MIT enterprise forum alternative financing - 11-17-11


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MIT enterprise forum alternative financing - 11-17-11

  1. 1. ALTERNATIVE FINANCING OPTIONS FOR UNCERTAIN TIMES Anthony Millin Lerch, Early & Brewer, November 17, 2011
  2. 2. Overview Convertible Note – Friends and Family, Angel Round Preferred Stock – Angel Round, VC Round© Lerch, Early & Brewer 2011
  3. 3. A Convertible Note  A convertible note is a debt instrument, with interest that usually accrues  Frequently issued to angel investors (sometimes used with friends & family)  Frequently unsecured  Is usually convertible into a company’s preferred stock:  Automatically, at the time the company closes on its next qualified round of equity financing  If no such round occurs, at pre-agreed upon terms  Anytime prior to maturity, upon a vote of a majority of the convertible note holders  If there is no automatic conversion, and no election to convert is made, the convertible note is repayable along with accrued, but unpaid interest upon its maturity© Lerch, Early & Brewer 2011
  4. 4. Benefits Of A Convertible Note Structure  Relatively simple legal structure, and enables a lower transaction cost  Note Purchase Agreement and Promissory Note  Provides the investor with priority status over common and preferred shareholders with respect to the assets of the company.  Provides investor with a discount to the next round/warrants/Cap  Bypasses the need for the parties to agree on the current value of the company© Lerch, Early & Brewer 2011
  5. 5. A Convertible Note With A “CAP”  The cap ensures that if the issuing company is very successful, the convertible note investors still will own a material percentage of the company  Offers protection in situations when there is:  A significant jump in the value of the company for the first preferred round and/or a considerable amount of capital is raised.  Investor will usually have the option to convert at either:  A negotiated discount (i.e., 20%) to the next preferred round  The agreed-upon valuation cap.  Investor is compensated for investing during a period when market risk, execution risk, technology/product risk and financing risk are usually the highest.© Lerch, Early & Brewer 2011
  6. 6. EXAMPLE A company with 1 million shares of common stock outstanding Issued a $500,000 convertible note, with a conversion discount of 20% and a conversion cap of $6 million. The start-up was able to raise $15 million at a pre-money valuation of $45 million in its first preferred round of financing. $ 6 million 20% No Cap or Cap Discount Discount Valuation $6 million $36 million $45 million # of Shares 83,333 13,889 11,111 % Of Company 5.9% 1.0% 0.8% (Post)© Lerch, Early & Brewer 2011
  7. 7. Preferred Stock  Is a security that represents an equity ownership interest in a corporation.  Comes with a set of rights and preferences (priorities) over the common stock related to the assets and profits of a company.  Comes with a set of protective provisions that limit actions that can be taken by the Company without preferred shareholder approval.  The first preferred round is called Series A Preferred, the second preferred round is called Series B Preferred, followed by Series C Preferred, etc.  Typically issued on pre-money fully diluted basis.  Agreements typically include:  Stock Purchase Agreement  Investor Rights Agreement  Right of First Refusal and Co-Sale Agreement  Voting Agreement  Amended and Restated COI© Lerch, Early & Brewer 2011
  8. 8. Three Key Levers of Negotiation Value of the Company  Pre-Money, Fully Diluted Value placed on Company  $5 million/1 million=$5/share vs. $5 million/1.5 million = $3.33/share Rights  Liquidation Preference (Participating vs. Non Participating), Dividend Rights (Cumulative vs. Non-Cumulative), Preemptive Rights, Co-Sale Rights, Information Rights, Right of First Refusal Protection  Require the approval of a majority of the preferred stock before an action is taken by the company  Amending the COI, Redemptions, change in business, size of board, dissolving company, issuance of new superior securities
  9. 9. For more information Lerch, Early & Brewer, Chtd. 3 Bethesda Metro Center, Suite 460 Bethesda, MD 20814 (301) 986-1300 Thank you for your participation© Lerch, Early & Brewer 2011