v3 of my class notes for students on how to understand how much money to raise, how much equity to give away, how VC funds work, and how to mitigate risks. (finally, Slideshare does not accept Keynote formats anymore. Converted to PDF before upload, hence the white stripes).

1. V3. - October 2015 - (CC) BY NC SA
Fundraising for startups
Rodrigo A. Sepúlveda Schulz
Source: http://twistedsifter.com/2009/11/how-to-lose-193-million-in-7-hands-of-poker/

2. http://www.RodrigoSepulveda.com

5. Summary
✤ how much to raise ?
✤ what valuation ?
✤ how a fund works & what VCs look for
✤ risk management

6. 1. how much to raise ?

7. PnL projections is the basis*
Please see my presentation on P&L for startups on http://www.slideshare.net/rodrigo1971

11. 2.2 million
insight 1 = cashflow > 0, around month 21
insight 2 = the business needs about 2.2m

12. ✤ You need to adjust for uncertainty in the assumptions.
3 methods :
✤ Montecarlo simulation : use Crystal Ball (excel plugin)
✤ Create 3 scenarios : min / max / target
✤ Just add a rule of thumb of 20-30%

13. option 1 : Monte-Carlo simulation on the variables !

16. option 2 : create 3 versions by adjusting the variables :
best-case, worst case, target scenario
-750 000 €
-250 000 €
250 000 €
750 000 €
1 250 000 €
1 750 000 €
january
march
may
july
september
november
january
march
may
july
september
november
january
march
may
july
september
november
january
march
may
july
september
november
january
march
may
july
september
november
Cash Consumption
MAX Scenario
Cash Consumption
MIN Scenario
Nota: adapted from a real business plan

17. 2.8 million
Option 3 : Adjust the model for uncertainty : rule of thumb 20-30%

18. how much money? key take-aways
✤ careful financial planning is necessary
✤ tells you exactly how much money is required
✤ (adjust for uncertainty with analytical tools)
✤ forces the entrepreneur to test his hypothesis and business logic
✤ gives before-hand many of the answers to investor questions
✤ Allows for scenario building (high, low, target)

19. 2. what valuation ?

20. http://www.ownyourventure.com/equitySim.html

21. the good (theoretically)

22. the bad (your projections)

23. the ugly

24. Series Seed
Series A
solution: raise in tranches

25. series seed :
12 mo. cash, no options

26. great execution commands higher
pre-money valuation 4 next round

27. Series A : add an option pool !

28. example of an exit price
(2x revenues, after 4-5 years)
(fully diluted)

29. how manyVCs?
Excellent discussion by Mark Suster :
http://techcrunch.com/2011/02/22/how-many-investors-is-too-many/
“So in order to get a two-handed deal you need to dilute by 40%
which is an awful lot at the start of your company. When you
consider that they’ll also want a 15-20% option pool in the
company you’re talking about founders owning as little as 40%
after just one round. That wouldn’t be bad if you had just one
founder, but if you have 4 you’re already at 10% each and you
have 7-10 years more work left (not to mention 3 more funding
rounds!).”

30. recommended reading : FredWilson
MBA Mondays at http://www.avc.com
(and Brad Feld at http://feld.com)

31. valuation take-aways
✤ 1st round (seed)
✤ not a real life valuation, it’s only about how much you want to give away for the
amount of money you need > implied valuation
✤ minimize dilution by raising in tranches
✤ 2nd round (series A)
✤ you need to prove execution to raise at a higher valuation
✤ raise enough to reach cash-flow positive status
✤ 3rd round+ : growth (organic or acquisition)

32. specific clauses affect capital-gains
more than valuation...
✤ liquid preferences
✤ participating or not
✤ multiple or not
✤ http://privateequityblogger.com/2007/06/liquid-preference.html
✤ ratchet
✤ http://www.startupcompanylawyer.com/2007/08/04/what-is-
full-ratchet-anti-dilution-protection

33. 3. how funds work
& whatVCs look for

35. fund lifetime ~10 years
extension
up to 2 years
let’s assume for this example a $100m fund
with 4 investment professionals

36. $LPs = Limited
Partners put money in
GPs = General Partners = the VCs :
‘manage the money’ =
they invest over 4-5 years
$
money has to be returned to LPs
with an IRR
= Internal Rate of Return
Less than 50% is invested in
NewCos,
rest kept as “dry powder”
10 years

37. ✤ there are usually investment rules:
✤ ex: only 5% of a fund in a company
✤ ex: no cross-fund in a single company
✤ which means for ex. 100*5%= 5m MAX in the life of the company from your VC !
✤ it also means 20 companies max/fund
✤ with 4 investors, investing over 5 years, that’s 1 new company / investor per year !
✤ statistically 60% of companies fail, 30% do just OK, 10% do great...

38. 10 year fund
startup : 5y with VC
understand why there is a liquidity
clause after 5 years !
investment period

39. 10 year fund
startup : 5y with VC
understand the age of the fund
investment period

40. how LPs make money
1) hurdle rate ~6-8%, c. 1.8x (gross)
min. required…
100m * (1+6%)^10 = 179m to be returned minimum
2) carried interest : any upside above the
hurdle rate is shared :
80% for LPs, 20% for GPs
there are subtleties: hurdle rate or not,
on invested money or not,
% might change if you are a great fund, etc.

42. how GPs make money
1) management fees ~1,5-2,5% of fund/year
100m * 2% = 2m/year.
usually 16-18% over life of fund
(on committed money first, then assets under management)
means 2m * 10y = only $84m left to invest
2) carried interest : any upside above the
hurdle rate is shared
($179m in previous ex. - with catch up or not):
80% for LPs, 20% for GPs
there are subtleties: % on invested money or not,
% might change if you are a great fund, etc.

43. http://www.avc.com/a_vc/2008/08/venture-fund--1.html

44. WhyVCs raise more than 1 fund
management fees add up,
before making money on capital gains
Fund I
Fund II
Fund III
they need however to show success
before raising a new fund

45. 10 year fund
startup : 5y with VC
understand you are competing for the same
cash with a different risk/ return profile
investment period
startup : 5y with VC
startup : 5y with VC
low risk / medium return
high risk / high return
medium risk / medium return

46. VCs key take-aways
✤ understand why there are liquidity clauses
✤ understand the “age” of the fund : money for you or not
✤ understand “dry powder” for subsequent rounds
✤ understand that you are one of many startups. What matters is the
performance of the fund
✤ understand VCs make money only if you do really great (in the top
10%) after paying for the hurdle rate, on 20% of carried interest...

47. 4. risk management

48. it’s all about minimizing risk first
✤ Execution risk => team
✤ Opportunity risk => market size, market traction
✤ Business model risk => business plan
✤ Technology risk => prototype, launched site
✤ All the rest => business plan, reference calls, due diligence
✤ The only thing left should be the market risk (competition, growth)

49. Team risk

50. Market risk and B-model

51. Technology risk

52. Legal risk, etc.

53. Summary
✤ how much to raise ?
✤ valuation & tranches
✤ how a fund works & what VCs look for
✤ risk management

54. Rodrigo Sepúlveda Schulz
Founding Partner, Expon Capital
rodrigo@exponcapital.com
https://www.linkedin.com/in/rsepulveda
@rodrigo