New Venture Valuation and Transaction structure

New Venture - New Venture Financing Looking Through an Emerging Market Lens Prof Ben J Sopranzetti Ph.D Rutgers Business School You start a

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New Venture Financing Looking Through an Emerging Market Lens Prof. Ben J. Sopranzetti, Ph.D. Rutgers Business School
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You start a business that earns 25% return on equity What % do you have to give up if your investors want a 25% return on their investment?
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All of it! 100%
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The big question What percentage of a company will a given amount of money buy? If I buy 10% of your business for $1 million, then I’ve implicitly valued your business at $10 million
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The relationship between risk and return Investors will require a higher return for higher levels of risk Typical required returns for emerging market VC investors are 50-60% a year at the early stages of financing Your job is to find ways to mitigate the perceived risk
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Dilution The percentage of the company that you must relinquish to obtain outside capital
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The lower the dilution… The more equity (and control ) that you keep for yourself! Issuing equity dilutes your upside potential
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Debt vs. Equity Lottery Example
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Equity is the most expensive form of financing Try to keep a high % of the equity for yourself How…
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Three ways to keep more for yourself. Start a business that. .. Requires low amounts of initial capital Either not capital intensive or generates lots of cash flow Requires large of amounts of capital, but little equity Because it is capable of being financed with debt (e.g. real estate) May require substantial outside equity, but earns extraordinary rates of return Look for durable competitive advantage
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Seed Capital This is the “idea” stage, where the firm has the most risk Usually you must make the initial investment yourself Some firms will provide “seed” capital, but at an outrageous cost
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Bootstrapping Many successful ventures receive no outside funding at all Keep 100% ownership for yourself Ideal businesses for bootstrapping are ones which quickly generate positive cash flows
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Angel Investors Wealthy individuals Friends, family, successful entrepreneurs Angel Investor groups Several rich investors with different areas of specialization Much more formal sophisticated financing terms More involved in the running of the enterprise
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How to approach an angel? You’ll need at least a business plan Perhaps, a formal offering memorandum Gives you more legal protection But, makes you appear more negative Is more costly and limits the # of offerees
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Get the advice of legal council! Many angels are not “sophisticated” and often claim that you have misled them if things go poorly
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Angels are well-suited for small investments <$1mm Angel financing is usually cheaper than VC financing Many angels do not possess the expertise or time to advise you Are often big “time sinks” Lots of hand-holding, phone calls, frustration
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Venture Capital Firms Pools of equity capital that are professionally managed Wealthy individuals invest in these as limited
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This note was uploaded on 02/08/2011 for the course FINANCE 400 taught by Professor Soporzetti during the Spring '11 term at Rutgers.