Legal Series: Financing Issues - Stops Along the Investment Food Chain Mass Technology Leadership Council The Spectrum of Financing Options Walter A. Wright, III, Esq. Trinity Law Group LLC 781.329.0008 [email_address]

Like all successful relationships, must be structured and managed properly Understand entrepreneur goals and limitations Understand company goals and limitations Understand investor goals and limitations Be certain the investor understands the company, and that there is a fit between company and investor Many sources of money …series of stops? a food chain? …financing is a relationship spectrum The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Like all successful relationships, must be structured and managed properly

Understand entrepreneur goals and limitations

Understand company goals and limitations

Understand investor goals and limitations

Be certain the investor understands the company, and that there is a fit between company and investor

Company The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com Entrepreneur Friends and Family Public Capital Markets Operations Commercial Banks Quasi-Government Agencies Angels Venture Capital Sources of Capital

The Entrepreneur Should be initial source of company funds Obvious limitations on amount of money available Entrepreneur needs to show commitment to company doesn’t mean you need to tie up your entire net worth As company grows, it may be necessary to turn to outside sources The appropriate type of investor and investment varies according to type and stage of company The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Should be initial source of company funds

Obvious limitations on amount of money available

Entrepreneur needs to show commitment to company

doesn’t mean you need to tie up your entire net worth

As company grows, it may be necessary to turn to outside sources

The appropriate type of investor and investment varies according to type and stage of company

Friends and Family The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com Members of immediate and extended family; friends and friends of friends; business acquaintances Can be evidence of ‘first believers’ in what you’re doing Limitations on amounts available Consider affects on personal relationships Securities law issues

Members of immediate and extended family; friends and friends of friends; business acquaintances

Can be evidence of ‘first believers’ in what you’re doing

Limitations on amounts available

Consider affects on personal relationships

Securities law issues

Placement Agents? Small investment banks will serve as “finders” Will act as agents - not as principals Can provide advice and introductions - but not capital Will take a success fee - some funds don’t like to pay Be careful of being locked up; finders often require Rights of participation in future offering Warrants with negligible exercise price The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Small investment banks will serve as “finders”

Will act as agents - not as principals

Can provide advice and introductions - but not capital

Will take a success fee - some funds don’t like to pay

Be careful of being locked up; finders often require

Rights of participation in future offering

Warrants with negligible exercise price

Angel Investors Become more organized, with professional managers who manage investments on behalf of the individuals As personal portfolios have declined in value, the amount available for investment has decreased Initial funding for product development, putting management team in place, leasing office space, initial equipment purchases, getting the beta, the first sale, etc. The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Become more organized, with professional managers who manage investments on behalf of the individuals

As personal portfolios have declined in value, the amount available for investment has decreased

Initial funding for product development, putting management team in place, leasing office space, initial equipment purchases, getting the beta, the first sale, etc.

Institutional Investors Commercializing product, creating a sales and distribution network, creating administrative infrastructure requires more substantial capital Three common sources of growth capital are: traditional venture capital firms, commercial banks and quasi-government agencies As company grows, it may be appropriate to raise capital in public capital markets The Spectrum of Financing Options Rich May, a Professional Corporation

Commercializing product, creating a sales and distribution network, creating administrative infrastructure requires more substantial capital

Three common sources of growth capital are: traditional venture capital firms, commercial banks and quasi-government agencies

As company grows, it may be appropriate to raise capital in public capital markets

Venture Capital: The Bright Side Will take equity - no regular debt service requirement preferred stock may carry redemption rights with coupon Time horizon for liquidity event is beginning to lengthen again, after shrinking over the last few years Access to experienced board members and mentors Ability to leverage investor relationships Acceleration The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Will take equity - no regular debt service requirement

preferred stock may carry redemption rights with coupon

Time horizon for liquidity event is beginning to lengthen again, after shrinking over the last few years

Access to experienced board members and mentors

Ability to leverage investor relationships

Acceleration

Valuations are depressed Founders give up a substantial piece of the company Become especially pronounced over the last 12-18 months Restrictions on operations, future financings and corporate transactions Control at risk Managing Investors Venture Capital: The Dark Side The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Valuations are depressed

Founders give up a substantial piece of the company

Become especially pronounced over the last 12-18 months

Restrictions on operations, future financings and corporate transactions

Control at risk

Managing Investors

Commercial Banks Commercial banking business model not designed for early stage companies with limited or no tangible assets or cash flows There are a limited number of banks who will loan to entrepreneurial tech companies Some banks have formed dedicated entities to focus on entrepreneurial companies May be appropriate source of expansion capital once operations are up and running The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Commercial banking business model not designed for early stage companies with limited or no tangible assets or cash flows

There are a limited number of banks who will loan to entrepreneurial tech companies

Some banks have formed dedicated entities to focus on entrepreneurial companies

May be appropriate source of expansion capital once operations are up and running

Usually not required to give up an equity stake some warrant coverage usually required As cash flow becomes available from operations or other financing sources, can retire debt Establish financial reporting procedures, credit history Commercial Banks: The Bright Side The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Usually not required to give up an equity stake

some warrant coverage usually required

As cash flow becomes available from operations or other financing sources, can retire debt

Establish financial reporting procedures, credit history

Must service debt through regular payments of principal and interest Security interest in company’s assets commercial banks rarely subordinate Personal guarantees by founders frequently required gets back to problem of exposing founders’ personal assets At some point, the bank will expect repayment Commercial Banks: The Dark Side The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Must service debt through regular payments of principal and interest

Security interest in company’s assets

commercial banks rarely subordinate

Personal guarantees by founders frequently required

gets back to problem of exposing founders’ personal assets

At some point, the bank will expect repayment

Quasi-Government Agencies Subset of venture capital Generally strictly limited by enabling legislation Geographic focus Industry Size of company Form of investment Amount of investment in one company The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Subset of venture capital

Generally strictly limited by enabling legislation

Geographic focus

Industry

Size of company

Form of investment

Amount of investment in one company

U.S. Small Business Administration www.sba.gov Massachusetts Capital Resource Co. www.masscapital.com Massachusetts Technology Development Corporation www.mtdc.com Quasi-Government Agencies The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com A few examples:

U.S. Small Business Administration

www.sba.gov

Massachusetts Capital Resource Co.

www.masscapital.com

Massachusetts Technology Development Corporation

www.mtdc.com

Timing is critical VC investors can provide invaluable guidance and introductions in process Sizes of company and offering determine purchasers if too small, many institutional purchasers will shy away or be prohibited from participating by their investment criteria ‘ Public Venture Capital’ is attractive, but dangerous investment banks in this space frequently lack resources or commitment to provide aftermarket support Public Equity: Initial Public Offering The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Timing is critical

VC investors can provide invaluable guidance and introductions in process

Sizes of company and offering determine purchasers

if too small, many institutional purchasers will shy away or be prohibited from participating by their investment criteria

‘ Public Venture Capital’ is attractive, but dangerous

investment banks in this space frequently lack resources or commitment to provide aftermarket support

Bright Side: Compressed Timetable Reduced Expenses More Ways To Raise Money Dark Side: With no underwriter to support the stock with research and trading, company becomes an orphan Can end up with worst of both worlds Illiquid stock with price dictated by intermittent trades No ability to value based on company’s story Added compliance cost and exposure to liability Public Equity: Merger with Public Shell The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Bright Side:

Compressed Timetable

Reduced Expenses

More Ways To Raise Money

Dark Side:

With no underwriter to support the stock with research and trading, company becomes an orphan

Can end up with worst of both worlds

Illiquid stock with price dictated by intermittent trades

No ability to value based on company’s story

Added compliance cost and exposure to liability

Funds from operations –plowback Equipment leasing Vendors Customers Strategic Partners Operational Alternatives The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Funds from operations –plowback

Equipment leasing

Vendors

Customers

Strategic Partners

Financing for ‘big ticket’ tangible asset purchases Usually provided by third party leasing company, but may also be available from equipment vendor Subject to same requirements as traditional loans – credit checks, security interest, possibly personal guarantees Option to buy at end of lease Equipment Leasing The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Financing for ‘big ticket’ tangible asset purchases

Usually provided by third party leasing company, but may also be available from equipment vendor

Subject to same requirements as traditional loans – credit checks, security interest, possibly personal guarantees

Option to buy at end of lease

Industry players can be sources of financing or other resources Usually only for a specific functional area, such as product or service development In return, partner will get rights in the product or service, e.g., license, distribution, ownership May have to agree to exclusive relationship Strategic Partners & Vendors The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Industry players can be sources of financing or other resources

Usually only for a specific functional area, such as product or service development

In return, partner will get rights in the product or service, e.g., license, distribution, ownership

May have to agree to exclusive relationship

Like all successful relationships, must be structured and managed properly Understand entrepreneur goals and limitations Understand company goals and limitations Understand investor goals and limitations Be certain the investor understands the company, and that there is a fit between company and investor Building Successful Financing Relationships The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com

Like all successful relationships, must be structured and managed properly

Understand entrepreneur goals and limitations

Understand company goals and limitations

Understand investor goals and limitations

Be certain the investor understands the company, and that there is a fit between company and investor

Company The Spectrum of Financing Options Trinity Law Group LLC www.trinitylg.com Entrepreneur Friends and Family Public Capital Markets Operations Commercial Banks Quasi-Government Agencies Angels Venture Capital Sources of Capital

Trinity Law Group is a greater Boston corporate law firm which practices the broad range of business law throughout Massachusetts, the United States and the world with well-recognized attorneys of stellar academic and professional accomplishment. Trinity Law Group is founded on the three pillars of strategy, technology and relationships that are transforming the practice of business law. Walter Wright has represented and counseled a broad spectrum of companies, investors, entrepreneurs and executives. Walt Wright has been named by Massachusetts Super Lawyers in Boston magazine as one of the top 100 attorneys in Massachusetts. The list compiles the 100 lawyers who received the highest total of points in the Massachusetts Super Lawyers nomination, research and blue ribbon review process based on surveys of over 35,000 lawyers across the state. Walt Wright specializes in business and corporate law; leads a law and strategic counseling practice intensely focused on the organizational, venture capital financing, operational and transactional requirements of entrepreneurs, emerging technology, marketing and information companies as well as representing major venture capital funds and angel groups in investment transactions and executives in transition. Walt Wright’s law and strategic counseling practice intensely focuses on the organizational, venture financing, operational and transactional requirements of entrepreneurs, emerging technology and information companies as well as representing venture capital funds and angel groups in investment transactions and executives. Walter A. Wright, III Attorney Trinity Law Group LLC [email_address] 781.329.0088