.2% 14

EQUITY MEANS EVERYONE IS ON THE SAME TEAM • Investors and founders want to maximize the value of the company Be careful of... • Dilution • Have to negotiate a lot of important terms 15

TERMSHEET: OPTION 1 3x liquidation preference • $1M Series A Financing • $4M Pre-money valuation • 20% option pool 16

LIQUIDATION PREFERENCE EVENTUALLY GOES AWAY $1M Series A at $4M Pre with 3X liquidation pref How it works: First $3M goes to investors 17

LIQUIDATION PREFERENCE EVENTUALLY GOES AWAY $1M Series A at $4M Pre with 3X liquidation pref Acquisition Founders and Price it works: How Employees get: @ $3M$3M First goes to investors $0 17

LIQUIDATION PREFERENCE EVENTUALLY GOES AWAY $1M Series A at $4M Pre with 3X liquidation pref Acquisition Founders and Price it works: How Employees get: @ $3M$3M First goes to investors $0 @ $5M $2M (40%, not 80%) @ $15M $12M (80% - inflection pt) 17

TERMSHEET: OPTION 2 Fully participating preferred • $1M Series A Financing • $4M Pre-money valuation • 20% option pool 18

PARTICIPATION IS NOT AN ISSUE AT LARGE EXITS $1M Series A at $4M Pre with participating preferred How it works: Take $1M off the top then take 20% of what’s left 19

PARTICIPATION IS NOT AN ISSUE AT LARGE EXITS $1M Series A at $4M Pre with participating preferred Acquisition Founders and Price it works: How Employees get: @ $3M$1M Take off $1.6Mtop then take 20% of what’s left the (53%) 19

PARTICIPATION IS NOT AN ISSUE AT LARGE EXITS $1M Series A at $4M Pre with participating preferred Acquisition Founders and Price it works: How Employees get: @ $3M$1M Take off $1.6Mtop then take 20% of what’s left the (53%) @ $5M $3.2M (64%) @ $15M $11.2M (75%) 19

THIS IS WHAT YOU WANT 1x liquidation preference • $1M Series A Financing • $4M Pre-money valuation Interests • 20% option pool Align Incentives • The investor interests are very similar to yours Common Investor 20

SINGLE LIQUIDATION PREFERENCE $1M Series A at $4M Pre with 1X liquidation pref Acquisition Founders and Price Employees get: @ $3M $2M (66%) @ $5M $4M (80%) @ $15M $12M (80%) 21

DON’T OVER-OPTIMIZE • Lower the valuation • Last money in is the first money out • Terms only get worse over time YOUR COMPANY

DON’T OVER-OPTIMIZE • Lower the valuation • Last money in is the first money out • Terms only get worse over time $1 M YOUR COMPANY

DON’T OVER-OPTIMIZE • Lower the valuation • Last money in is the first money out • Terms only get worse over time $5 M $1 M YOUR COMPANY

DON’T OVER-OPTIMIZE • Lower the valuation • Last money in is the first money out • Terms only get $20 M worse over time $5 M $1 M YOUR COMPANY

DON’T OVER-OPTIMIZE • Lower the valuation • Last money in is the first $100 M money out • Terms only get $20 M worse over time $5 M $1 M YOUR COMPANY

DON’T OVER-OPTIMIZE • Lower the valuation • Last money in is the first money out • Terms only get worse over time $100M $20 M YOUR COMPANY $5 M $1

RAISE ENOUGH MONEY TO REACH YOUR MILESTONES Flat rounds & down rounds are now common 70% 53% 35% 18% 0% Q1 2008 Q2 2008 Q3 2008 Q4 2008 Q1 2009 Source: Cooley Godward Kronish LLP • Understand the effects of anti-dilution 23

CONTROL YOUR OWN DESTINY • Board composition Investors Founders • Voting rights/thresholds Visualization: Board room table –Would need to purchase. removing founders, removing board members 24

KNOW WHAT YOU ARE AGREEING TO 01 02 03

KNOW WHAT YOU ARE AGREEING TO 01 Do the math 02 03

KNOW WHAT YOU ARE AGREEING TO 01 Do the math Think about incentives 02 at various outcomes 03

KNOW WHAT YOU ARE AGREEING TO 01 Do the math Think about incentives 02 at various outcomes 03 Know who has control in important situations

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Build a Company for the Long Term

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