startup financing 101
TRANSCRIPT
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Asia Pacific Trends and Intelligence
July 2013 Will Matthews
Start-Up Financing 101
Adrian Vanzyl
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• Headquartered in Bangkok, offices in Singapore
• Not a traditional fund – no carry, no management fee, no fixed size or lifespan
• Focus on ecommerce companies, B2C and platforms supporting commerce
• Invest only across Southeast Asia
• And only where management team is in SEA
• And only where primary customer base is in SEA
• Venture side of Ardent
– Seed and early stage
– 5 investments so far, including into E27
• Labs side of Ardent
– We build a company inside of Ardent
– aCommerce as example – full backend logistics and fulfillment, 80 staff in our Bangkok
office
• Founded by the entrepreneurs behind Ensogo (sold to LivingSocial), Admax (sold to
Komli) and NewmediaEdge (sold to STW)
• Investors include founding team, plus Japanese investors (Recruit.co.jp and GMO-
vp.com), US investors (Siemervc.com), and several regional angels.
About Ardent Capital
We are an Operator Venture Capital Firm
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• Educated in Australia
• AU 1995, CTO of Sausage Software (HotDog), IPO on ASX
• USA 1997, CTO of LookSmart, IPO on Nasdaq
• USA 1999, VP Bizdev LinkExhange, sold to Microsoft
• USA 2000 onwards, CTO Blumberg Capital, $100M early stage VC in SF
– CEO of two portfolio companies
– Over 70 investments, including Hootsuite, Nutanix
• Thailand, end 2011 onwards, CEO Ardent Capital
• MD by training (Monash University, MB BS)
• I love technology, the internet, entrepreneurs, investing and building stuff.
• Have personally invested in about 30 companies
About Adrian Vanzyl
CEO and co-founder of Ardent
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• Debt Financing
– You borrow the money and agree to pay it back in a particular time frame at a
set interest rate
– You owe the money whether your start-up succeeds or not
• Equity Financing
– You sell partial ownership of your company in exchange for cash
• Equity = Stock or any other security representing an ownership interest
– The investors assume all (or most) of the risk
• If the company fails, the investors lose their money
• If the company succeeds, the investors typically make much greater return
on their investment than interest rate (“higher risk higher returns”)
– Because investors take on a much higher risk than lenders, they are typically
far more involved in your company
How to Fund Your Start-Up?
There are essentially two different types of business financing
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Which Type of Financing is Best?
There are many types of investment vehicles depending on your
objectives and the stages which your start-up is in
Debt (e.g. Bank
Loans)
Convertible Debt
Convertible Equity
Founder Equity/Shares
Preferred Shares
Common Shares/ Equity
Equity Debt
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• Common shares should be contrasted with Founder Shares and Preference shares
• Also known as "ordinary shares“
• Can be “voting” or “non-voting”
– A voting share is a share of stock with the right to vote on certain corporate
policies
– Complex cap table situations (hundred small shareholders is a problem)
• Common stockholders have a residual claim to the income and assets of the
business
– In the event of liquidation, common shareholders have rights to a company's
assets only after bondholders, preferred shareholders and other debt holders
have been paid in full
Common Stock/Common Shares
Common Stock is a form of equity ownership and gives the right to its
owner to share in the profits of the company
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• Founder Equity or Founder Shares are simply common stock
– Typically allocated and committed, but not really issued until the time of startup
incorporation
– Usually follow a vesting schedule but may start vesting before the issuance of
founders’ stock or even prior to the date of incorporation of the company
– This vesting is balanced by investors’ desire to keep the founders committed to
the company over the long term
– Investors typically insist on a 3-4 year vesting period, in equal monthly
increments. This is to reduce the risk of a founder leaving early.
Founder Equity/ Founder Shares
Even before seeking outside financing, founders must agree on how to
split initial ownership
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• It is an option to buy, not an actual share
• Employees get options “for free”
• Critical to motivate and retain staff
• Cliff – typically one year
• Vesting schedule – 3 to 4 years
• 15-30% of the company. Why so much
• Separate from Founders shares, but Founders shares can also vest
• Strike price
• Exercise
• Acceleration
• Can make your employees rich
• Critical for building the ecosystem
ESOP
Employee Stock Options
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• Preferred stock is a class of stock that provides certain rights, privileges, and
preferences to investors
– Examples of such preferential rights include
• dividend payment preferences
• liquidation preferences
• redemption rights
• voting rights
• Preferred stock entitle the holders to certain rights senior to those of common
stockholders
• Senior to the common stock in the event of a sale of the business
– Preferred equity holders get paid at least their money back before the common
shareholders (downside protection)
• This is one way in which the investors can protect their interests
Preferred Shares
Venture capitalists and other early stage investors typically invest in
startups through preferred shares
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• Typically the way the debt will be converted into shares is specified at the time the
loan is made
• Converts on a ‘Qualified Financing’
• Converts into same class of shares as the preference investors
• Usually there is compensation in the form of a discount
– Discussed next
• Sometimes there is a cap on the valuation at which the debt will convert. This is to
protect the investors from a massive increase in valuation
• Ability to raise funds while allowing founders to avoid pricing until valuations can be
made on firmer ground
– Advantageous particularly for Friends & Family round
• Less dilutive if the company believes its equity will be worth more at a later date
• Typically faster than raising a priced round from an institutional venture capital firm
that typically seeks a minimum ownership level
• Lower transaction costs (mostly legal fees) when issuing debt vs. equity
Convertible Debt, or Convertible Note
Why Use Convertible Debt?
A type of debt that the holder can convert into a specified number of
shares of common stock in the issuing company
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Discount - Amount of reduction in price the convertible debt holders will get when
they convert in the next round (expressed in terms of a percentage, usually 20% - 25%)
It can also increase over time (eg start at 10%, grow at 2% per month)
Example
• An investor invests $100,000 in a startup as a convertible debt
• The terms of the note are a 20% discount and automatic conversion after a qualified
financing of $1,000,000.
• Assuming the shares were priced at $1.00, the investor can convert the $100,000 debt
to shares at the discount rate of $.80 each (20% discount) instead of the $1.00 price
that other participants in the current funding round will have to pay
• That gives the initial investor 125,000 shares for the price of $100,000
• Caps can also be added to convertible debt, setting a limit for how much the startup
can raise before the shares stop getting diluted
• If the pre-money cap was $5,000,000, you would still get a discount of 20% up to that
amount. If the startup raised at a valuation over $5,000,000, then the investor will
convert at $5M no matter what the actual valuation is
Convertible Debt
Sometimes a discount is offered as a compensation to convertible debt
holders
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• Essentially, Convertible Equity removes the repayment at maturity and interest
provisions of Convertible Debt
• Startups can avoid complex interest-rate calculations and payments that come with
convertible debt
• Startups don’t have to worry about investors calling for the debt if the maturity date
rolls around and there has not been a Series A Round
• Companies don’t have to artificially carry debt on their books, a potential liability
when seeking a line of credit from a supplier or closing a deal with a large
corporation
Convertible Equity
Convertible Equity retains the most popular features of Convertible Debt
but does not saddle startups with debt
Why Use Convertible Equity?
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• An investor buys shares directly from a founder
• The money does NOT go into the company
• It only goes to the founder
• Founder positives
– Gets some money out
– Reduces day to day stress (can I afford to pay my rent)
• Company negatives
– Money doesn’t go into company to help it grow
– If too much can demotivate the Founder
Selling Founders Shares
Buy out some of the Founders’ holding
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• Bootstrapping
• Angels
• Friends & Family
• Incubators
• Accelerators
The different stages of equity financing
A typical start up go through multiple rounds of financing, but the
number and type of stages may change based on start up performance
and market conditions
Idea Stage Seed StageEarly Stage
Round
Growth/Late Stage
• Angel Investors
• Incubators
• Accelerators
• Seed Funds
• Institutional
Funding
– Series A
• Institutional
Funding
– Series B
– Series C
• IPO
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• Before each equity financing round, there is a valuation of the company
• Each round is priced independently and involves a new term sheet specifying the
characteristics of the investment
Why the different stages of financing?
Entrepreneurs often raise capital in multiple rounds of financing so that
they can take advantage of higher pre-money valuations at each
subsequent round
Post Money Valuation
Pre Money Valuation
Investment= +
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Why the different stages of financing?
Price/Share: $1
Valuation: $500k
Angel Stage Series A
Price/Share: $2
Pre-Money Valuation: $1mm
Post-Money Valuation: $2.2mm
Shareholder Investment# of
Shares%
Ownership
Founder - 400k 80%
Angel #1 $100,000 100k 20%
TOTAL $100,000 500k
Shareholder Investment# of
Shares%
Ownership
Founder - 400k 36.4%
Angel #1 $200,000 200k 18.2%
VC #1 $1.0mm 500k 45.4%
TOTAL $1.2mm 1.1mm
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• Key provisions include
– Board of Director Composition/ Appointment
– Veto Rights
– Right of First Refusal
– Pre-Emptive Rights
– Drag Along/ Tag Along Rights
– Liquidation Preference & Participation Rights
Shareholders’ Agreement
A shareholders’ agreement (or SHA) is an arrangement among the
company's shareholders describing how the company should be
operated and the shareholders' rights and obligations
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• The shareholder agreement sets out the size of the board and the manner in which
board members will be elected
• As part of the investment negotiation, an investor can demand the right to appoint a
director to the company’s board
– The investor will have the right to appoint and remove its representation
• In addition, an investor may negotiate to appoint an observer to the board
– The observer shall be entitled to attend any Board meeting
– But does not have the same legal responsibility
• Typical board composition
– Odd number of members
– Chairman
– Example – two insiders (including CEO), two investors, one independent
• Board structure is critical!
Board Composition/ Appointment
Some investors are entitled to representation on the company’s board of
directors
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Some examples include:
• Decision on Financial Interests/Affairs
– Incurrence of any capital expenditure above a defined amount in a single year
– Any decisions regarding the making of an IPO• Risk is forcing a sale, or blocking a sale
– The sale, transfer, lease, mortgage, or pledge of any assets of the Company of a
value in excess of a defined amount
– Any change in the nature and/or scope of the of the Company
– Any increase, reduction or alteration to the issued share capital of the Company
– The winding up, dissolution or liquidation of the Company, including any filings in
respect of any of the foregoing
• Decisions on Corporate Governance
– The appointment, remuneration and dismissal of any Director
– The appointment, remuneration and dismissal of the auditors of the Company
– The appointment, and the terms of appointment and dismissal, of any member of
the Management Team and Key Employees (this means YOU!!!)
Veto Rights
Investors can also negotiate specific veto rights so that they have
decision-making over certain issues deemed important to them
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• For example, if Shareholder A wishes to sell shares to a third party, but Shareholder
B has the right of first refusal, shareholder B has to right to acquire the shares
before A can transfer shares to the third party.
• If B decides to acquire all the shares, then the third party will not even have the
chance to acquire any shares from A
• This is to avoid unwanted (from the Shareholder/Investor’s point of view) new
shareholders (eg a competitor) from owning part of the company
• Makes negotiating with a new buyer complicated, as they know at the end of it all,
they may still not get their shares
Right of First Refusal
The Right of First Refusal is the right to acquire shares before shares
are transferred to a third party
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• For example, if the company decides to issue new shares to potential Series B
investors, Series A investors will have the right to acquire shares up to its pro rata
shareholding
– This helps ensure that Series A investors can prevent its shareholding from
being diluted from future rounds of financing
Pre-Emptive Rights
Pre-Emptive Rights give the existing shareholders the right to acquire
new shares issued by the company
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Drag Along Right
• Gives the majority shareholder the right to force other investor(s) to sell his
stake should the majority shareholder exit
• Protects majority shareholders
• Standard terms in a stock purchase agreement
• Typically terminate upon an initial public offering
• Important esp when lots of little shareholders (tracking them down can be
impossible)
Tag Along Right
• Gives the minority shareholder(s) the right to join in the exit should the
majority shareholder sells his stake
• Minority holders have the right to sell their stake at the same terms and
conditions as would apply to the majority shareholder
• Protects minority shareholders
Drag Along/Tag Along Rights
Drag Along and Tag Along Rights exist to protect majority and minority
shareholders respectively
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• Liquidation Preference specify how money is returned to a particular series of the
company’s stock ahead of other series of stock
Example
• Liquidation Preference: In the event of any liquidation or winding up of the
Company, the holders of the Series A Preferred shall be entitled to receive in
preference to the holders of the Common Stock a per share amount equal to [x] the
Original Purchase Price plus any declared but unpaid dividends (the Liquidation
Preference)
• In this case, a certain multiple (x) of the original investment per share is returned to
the investor before the common stock receives any consideration
Liquidation Preference
The liquidation preference determines how the pie is shared in a
liquidity event
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• Fully-Participating stock will share in the sale proceeds on a pro rata basis with
common after payment of the liquidation preference
• Capped Participation indicates that the stock will share in the sale proceeds on a
pro rata basis until a certain multiple return is reached
• Non-Participating This liquidation preference is most favorable to the company as
the stock will not share in the sale proceeds beyond the payment of the liquidation
preference
Participation Rights
After the payment of the liquidation preference, the next thing to
consider is whether or not the investor shares are participating
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• Assuming that both classes of preferred (Series A & B) are straight preferred with
no multiple or dividends with Series B senior to the Series A
Liquidation Preferences in Different Scenarios
Depending on the sale price, liquidation preference can lead to
drastically different outcomes for founders
ShareholderCommon
SharesSeries A Shares
Series A Cost
Series B Shares
Series B Cost
Total Shares
Total CostOwnership
(Fully Diluted)
Founder 1,000,000 45.4%
VC # 1 - 400,000 $1,000,000 200,000 $1,000,000 600,000 $2,000,000 27.3%
VC # 2 - 600,000 $3,000,000 600,000 $3,000,000 27.3%
Shareholding Total SharesSharePrice
CostLiquidationPreference
Ownership %
Series B 800,000 $5.00 $4,000,000 $4,000,000 36.4%
Series A 400,000 $2.50 $1,000,000 $1,000,000 18.2%
Common Shares 1,000,000 45.4%
Options 0%
TOTAL 2,200,000 100%
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• Sale Price = $3.0mm
Scenario 1: Low Exits
If the sale price is low enough, founders can sell the company and not
get the fully diluted ownership percentage of the proceeds because
some or all of the preferred shareholders will choose to take their
liquidation preference instead of their percentage of the company
Liquidation Preference Proceeds % of Total Proceeds% of Pre-Sale Ownership
Series B $3,000,000 100.0% 36.4%
Series A $0 0% 18.2%
Common Shares $0 0% 45.4%
Shareholder % Series B Total Proceeds% of Total Proceeds
VC # 1 25% $750,000 25%
VC # 2 75% $2.25mm 75%
Founder 0% $0 0%
Total 100% $3.0mm
% of Pre-Sale Ownership
45.4%
27.3%
27.3%
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• Sale Price = $5.5mm
Scenario 1: Low Exits
Liquidation Preference Proceeds % of Total Proceeds% of Pre-Sale Ownership
Series B $4,000,000 72.7% 36.4%
Series A $1,000,000 18.2% 18.2%
Residual for Common Shares $500,000 9.1% 45.4%
TOTAL $5.5mm
Shareholder% Series
BSeries B
Proceeds% Series
ASeries A
Proceeds
%Common
Shares
Common Share
Proceeds
TotalProceeds
% of Total
Proceeds
VC # 1 25% $1mm 100% $1mm 0% $0 $2mm 36.4%
VC # 2 75% $3mm 0% $0 0% $0 $3mm 54.5%
Founder 0% $0 0% $0 100% $500,000 $500,000 9.1%
Total $4.0mm $1.0mm $500,000 $5.5mm
% of Pre-Sale
Ownership
27.3%
27.3%
45.4%
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• Sale Price = $22mm
• Sale Price Per Fully Diluted Share = $10.00
Scenario 2: High Exits
Shareholder%
Series B
Series B Proceeds
%Series
A
Series A Proceeds
%Common
Shares
Common Share
Proceeds
TotalProceeds
% of Total
Proceeds
VC # 1 25% $2,002,000 100% $4,004,000 0% $0 $6,006,000 27.3%
VC # 2 75% $6,006,000 0% $0 0% $0 $6,006,000 27.3%
Founder 0% $0 0% $0 100% $9,988,000 $9,988,000 45.4%
Total $8,008,000 $4,004,000 $9,988,000 $22mm
% Pre-Sale Ownership
27.3%
27.3%
45.4%
In the case of a high exit, preferred shareholders may choose to not
exercise their liquidity preference and instead take their percentage of
the company
Shareholdings Proceeds % of Total Proceeds % Pre-Sale Ownership
Series B $8,008,000 36.4% 36.4%
Series A $4,004,000 18.2% 18.2%
Common Shares $9,988,000 45.4% 45.4%
TOTAL $22mm
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• Sale Price = $22mm
• Sale Price Per Fully Diluted Share = $10.00
• c
Scenario 3: High Exits with Participation
ShareholdingsLiquidationPreference
ParticipationParticipation
ProceedsTotal Proceeds
% TotalProceeds
% Pre-Sale Ownership
Series B $4mm 36.4% $6,188,000 $10,188,000 46.3% 36.4%
Series A $1mm 18.2% $3,094,000 $4,094,000 18.6% 18.2%
Common Shares $0 45.4% $7,718,000 $7,718,000 35.1% 45.4%
TOTAL $5mm $17mm $22mm
Share-holder
%Series
B
Liquid Pref
Series B Participation
Proceeds
%Series
A
Liquid Pref
Series A Proceeds
%Common
Shares
Common Share
Proceeds
TotalProceeds
% of Total
Proceeds
% Pre-Sale
Ownership
VC # 1 25% $1mm $1.547mm 100% $1mm $3.094mm 0% $0 $6.641mm 30.2% 27.3%
VC # 2 75% $3mm $4.641mm 0% $0 $0 0% $0 $7.641mm 34.7% 27.3%
Founder 0% $0 $0 0% $0 $0 100% $7.718mm $7.718mm 35.1% 45.4%
Total $4mm $6.188 $1mm $3.094mm $7.718mm $22mm
In the case of a high exit with both liquidation preference and full
participation, the preferred shareholders get to “double dip” in the total
proceeds
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Angels
Friends & Family
Incubators
• JFDI
• FF&F
• Self fund
Start Up Funding Landscape
Idea Stage Seed StageEarly Stage (Series A)
Growth/ Late Stage
Seed Funds
• Ardent Capital
• Golden Gate
Ventures
• Jungle Ventures
• Crystal Horse
NRF
• 15% invested by
qualified VCs and
85% Follow Up by
NRF
• CyberAgent
• SingTel Innov8
• Recruit
• Rakuten
• Gree
• SingTel
• Tiger Global
• Sequoia
• Macquarie
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• Positives
– $500K of funding
– Relatively easy and fast
– Lots of NRF funds operating in Singapore
– Provide incubation support at low cost
– Good valuations
• Negatives
– Must do everything in SG – Incorporate, IP, books in SG$
– Key execs must be in SG
– Small market
– Expensive staff costs
– For a Thai team:
• Away from your home base, home team, home customers
• Insufficient follow on funding – Series A crunch
• Lots of competition
NRF Funding in Singapore
Very big positives and negatives
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tia
l | A
rde
nt C
ap
ita
l C
on
fid
en
tia
l | A
rde
nt C
ap
ita
l 32
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