Idea to ipo funding 101 royse - august 11 2020

© 2020 Haynes and Boone, LLP
Idea to IPO
Funding 101
#startup #ideatoipo
1
Roger Royse
@rroyse00

© 2020 Haynes and Boone, LLP© 2020 Haynes and Boone, LLP
Disclaimer
No information contained in this presentation is to be construed as legal advice.
No information contained in this presentation is intended or related to any
particular factual situation. Nothing herein forms an attorney-client relationship. If
legal advice or other expert assistance is required, the services of a competent
professional should be sought.
2

Sources of Funding
 Founders – savings, IRAs, credit cards, mortgage equity
 Debt Financing
 Government Grants
 Friends and Family
 Angels or Seed Investors
 Institutional (VC or Private Equity)
 Alternative Financing:
o Rewards-Based Crowdfunding
o JOBS Act Crowdfinancing
o ICOs, STOs, IEOs
o Royalty Financing
3

4
Source: Fundable

Founders
 77% of startups rely on personal savings for their initial funds
5
Source: Wells Fargo/Gallup Small Business Index

Debt Financing
 Bank Debt
 Security
 Personal Guarantees
6

Government Grants and Loans
 Free Money from the Government
https://www.usa.gov/grants
https://www.aprise.org/
https://www.sba.gov/funding-programs
7

Friends and Family
 38% of startup founders raised money from their
friends and family
 $23,000 was the average amount invested by
friends and family per startup
8

Angels
 Angels
 Angel Groups
 Angel Funds
9

Strategic Investors
• Management and Control
• Valuations
• Right of First Refusal, Right of First Offer, Right of First Look

Rewards-Based Crowdfunding
• Kickstarter, Indiegogo
• Marketing effect of offering
• Tax issues
• FTC or state law liability

Reg CF Equity Crowdfunding
• Crowdfunding (Title III of the JOBS Act)
o Allows companies to raise a limited amount of funds from the general public (Effective as
of May 16, 2016)
o Investment must be through an intermediary broker or funding portal
• The private company issuer (aggregated with predecessors and
companies under common control) may sell up to $1.07 million of
securities in a 12-month period [adjusted for inflation]
• Individual investments in all crowdfunding issuers in a 12-month
period are limited to:
o If either their annual income or net worth is less than $107,000, then the greater of:
 $2,200 or
 5 percent of the lesser of their annual income or net worth
o If both their annual income and net worth are equal to or more than $107,000, then
10 percent of the lesser of

Accredited Only Equity Crowdfunding
• Rule 506 now provides for two different types of private offering:
o Rule 506(b) is essentially the same as the old Rule 506,
providing an exemption for non-public offerings but prohibiting
general solicitation
o Rule 506(c) is a new exemption that allows general solicitation,
but with certain restrictions and filing requirements
• Rule 506(c): issuers can offer securities through means of general
solicitation as long as:
o All purchasers are accredited investors; and
o The issuer takes “reasonable steps” to verify the purchasers’
accredited investor status

Reg. A Plus
• The JOBS Act included legislation to create what is nicknamed
“Regulation A+”, an upgrade to Regulation A
• The new Regulation A keeps the allowance of non-accredited investors,
and features two kinds of Regulation A offerings, called “Tiers”:
o Tier 1, with a $20 M maximum, does not preempt state law registration, but has low federal
compliance burdens
o Tier 2, with a $50 M maximum, preempts state law registration, but has high federal
compliance burdens including ongoing semi-annual, annual, and current disclosures

Initial Coin Offering (ICO)
 An ICO is a fundraising mechanism in which new projects sell their
underlying crypto tokens in exchange for bitcoin and ether.
 Similar to an Initial Public Offering (IPO) in which investors purchase
shares of a company.
 Based on tech like ERC20 Token Standard
 Investors send funds (usually bitcoin or ether) to a smart contract that
stores the funds and distributes an equivalent value in the new token
 Often “pre-sold” to raise money to build the platform
 Tokens may have “utility” or security
 Traded on exchanges

• Alternative to regular loans and equity financing
• Company receives a specific amount of money from an investor in
exchange for a percentage of the company's future revenues over a
certain period of time, up to a specific amount.
• Investment can be considered an "advance" to the company, and the
periodic percentage payments can be considered "royalties" to the
investors.
Royalty Financing

Venture Capital
17

18

19

20

21

22

23

24

25

26

Should You Take Venture Capital?
 Must give up Equity
 No near term cash flow
 Risky
 Illiquid
 Can the business scale?
 Explosive growth
 Huge market
27

Venture Capital Economics 2/20 Formula
 2% management fee on committed capital
 20% carried interest
 7 to 10 year terms
 LPS want 2 1/2 to 3 times investment return
 VC fund must earn 3 to 4 times investment to
return that amount
28

Venture Capital Economics – Expected Performance
 50% lose money
 20% – 30% are singles or doubles
 The rest must be home runs (10X to 100X)
29

Company VC Fit
 Large potential market
 First Mover or first to market advantage
 Long term scale over short term profits
 Not able to service debt
 Traction!
30

Venture Capital Economics – Management
 Venture capital will participate in management
 Board seats
 Board Observer
 Management rights letter (for VCOC exemption)
 Seven to ten year term (and longer)
 Precludes small investments
 Board meetings
 Management
31

Venture Capital Metrics
 Team
 Domain expertise
 Technical co-founders
 Technology or product
 Solve problems, address pain points
 Customer validation
 Market size
 Must be a huge market
32

Picking a VC
 Reputation
 Likelihood of closing
 Stage of fund
 Size of Fund
 How much dry powder?
 Is there a fund 2, fund 3 etc.?
 Are they litigious?
33

Structuring For Venture Capital
 Business Model
 Choice of Entity
 Cap Table
 Vesting
 Debt
34

CASHFLOW COMPARISON: LICENSING VS. MANUFACTURING
POSITIVE
CASHFLOW
NEGATIVE
CASHFLOW
IDEA GENERATION DEVELOPMENT COMMERCIALIZATION SALES / REALIZATION
PRODUCT LAUNCH
MANUFACTURING
L.ICENSING
35

Choice of Entity
 Limited Liability Company (LLC)
 S Corporation (S Corp)
 C Corporation (C Corp)
 Foreign Corporation
36

Advantages of a C Corporation
1. Operating Agreements
2. S Elections
3. Suspended Losses
4. 704(c) Allocations
5. Venture Capital
6. QSB Stock
7. Stock Option Plans
8. LLC Debt
9. Reorganizations
10. Fringe Benefits
11. Audits and Liabilities
12. Contingent Allocations
37

Qualified Small Business Stock – 1202 and 1045
General Requirements
 Original issue
 Five-year holding period
 100% post-Sept. 27, 2010
 C Corporation issuer
 Up to $10 million or 10 times basis exclusion
 1045 Rollover treatment
38
 $50 million Gross
Assets Test
 Active Business Test
 No significant
redemptions
Note: California does not follow federal income tax treatment of QSB stock under
I.R.C. § 1202.

VC Considerations
1. QSBS
2. VC’s LPA will not allow investment in a
passthrough
1. Tax exempt investors want to avoid UBTI
2. Foreign investors want to avoid ECI
3. VC wants to be able to manage losses
1. No K-1’s showing losses
39

Founder’s Equity
40
 Vesting
 Equal Percentages
 Subjective
 Formula

Advisors
41
FAST Model
Valuation
Milestones and
Deliverables
Vesting Stock v.
Options

Currency
 Options
 NSOs
 ISOs
 Extended NSOs
 RSUs
 Restricted Stock
 Phantom Plan Units
42

Vesting
 Who should vest
 How long?
 Acceleration?
 Change of control
 Termination without cause
 Double and single triggers
43

The VC’s View of Vesting
VC will require unvesting shares so vesting period could be 8 years
Fund life can be 7 to 10 years
Most exits are M&A - Fewer and longer IPOs
Extended Option exercise periods
44

Class F Supervoting Stock
Special class of common that has super voting rights
Facebook, Google Snap
May be negotiated away in institutional round
45

Transfer Restrictions
 Right of First Refusal (ROFR)
 Lock Ups
 Co-Sale Rights
 Drag Along
 Buy Sell
 Rule 144
46

SAFEs and Convertible Notes
 Convertible Notes
 Debt obligations that convert to preferred stock
 SAFE
 Convertible equity
 Conversion feature
 Valuation Cap
 Sets a maximum valuation at which note will convert
 Discount
 Early investors get a discount to the preferred price
 Change of Ownership
 Investors convert to common or get a multiple on a sale of the
company prior to a priced financing round
47

Cap Table
 Common Stock
 Options
 Warrants
 Convertibles
 Preferred Stock
48

Capitalization
49
Founders 5,000,000 38% 5,000,000 45%
Stock Pool 2,000,000 15% n/a
Series A 3,000,000 23% 3,000,000 27%
Series B 3,000,000 23% 3,000,000 27%
total 13,000,000 100% 11,000,000 100%
Fully Diluted % Issued %

Effect of Valuation Caps
50
Founders 4,000,000 100% 4,000,000 100%
Stock Pool 0 0% n/a
total 4,000,000 100% 4,000,000 100%
Company sells a $1,000,000 SAFE with a $4,000,000 pre money valuation cap
That means that the SAFE will take 20% of the capitalization ($1,000,000/$5.000,000)
Fully Diluted % Issued %

Other Diligence Issues
 IP Rights
 Patents
 Invention Assignments
 Licenses and ownership
 Data security
 Employment Claims (Homejoy)
 Tax Claims
 Regulatory
 Litigation
 Claims by prior employer
 Entrenched Management
 Material Agreements
51

Staged Financings
 Enough to get to next valuation event
 2X
 1 to 2 years
 Up vs Down rounds
52

Pitch Deck
 Market Size
 Team
 Product
 Go To Market Strategy
 Financials
 Financial Plan
 NOT VALUATION
53

Executive Summary
 Team
 Projections
 Market
 Industry
 IP and Patents
54

Term Sheets
 Valuation
55

Money –The Priced Round
 VC or Institutional Investor
 Preferred Stock
 Valuation Methods
 Score Card
 Venture Capital Method
 Berkus Method
 Cayenne Calculator
 Risk Factor Summation
 Negotiation
56

Money –The Priced Round
 More Valuation Methods
 (Patents + People) x $1 Million
 Comparables
 Discounted Cash Flow
 Market Multipliers
 Discount to Public Companies
57

Participation
 Participating preferred stock returns its investment and
then shares pro rata in proceeds of a sale
 Non-participating convertible preferred stock either gets a
return of its investment or its pro rata share of proceeds
 Participation may be capped at a multiple of the
investment
 Conversion to common – auto-conversion and majority
vote
58

Dividends
 Preferred will have a dividend preference.
 A cumulative dividend on preferred shares must be paid
before any other dividends on common.
o If the company can't pay out a cumulative dividend in a
year, the amount is carried forward.
o Common in private equity deals, not in venture
 Non-cumulative is only paid when as and if declared.
59

Liquidation Preference
 Who gets paid first and how much?
60

Example of Liquidation Preference
 1X Non participating convertible preferred
 $1,000,000 invested for 10%
 Ex 1: Exit (sale) of company for $5,000,00
 Ex 2: Sale for $20,000,000
61

Board Representation
 Size of board
 Founder-friendly boards
 Role of the Board
 Observers
 Indemnification
 Insurance
62

Board rights
 Indemnification
 D&O Insurance
 Right to designate
63

Protective Provisions
 Class vote or majority vote
 Delaware law
 Separate vote for later investors
 Do the interests of different
investors diverge?
64

Protective Provisions
Standard:
 Right to veto or block certain corporate
actions
 Sale of the company
 Amendment to the company’s certificate or
bylaws so as to adversely alter or change the
rights of preferred stock
 Increase or decrease in the number of
authorized shares of preferred or common
 Authorization or issuance of equity security
having a preference over, or being on a parity
with, preferred stock
 Redemption of shares of preferred stock or
common stock
 Declaration or payment of dividends
 Change in the authorized number of directors
of the company
Other:
 Hiring, firing or change in the compensation of
officers
 Any transaction with any director, executive or
employee of the company
 Incurrence of indebtedness in excess of
$[____]
 Change in the principal business of the
company or the entering into any new line of
business
 Any purchase of a material amount of assets
of another entity
 Option plan increase
65

Information Rights
 Financial statements and other information
 Thresholds
66

Registration Rights
 Requires a company to list the shares publicly so
that the investor can sell
 Demand rights
 Piggyback rights
 S-3 rights
67

Common restrictions: Co-Sale Rights, ROFR, Drag
Along
 Co Sale and Tag-Along Rights – right to participate in a
sale
 Right of First Refusal – right of company (first) and
investors (second) to require shares to be offered to each
of them before a third-party sale
 Drag Along – right to force shareholders to sell in an exit
 Board, common and preferred approvals
 Small shareholder carveout
68

Founder Vesting
 Term, milestones, commencement
 Acceleration
 Single and double triggers
 Fire the Founder
69

Pro Rata rights
 Right to maintain, right to participate
 Major investors
 Limited by amount of money company wants to raise
70

Option Plan
 Increased pre money
 409A valuations
 Extended exercise periods for NSOs
71

Redemption Rights
 Feature of Preferred Stock
 Right to put stock to company, usually after a period of time and
over time
 Is effectively a right to force a sale of the company
72

Anti-Dilution
 Broad-based weighted average
 Narrow-based weighted average
 Full ratchet
73

Exclusivity
 No-shop
 30 to 60 days
74

NonBinding
 30 day no shop
 Confidentiality
 Is it really nonbinding?
75

Planning for later rounds
 Overly favorable terms
 Valuation planning and down rounds
 Reverse splits
 Cap table management
 Fire the CEO
76

Corporate Venture Capital
 Strategic objectives
 Less operational involvement
 Right of first refusal, right of first offer, right of first look
77

Troubled Company Terms
 Forced conversion to common
 Full ratchet
 Uncapped participating preferred
 Insider rounds
 Low valuations
 Down rounds
 Trigger anti dilution protection unless waived
 Pay to play
 requires existing investors to invest on a pro rata basis
in subsequent rounds or they lose preferential rights
(anti-dilution, liquidation preferences, voting rights)
78

Successful Exits
 IPO
 Sale or Acquisition
79

Unsuccessful Exits
 Zombie Companies
 In re Trados Inc. Shareholder Litigation
 Bankruptcy or Insolvency Reorganizations
 Fire Sales
 Management carveouts
 Fiduciary duties: shareholders, optionees, preferred and
creditors?
80

Other Unsuccessful Exit Issues
 Tax Liability
 Personal Liability
 Tax
 Employment
 Fiduciary Claims
 Securities Law Claims
 Contractual
 Pierce the veil and creditor claims
 Serial Entrepreneurs and failed companies
81

AUSTIN
600 Congress Avenue
Suite 1300
Austin, TX 78701
United States of America
T +1 512.867.8400
F +1 512.867.8470
CHARLOTTE
101 S. Tryon Street
Suite 2250
Charlotte, NC 28280
T +1 980.771.8200
F +1 980.771.8201
CHICAGO
180 N. LaSalle Street
Suite 2215
Chicago, IL 60601
T +1 312.216.1620
F +1 312.216.1621
DALLAS
2323 Victory Avenue
Suite 700
Dallas, TX 75219
T +1 214.651.5000
F +1 214.651.5940
DALLAS - NORTH
2505 North Plano Road
Suite 4000
Richardson, TX 75082
T +1 972.739.6900
F +1 972.680.7551
DENVER
1050 17th Street
Suite 1800
Denver, CO 80265
T +1 303.382.6200
F +1 303.382.6210
FORT WORTH
301 Commerce Street
Suite 2600
Fort Worth, TX 76102
T +1 817.347.6600
F +1 817.347.6650
HOUSTON
1221 McKinney Street
Suite 2100
Houston, TX 77010
T +1 713.547.2000
F +1 713.547.2600
LONDON
1 New Fetter Lane
London, EC4A 1AN
United Kingdom
T +44 (020) 8734 2800
F +44 (020) 8734 2820
MEXICO CITY
Torre Esmeralda I, Blvd.
Manuel Ávila Camacho #40
Despacho 1601
Col. Lomas de Chapultepec,
DF 11000
Mexico City, Mexico
T +52.55.5249.1800
F +52.55.5249.1801
NEW YORK
30 Rockefeller Plaza
26th Floor
New York, NY 10112
T +1 212.659.7300
F +1 212.918.8989
ORANGE COUNTY
600 Anton Boulevard
Suite 700
Costa Mesa, CA 92626
T +1 949.202.3000
F +1 949.202.3001
PALO ALTO
525 University Avenue
Suite 400
Palo Alto, CA 94301
T +1 650.687.8800
F +1 650.687.8801
SAN ANTONIO
112 East Pecan Street
Suite 1200
San Antonio, TX 78205
T +1 210.978.7000
F +1 210.978.7450
SHANGHAI
Shanghai International
Finance Center, Tower 2
Unit 3620, Level 36
8 Century Avenue, Pudong
Shanghai 200120, P.R. China
T +86.21.6062.6179
F +86.21.6062.6347
THE WOODLANDS
10001 Woodloch Forest Drive
Suite 200
The Woodlands, TX 77380
T +1 713.547.2100
F +1 713.547.2101
WASHINGTON, D.C.
800 17th Street NW
Suite 500
Washington, D.C. 20006
T +1 202.654.4500
F +1 202.654.4501
82

Idea to ipo funding 101 royse - august 11 2020

Empfohlen

Empfohlen

Weitere ähnliche Inhalte

Was ist angesagt?

Was ist angesagt? (20)

Ähnlich wie Idea to ipo funding 101 royse - august 11 2020

Ähnlich wie Idea to ipo funding 101 royse - august 11 2020 (20)

Mehr von Roger Royse

Mehr von Roger Royse (20)

Kürzlich hochgeladen

Kürzlich hochgeladen (16)

Idea to ipo funding 101 royse - august 11 2020