Changing Relationship Between Venture Capital And Angels - Impact On Funding Of Startups

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Changing Relationship Between Venture Capital And Angels - Impact On Funding Of Startups

  1. 1. Changing Relationship Between Venture Capital And Angels Impact On Funding Of Startups Prepared by Charles V. Fishel Hoffman Row Group for IP Society February 4, 2004
  2. 2. Venture Capital Trends
  3. 3. Venture Capital Historical Trend Data (National) 2002-3 2001-2 2000-1 1998-4 1997-3 1996-2 1995-1 $0 $5,000,000, $10,000,000 $15,000,000 $20,000,000 $25,000,000 $30,000,000 $35,000,000 000 ,000 ,000 ,000 ,000 ,000 ,000 Investment Amount # of Deals Price Waterhouse Money Tree at http://www.pwcmoneytree.com/moneytree/nav.jsp?page=historical on 040202
  4. 4. 19 95 $10,000,000,000 $12,000,000,000 $2,000,000,000 $4,000,000,000 $6,000,000,000 $8,000,000,000 $0 19 - 1 95 1 9 -2 95 19 - 3 95 19 - 4 96 1 9 -1 96 19 - 2 96 19 - 3 96 1 9 -4 97 19 - 1 97 1 9 -2 97 19 - 3 97 19 - 4 98 1 9 -1 98 19 - 2 98 19 - 3 98 1 9 -4 99 19 - 1 99 19 - 2 99 Investment Amount 1 9 -3 99 20 - 4 00 20 - 1 00 # of Deals 2 0 -2 00 20 - 3 00 20 -4 01 2 0 -1 01 Venture Capital Trend Data Silicon Valley 20 - 2 01 2 0 -3 01 20 - 4 02 20 - 1 02 Price Waterhouse Money Tree at http://www.pwcmoneytree.com/moneytree/nav.jsp?page=historical on 040202 2 0 -2 02 20 - 3 02 20 -4 03 2 0 -1 03 20 - 2 03 -3
  5. 5. Se l f- fu C r n di ed ng it Ca rd s Fa m il y Fr ie nd Co Su s m pp m lie As er rs se c ia t -b l as B an ed ks Le In nd su I n ers ra st nc i tu e tio Ve C om ns nt pa ur n e Levels of Funding - Firm Maturity Ca ies p Pr ital iva ist te s P u E qu bl i ty ic Eq ui C o P ub ty m lic m De er Bygrave, Portable MBA in Entrepreneurship (Wiley, 2d) p. 1 cia bt lP ap er
  6. 6. Se l f- fu C r n di ed ng it Ca rd s Fa m il y FFF Fr ie nd Co Su s m pp m lie As er rs se c ia t -b l as B an ed ks Le ANGELS In nd su I n ers ra st nc i tu Pre-Bust e tio Ve C om ns nt pa ur n e Levels of Funding - Firm Maturity Ca ies p Pr ital iva ist te s VENTURE CAPITAL P u E qu bl i ty ic Eq ui C o P ub ty m lic m De er bt cia IPO lP ap er
  7. 7. Se l f- fu C r n di ed ng it Ca rd s Fa m il y FFF Fr ie nd Co Su s m pp m lie As er rs se c ia t -b l as B an ed ks Le In nd Now su I n ers ra st nc i tu e tio ANGELS Ve C om ns nt pa ur n e Levels of Funding - Firm Maturity Ca ies p Pr ital iva ist te s P u E qu bl i ty ic CAPITAL VENTURE Eq ui C o P ub ty m lic m De er bt cia IPO lP ap er
  8. 8. VC Investments by Stage (2003Q3) 60 50 40 30 20 10 0 Startup/Seed Early Stage Later Stage Expansion Price Waterhouse Money Tree at http://www.pwcmoneytree.com/moneytree/nav.jsp?page=historical on 040202
  9. 9. “Pre-Bust” (1998) l Entrepreneurself-funds through concept/patent application l VCs step in to fund to IPO/acquisition l Average Deal Size: $4 – 6 Million
  10. 10. “Internet Boom” (1999-2000) l Entrepreneur gets an idea! l VCs step in to fund to IPO/acquisition l Average Deal Size: $10 Million (+++)
  11. 11. “Post Bust” (2003) l Entrepreneur gets an idea l Self-funds through revenue generation l VCs step in to fund to IPO/acquisition l Average Deal Size: $2 – 4 million l Fewer deals done.
  12. 12. Valuation Changes 1999: l Sequoia Capital paid $5 million for 8% of eToys. 2003: l VCs agree to valuation of $4 million and invest $4 million l50% SJ Mercury News, 5/18/2003, p.F1
  13. 13. l Venture market may be close to end of "post bubble" adjustment: l healthier technology stock market, l higher percentage of "new" Series A deals, and l lower number of restructuring transactions. The Buzz of the Week, PE and VC Issues and Commentary, December 16th, 2003
  14. 14. l Nationwide, venture capital investments rose 6 percent to $4.49 billion from $4.24 billion in the third quarter, the highest level in a year l Silicon Valley now provides more than 37 percent share of the nation's total venture capital -- up from the 34 percent average seen over the past six years. Posted on Mon, Jan. 26, 2004 , Venture funding soars by 22% By Matt Marshall, Mercury News
  15. 15. l Nationally, only 19% all the venture capital handed out in 2003 went to first-time fundings . A Tough Chase for Venture Capital By Ellen McCarthy, Washington Post Staff Writer, Monday, February 2, 2004; Page E01
  16. 16. l USventure capital investments jumped 15 percent in late 2003 l Risk-averse investors mostly shunned young startup companies, pushing late stage financing to a 20- year high. http://www.msnbc.msn.com/id/4077505/ as of 040202
  17. 17. Changing Relationship Between Venture Capital And Angels
  18. 18. Shift Away from VC Funding 100% 80% 60% Non VC-backed IPO VC-Backed IPO 40% 20% 0% 1998 1999 2000 2001 2002 2003 ytd S.J. Mercury News, 5/18/2003, p. 1F
  19. 19. Shift Away from VC Funding VC-backed Non-VC- IPO backed IPO 1998 62 305 1999 231 278 2000 218 166 2001 18 86 2002 26 81 2003 ytd 1 5 S.J. Mercury News, 5/18/2003, p. 1F
  20. 20. Angels vs. VCs l Considerable overlap and interplay among l angel investors, l private equity, and l venture capital. The Private-Capital Survival Guide. From: Inc. Magazine, March 2003 | By: Harris Collingwood
  21. 21. Angels vs. VCs l Boundaries between angel investors and venture-capital investors are particularly fluid, l having mainly to do with degree of organization and size of their investments. The Private-Capital Survival Guide. From: Inc. Magazine, March 2003 | By: Harris Collingwood
  22. 22. Funding “Sweet Spots”
  23. 23. AMOUNTS RAISED BY SECTOR (National - 2003Q3) Industry Sector Amount Deals Life Sciences / Biotechnology $929m 90 Software $856m 165 Telecommunications $492m 73 Medical Devices and Equipment $324m 55 Networking and Equipment $324m 48 Business Products and Services $209m 28 IT Services $173m 37 Semiconductors $168m 24 Computers and Peripherals $167m 31 Media and Entertainment $164m 30 Industrial/Energy $146m 32 Consumer Products and Services $120m 16 Electronics/Instrumentation $99m 12 Healthcare Services $51m 16 Retailing/Distribution $22m 16 Financial Services $15m 12 Price Waterhouse Money Tree at http://www.pwcmoneytree.com/moneytree/nav.jsp?page=historical on 040202
  24. 24. Amounts Raised by Sector (National - 2003Q3) Ot her R et ail ing / D ist rib ut io n El ect ro nics/ Inst r ument at io n Ind ust ri al / Ener g y C o mp ut ers and Peri p herals IT Services N et wo r ki ng and Eq ui p ment T eleco mmunicat io ns Software B i o t echno lo g y $0 $100 $200 $300 $400 $500 $600 $700 $800 $900 $1,000 Price Waterhouse Money Tree at http://www.pwcmoneytree.com/moneytree/nav.jsp?page=historical on 040202
  25. 25. Favored Sectors l Lifesciences dominated investments for second consecutive quarter, l displacing software as top sector l Lagging far behind: l telecommunications and l network sectors. http://www.msnbc.msn.com/id/4077505/ as of 040202
  26. 26. Less-Favored Sectors l Computer and communications sectors continue to fight for funding following massive over-investments during dotcom boom years l Telecommunications, which suffers from lingering overcapacity, had hardest time raising new money. http://www.msnbc.msn.com/id/4077505/ as of 040202
  27. 27. Software l Most viable new software companies will be those that sell software as a service. “VCs make Silicon Valley predictions” Robert Mullins http://www.bizjournals.com/sanjose/stories/2004/01/12/daily50.html?f=et79 Silicon Valley /San Jose Business Journal, January 16, 2004
  28. 28. Nanotechnology l May be “next wave”.
  29. 29. [Offshore] Outsourcing l Venture capital firms are encouraging outsourcing l One major American venture capital firm, for example, is understood to insist, as a condition of investment, that “any company it invests in outsource its computer programming tasks to the greatest extent possible.” VCs Turn Their Gaze Offshore, Gabor Garai is a partner in the Boston office Epstein Becker & Green, `http://www.businessweek.com/smallbiz/content/feb2004/sb2004022_8952_sb020.htm at 040202
  30. 30. Outsourcing l Outsourcing will increasingly be viewed by venture capitalists l not just a way to save money, l but to make money l Outsourcing is a way for small companies to speed development and focus on their core competencies by leveraging cash. VCs Turn Their Gaze Offshore, Gabor Garai is a partner in the Boston office Epstein Becker & Green, `http://www.businessweek.com/smallbiz/content/feb2004/sb2004022_8952_sb020.htm at 040202
  31. 31. Outsourcing l Company's ability to attract venture capital won't be limited to its location, but increasingly to its ability to make the best use of its assets – l both physical and intellectual l Thus, outsourcing may help smaller companies attract venture capital. VCs Turn Their Gaze Offshore, Gabor Garai is a partner in the Boston office Epstein Becker & Green, `http://www.businessweek.com/smallbiz/content/feb2004/sb2004022_8952_sb020.htm at 040202
  32. 32. Strategic Alliances l Easier funding l Particularly working with investment bankers and consultants.
  33. 33. Desperation = Tough Terms l The more urgent an entrepreneur's need for money, l the more onerous are the terms l Desperate companies may sell equity to someone and promise that investor will never be diluted l Severe terms can stop company's growth cold." The Private-Capital Survival Guide. From: Inc. Magazine, March 2003 | By: Harris Collingwood
  34. 34. Restrictive Terms l During downturn, many venture capitalists, secured their investments with so-called ``liquidation preferences'' l Clauses guaranteed that, if start-up was sold, l VCs would get their money first – lbefore other executives or employees. Posted on Thu, Nov. 06, 2003, VCs hope higher spending will boost start-up sales By Matt Marshall, Mercury News
  35. 35. Restrictive Terms l This sets management and employees at odds with their VCs l May be counter-productive l Start-up's employees won't profit, and will resist merger / acquisition l Many deals fall apart on their own complexity. Posted on Thu, Nov. 06, 2003, VCs hope higher spending will boost start-up sales By Matt Marshall, Mercury News
  36. 36. Tough Terms l Down rounds continue to dominate (79%) l However, use of some tougher terms such as l multiple liquidation preference, l ratchet anti-dilution and l pay-to-play are trending toward more customary levels l Suggesting increased VC optimism. The Buzz of the Week, PE and VC Issues and Commentary, December 16th, 2003
  37. 37. Angels
  38. 38. Traditional Angels l In the past, most angels flew solo, l meeting with prospective entrepreneurs individually, l doing their own due diligence, and l investing at their own pace. A Chorus of Angels. Inc. Magazine, January 2004 | Page 38 By: Suzanne McGee Illustrations by: Christopher Neal
  39. 39. Major Hassle for Entrepreneurs l Cash-strapped business owners were forced to haul dog-and-pony shows from one angel to next, l making the same pitch over and over. A Chorus of Angels. Inc. Magazine, January 2004 | Page 38 By: Suzanne McGee Illustrations by: Christopher Neal
  40. 40. Good News? l New wave of angel groups is changing l Angel groups, generally composed of 50 to 60 wealthy individuals focus on reducing risk and increasing odds of finding a top- quality deal l They are far more likely to spot a flawed business plan. A Chorus of Angels. Inc. Magazine, January 2004 | Page 38 By: Suzanne McGee Illustrations by: Christopher Neal
  41. 41. Good News? l Angels and seed funds that once provided needed capital for first two years of growth have adopted same criteria as traditional venture funds, l leaving entrepreneurs to fend for themselves until they can demonstrate traction. Three Trends in Startup Financing 03.04.2003 - By Robert Dellenbach http://www.avce.com/main.php?load=displayMatch&newsid=128 on 040131
  42. 42. Active Investors l 200,000 individuals l Typical startup l 5 – 6 angels. Center for Venture Research at University of New Hampshire, Press Release 6/11/03
  43. 43. Sector Analysis l 40% - Software l 14% - Life Sciences l (other than biotech) l 5% each for other sectors. Center for Venture Research at University of New Hampshire, Press Release 6/11/03
  44. 44. Stage l 2002: l Angels typically fund seed/start-up stage l47% of angel investments in seed/start-up ventures l 33% of investments were early stage. Center for Venture Research at University of New Hampshire, Press Release 6/11/03
  45. 45. “In the Zone” l If you are raising an angel round from individual investors and you can get away with selling 10-15% of your company l If you are raising a Series A round from professional institutional VC investors and you can get away with selling 20- 40% of your company. 12 Secrets of Negotiating the Best Valuation for Your Company By Jeff Parness
  46. 46. Regional Angel Groups
  47. 47. Silicon Valley Band of Angels l Founded in 1995. Invests across all high-technology categories. Majority of investments have been made in the seed or early round (Series A or B): $82.6 million into more than 132 startups l Sweet Spot: Silicon Valley-based high-tech start-ups. l Average investment: $1 million l Number of angels/investors in the network: 150 l Contact: Band of Angels 3130 Alpine Rd. Suite 200-7003 Portola Valley, CA 94028 415-441-2887 info@bandangels.com
  48. 48. CVBI Angel Investor Network (Central Valley Business Incubator) l Accepts applications only from businesses in California's Central Valley region. l Average investment range: $10,000 to $500,000 l Contact: CVBI Angel Investor Network 2555 Clovis Ave. Clovis, CA 93612 559-292-9033 kfurtado@csufresno.edu
  49. 49. Sierra Angels l Preference businesses located in Nevada, California, or other nearby locations ---companies with unique products / proprietary technology. l Sweet Spot: Northern Sierra-based companies. l Average investment range: $500,000 to $2,000,000 l Contact: l Sierra Angels PO Box 3215 Incline Village, NV 89450-3215 775-831-7804 Send E-mail to the most appropriate address: l Software@sierraangels.com Computing_Communications@sierraangels.com HealthSciences@sierraangels.com Internet@sierraangels.com OtherTech@sierraangels.com
  50. 50. The Angels' Forum l Invests in companies based in Silicon Valley / SF Bay Area. l Portfolio companies include consumer products, enterprise software, industrial products, Internet and E-commerce, medical devices and services, networking technologies, pharmaceutical, semiconductors, telecommunications, and wireless. Most start-up companies come to group prescreened through professional contacts in the banking, investment, and legal fields. l Sweet Spot: Companies specializing in disruptive technologies. l Average investment range: $100,000 to $750,000 l Number of angels/investors in the network: 25 l Contact: The Angels' Forum PO Box 1605 Los Altos, CA 94023-1605 650-857-0700 inquiries@AngelsForum.com
  51. 51. Fast Angels l Invests primarily in companies in Silicon Valley. Seeks out technology entrepreneurs focused on helping business "act faster, act smarter." l Sweet Spot: Seed-round financing in companies with less than a $2.5-million valuation. Average investment range: $50,000 to $1 million l Number of angels/investors in the network: 12 l Contact: Web site only l Submit business ideas via the Web site.
  52. 52. Monterey Investor Roundtable l affiliated with Gathering of Angels l Monthly presentations have included environmental, biotech, biomedical, eCommerce, nanotechnology, explosive detection, software, hardware, semiconductors l Investments are made by individual members (Roundtable does not seek to invest as a group) l Contact: l cfishel@hoffmanrowgroup.com
  53. 53. Golden Capital Network l Conferences where entrepreneurs can present to VCs and Angels.
  54. 54. International Angels Organization l Led by Hal Nissley
  55. 55. Non-Disclosure Agreements
  56. 56. Use of NDAs l Most U.S. venture capital and investment banking firms will not execute NDAs because they: l see many different projects and l do not wish to inadvertently be perceived to be in violation of NDA l May want to steal your idea… l Instead, entrepreneurs must rely upon firm’s integrity as a firm and its close working relationship with the client to achieve successful outcomes.
  57. 57. NDAs - an Investment Banker’s Perspective l “Possibly we could get NDA's from people we talk to but then how could they help us without discussing what we have with others. Usually these types of agreements are not signed with investment banking firms because of the very nature of the work we are dealing with. l We have already spent substantial time defining who would be the critical partner in this matter, but it would be hard to deal with anyone without telling them what we are doing. l It undercuts everything we will be talking about when we meet.” Robert Spira, Chapman Spira and Carson
  58. 58. Secrecy Backfired l Entrepreneur refused to provide investment banker with information for due diligence l By default, another firm “won” funding of $5.5 million.
  59. 59. l Only do business with someone you can trust l It’s safer than an NDA l NDAs are nearly worthless…
  60. 60. Hoffman Row Group, Inc. 98 Del Monte Ave., Suite 205 Monterey, CA 93940 Tel: 831-224-8800 • Fax: 831-401-2340 cfishel@hoffmanrowgroup.com www.hoffmanrowgroup.com

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