Chapter 2 An Overview of New Venture Financing Copyright¸ 2003 John Wiley & Sons, Inc. All rights reserved. Reproduction or translation of this work beyond that permitted in Section 117 of the 1976 United States Copyright Act without the express written permission of the copyright owner is unlawful. Request for further information should be addressed to the Permissions Department, John Wiley & Sons, Inc. Instructors may make copies of the PowerPoint Presentations contained herein for classroom distribution only. The Publisher assumes no responsibility for errors, omissions, or damages, caused by the use of these programs or from the use of the information contained herein.
Learn new venture financing terminology.
Understand the value of tying financing to performance milestones
Recognize the distinguishing characteristics of the various stages of new venture development
Identify the financing sources available to a new venture and the factors favoring one over another
Learn the basic structures and availability of various financing sources
Identify the key elements of deal structure and the functions they serve
The following table contains financial information from the business plan of a new venture, LaserGolf, Inc, that makes a portable device that uses Laser technology for measuring distances with great precision.
(Amounts in thousands of dollars and in intervals of six months)
How would you propose to identify the stages of new venture development?
How much cash is the venture expected to need in total? Why?
Would your proposal for staging be different if you were advising the entrepreneur as opposed to a prospective investor?
What would you suggest as useful milestones for evaluating progress?
What kinds of investors are best suited for investing at various stages of development?
Suppose, after your group makes an initial investment in the venture prior to month 18, the venture fails to achieve the next milestone you had agreed for making the next cash infusion, what would you do? Why?
An existing biotechnology venture has a prototype of a device for using ultrasound to shatter kidney stones. The venture is seeking an infusion of $5 million to carry it to the next milestone. The $5 million is needed to complete the testing required for FDA approval. Three alternatives are under consideration:
Scenario 1: An investor is proposing to provide the capital in exchange for $2 million shares of common stock
Scenario 2: The investor will accept 1.8 million shares of preferred stock, convertible to common on a 1 for 1 basis
Scenario 3: The investor will accept 1.5 million convertible preferred shares, along with warrants to acquire an additional 1.5 million shares for a nominal price. The warrants can be exercised only if the venture fails to achieve the revenue level projected by the entrepreneur in 2 years
In a previous round of financing for a resort spa, an investor contributed $2 million in exchange for 1 million shares of common stock with the entrepreneur retaining 2 million shares.
Due to massive delays and cost overruns, the entrepreneur needs another $1 million with which he hopes to complete development.
However the existing agreement includes a ratchet provision for the prior investor. Under the terms of the ratchet, the investor will receive enough new free shares so that his average cost per share is same as that of any new investor
Suppose that in the absence of the ratchet provision a new investor would be willing to accept 1.25 million shares in exchange for the $1 million of investment. Compute the post-money valuation
Now based on valuation in previous part, giving effect to the ratchet provision, what price per share would the new investor seek and how many shares would the existing investor receive?
Suppose the ratchet agreement has a floor that limits the average cost of the existing investor to a minimum of $1 per share. How would the limitation affect the price per share for the new investor and the number of new shares to the new investor?
What fraction of the equity would the entrepreneur end up retaining under each of three scenarios?