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  1. 1. Venture Capital Considerations for University Tech Transfer Offices Presented by: Gene Schleppenbach and Mark Catan Miles & Stockbridge P.C. and Mark Frantz RedShift Ventures, Inc.
  2. 2. Understand the Sources of Funding <ul><li>Many different sources of financing </li></ul><ul><ul><li>Venture capital </li></ul></ul><ul><ul><li>Angels – professional and friends & family </li></ul></ul><ul><ul><li>Federal government (various grant programs – SBIR and STTR) </li></ul></ul><ul><ul><li>State and local government – economic development programs </li></ul></ul><ul><ul><li>Strategic investors (established companies in the industry) </li></ul></ul><ul><li>Important to understand the investment objectives of each </li></ul>
  3. 3. Who has the $$ and at What Stage? <ul><li>Stages of Venture Capital </li></ul><ul><ul><li>Know when and under what circumstances venture capital is a realistic possibility. </li></ul></ul><ul><ul><li>Seed ($100K-$1 million) -- typically used for product (alpha and earlier) and BPlan development </li></ul></ul><ul><ul><li>Early Stage -- Series A ($1 - $5 million) -- product needs to be developed (beta or beyond), solid BPlan, core management team, and some significant interest from a player in the target industry </li></ul></ul><ul><ul><li>Expansion Capital ($5 - $15 million) -- need to have the product fully developed, proof of market (meaningful sale to a player in the market), solid management team and B Plan </li></ul></ul>
  4. 4. <ul><li>Venture Economics </li></ul><ul><ul><li>Most venture funds have a 10-12 year target life cycle, which shapes its receptivity to new investment opportunities </li></ul></ul><ul><ul><li>Early stage venture funds strive to find 1-2 investment “homeruns” on each deal, given the high betas on outcomes – which is different from investment objectives of Angels and corporate investors/licensees </li></ul></ul><ul><ul><li>Most funds look to earn at least gross annual returns in excess of thirty percent (30%) over their term (approximately 22.5% annual net return) </li></ul></ul><ul><ul><li>Most funds are almost fully committed within three - five years </li></ul></ul><ul><ul><li>The evaluation analysis is keyed off of expected investment return (multiples on amount invested in the range of at least 5x to 20x) </li></ul></ul>
  5. 5. <ul><li> Valuation Considerations </li></ul><ul><li>The valuation that a company receives includes many considerations: </li></ul><ul><li>What’s been accomplished to date </li></ul><ul><li>The long-term potential of the business </li></ul><ul><li>The amount of money in this round, which is typically determined based on the funding needed to achieve targeted milestones </li></ul><ul><li>The anticipated “pre-money” valuation of the company at the next round – assuming increased valuation based upon application of proceeds invested in current round of financing </li></ul><ul><li>The number of subsequent rounds required until liquidity event (IPO or sale, including the likely amount of each round) </li></ul><ul><li>Because each deal is hopefully unique, comparables are of limited utility </li></ul>
  6. 6. <ul><li>What do VCs Look For? </li></ul><ul><li>A compelling product or service (preferably paradigm shifting) in a new, high-growth market </li></ul><ul><li>A clear path to commercialization – go to market strategy </li></ul><ul><li>Product at beta stage or beyond, with initial customer testing or, better, customer purchase </li></ul><ul><li>Compelling unmet need that product or service meets </li></ul><ul><li>Significant advantage to market or barriers to entry – a strong IP position (both freedom to operate and power to exclude) is very helpful and a big differentiator </li></ul>
  7. 7. <ul><li>Financing Pre-VC </li></ul><ul><li>Self finance as much as possible -- not even friends and family, much less professional angels, will invest if you do </li></ul><ul><li>not have a well conceive idea and plan </li></ul><ul><li>Fiends/Family/Casual Angels – make sure they </li></ul><ul><li>understand the risk, properly document and don’t over </li></ul><ul><li>Value </li></ul><ul><li>Professional Angels – harder to find professional angels; </li></ul><ul><li>they understand they are a bridge to early stage VC, so </li></ul><ul><li>need to conclude VC fundable. Rarely take common. </li></ul>
  8. 8. <ul><li>Financing Pre-VC (cont’d) </li></ul><ul><li>Federal Sources </li></ul><ul><li>Government sponsored VCs (In-Q-Tel; OnPoint) – similar to strategic partners </li></ul><ul><li>SBIR/STTR </li></ul><ul><ul><li>Phase I ($100K; 6 months; basic R&D/feasibility) </li></ul></ul><ul><ul><li>Phase II (up to $750K (sometimes higher at NIH for drug dev.); 12-18 months (3 years for drug dev); proof of concept/prototype) </li></ul></ul><ul><ul><li>Phase III (commercialization; previously no money and not much help; changing landscape) </li></ul></ul>
  9. 9. <ul><li>Financing Pre-VC (cont’d) </li></ul><ul><li>State/Local – many states have seed-level financing </li></ul><ul><li>through economic development programs </li></ul><ul><li>Strategic/Corporate Investors -- looking for technology that fits into their strategic plan </li></ul>
  10. 10. <ul><li>Do Your Own Diligence on VCs </li></ul><ul><li>Differing stages of investment focus </li></ul><ul><li>Different industry focuses </li></ul><ul><li>Geographic considerations </li></ul><ul><li>Management style -- active or passive management </li></ul><ul><li>Competing companies in their portfolio? </li></ul><ul><li>Personalities compatible? </li></ul><ul><li>Strong syndicate to help with follow-on rounds? </li></ul><ul><li>Help with distribution channels/sales and executive recruitment? </li></ul>
  11. 11. Avoid Start-Up Pitfalls <ul><li>Do Not Create Hurdles to Investment </li></ul><ul><li>Appropriately document equity commitments to co-founders or promoters involved in company formation and/or financing </li></ul><ul><li>Avoid unconventional corporate or capital structures or insure convertible to standard structures </li></ul><ul><li>Build management team with appropriate critical skill sets – understand/acknowledge areas where there are holes and evolving needs as the company grows </li></ul><ul><li>Avoid over/under valuing at seed round; convertible debt can help </li></ul><ul><li>Bottom line…get good people in and around the business and keep bad/not good enough people away from the business – don’t accept half solutions </li></ul>
  12. 12. IP Essential Basics <ul><li>Investor due diligence will reward diligence and best practices WRT </li></ul><ul><ul><li>Title to IP (all required assignments in-hand); </li></ul></ul><ul><ul><li>Patenting and defensive publishing directed to product ecosystem; </li></ul></ul><ul><ul><li>Freedom to operate including access to essential technology and materiel, particularly in view of rights of prior sponsors; </li></ul></ul><ul><ul><li>Practical knowledge of prior art and where the most important patent opportunities exist (the white space); </li></ul></ul><ul><ul><li>An IP strategy: Processes for using IP effectively; </li></ul></ul><ul><ul><li>IP clauses and other contractual restrictions on principal personnel; </li></ul></ul><ul><ul><li>Access to and ability to transfer non-IP intangible assets such as know-how, consulting agreements, relationships, special knowledge and business processes. </li></ul></ul><ul><li>Effective IP position reduces risk. Particularly important in view of fact that Universities will not permit strong representations and warranties or indemnification. </li></ul>
  13. 13. Patent early. Patent often. Basic idea 1 Year Grace Period (Paris Convention) Basic idea First data Basic idea First data Second data Basic idea First data Second data Refinement of basic Basic idea First data Second data Refinement of basic Related technology File File File File File
  14. 14. IP: Tendency to focus on research Product New technology Researchers love HARD problems … and ignore the easy ones But in the patent world, the only thing that matters is whether there is infringement
  15. 15. Product Ecosystem Purchase chain Explain value proposition Purchase Install Use Product Manufacture Raw materials Distribute Disposal Supply chain Adjunct services Training Safety Regulatory hurdles Environmental Communicate Recurring revenue Repair Protect or block others using defensive publication Commercial spawn Real world constraints Subsidies, taxes Allied products It isn’t just an issue of how strong your patent position is. It’s also a question of freedom to operate
  16. 16. It’s the value proposition (stupid) Other ways to get there Technology we developed Value proposition Other ways to get there We preferred in vivo tissue generation over in vitro ... Non-tracking solar was on our design critical path Our (lame) patent Protecting the technology
  17. 17. It’s the value proposition (stupid) Other ways to get there Technology we developed Value proposition Other ways to get there Team player Broad patent Protecting the value proposition
  18. 18. Values patents have Ÿ Residual capital value for investor if business fails Ÿ Collateral for loans (Asset Based Lending) Ÿ Out-licensable property Ÿ Currency for exchange in a dispute such as in-infringement Ÿ Currency for exchange for in-license Ÿ Portfolio value (aggregate to achieve market exclusivity) Ÿ Don’t need to be enforced directly  Deterrent effect (Détente, even)  Sell enforcement right to big entity Calculation on IP should not just be what to patent but also what to invent! Companies routinely invent for strategic patents. Patents are a business tool.
  19. 19. Venture Terms <ul><li>The Term Sheet </li></ul><ul><ul><li>Obviously a key hurdle </li></ul></ul><ul><ul><li>What does it take to get there? </li></ul></ul><ul><ul><li>Diligence – on the technology, the potential market, the team, the business plan, projections, etc. </li></ul></ul><ul><ul><li>Partnership meetings/presentations </li></ul></ul><ul><ul><li>Building a syndicate </li></ul></ul>
  20. 20. Investment Terms <ul><li>Valuation/Price per Share/Percentage of the Company </li></ul><ul><li>Type of Security </li></ul><ul><ul><li>Preferred Stock </li></ul></ul><ul><ul><li>Why Delaware? </li></ul></ul><ul><li>Anti-dilution </li></ul><ul><li>Liquidation Preference </li></ul><ul><li>Dividends </li></ul><ul><li>Conversion </li></ul>
  21. 21. Investment Terms <ul><li>Preemptive Rights - Pay to Play </li></ul><ul><li>Voting Rights </li></ul><ul><ul><ul><li>amends to charter or bylaws </li></ul></ul></ul><ul><ul><ul><li>liquidation, dissolution </li></ul></ul></ul><ul><ul><ul><li>increase in authorized existing preferred </li></ul></ul></ul><ul><ul><ul><li>creating any new class of preferred on parity with or senior to existing preferred </li></ul></ul></ul><ul><ul><ul><li>merger, consolidation, reorganization, sale of all or substantially all of assets </li></ul></ul></ul><ul><ul><ul><li>redemptions </li></ul></ul></ul><ul><ul><ul><li>declaring or paying dividends </li></ul></ul></ul>
  22. 22. Investment Terms <ul><li>Redemption </li></ul><ul><li>Registration Rights </li></ul><ul><li>- demand, piggy-back, short-form </li></ul><ul><li>Stockholders’ Voting Agreement </li></ul>
  23. 23. Investment Terms <ul><li>Investor Rights Agreement </li></ul><ul><ul><li>Stockholder Restrictions/Obligations </li></ul></ul><ul><ul><ul><li>restriction on transfer of common </li></ul></ul></ul><ul><ul><ul><li>right of first refusal/co-sale </li></ul></ul></ul><ul><ul><ul><li>drag rights </li></ul></ul></ul><ul><ul><li>Affirmative Covenants/Protective Provisions </li></ul></ul><ul><ul><ul><li>Information Rights – financials (budget, quarterly, annual); material filings (e.g., with regulatory agencies); law suits; notices of defaults, etc. </li></ul></ul></ul><ul><ul><ul><li>Board – seats; observer rights; compensation/reimbursement/D&O; committees (comp/audit/exec.) </li></ul></ul></ul><ul><ul><ul><li>Employees – IP Assignment, non-compete and non-disclosure agreements; standard terms of options (unless Preferred Director approval) </li></ul></ul></ul>
  24. 24. Investment Terms <ul><ul><li>Negative Covenants/Protective Provisions </li></ul></ul><ul><ul><ul><li>Expenditures/commitments re same </li></ul></ul></ul><ul><ul><ul><li>Indebtedness </li></ul></ul></ul><ul><ul><ul><li>Loans </li></ul></ul></ul><ul><ul><ul><li>Hiring/firing key executives or key employees </li></ul></ul></ul><ul><ul><ul><li>Compensation levels </li></ul></ul></ul><ul><ul><ul><li>Changing business </li></ul></ul></ul><ul><ul><ul><li>Changing locations </li></ul></ul></ul>
  25. 25. [email_address] [email_address] [email_address] Fax: (703) 904-0571 Fax Number: 703.610.8686 Fax Number: 703.610.8686 Main Number: 703.903.9000 Main Number: 703.903.9000 Phone : (703) 904-9800 Direct Number: 703.610.8675 Direct Number: 703.610.8623 Arlington, VA 22201-3326 McLean, Virginia 22102-3833 McLean, Virginia 22102-3833 Suite 402 Suite 500 Suite 500 2425 Wilson Boulevard 1751 Pinnacle Drive 1751 Pinnacle Drive RedShift Ventures Miles Stockbridge, PC Miles Stockbridge, PC General Partner Principal Principal Mark A. Frantz Mark Catan Gene  Schleppenbach