ENTR 452ENTR 452Chapter 12: Informal RiskChapter 12: Informal RiskCapital, Venture Capital, Capital, Venture Capital,

and Going Publicand Going Public

FINANCING THE BUSINESSFINANCING THE BUSINESS

Criteria for evaluating appropriateness of financing alternatives:

– Amount and timing of funds required.– Projected company sales and growth.

Three types of funding:– Early stage financing. – Development financing.– Acquisition financing.

TABLE 12.1 - STAGES OF BUS. TABLE 12.1 - STAGES OF BUS. DEVELOPMENT FUNDINGDEVELOPMENT FUNDING

Risk capital markets provide debt and equity to nonsecure financing situations.

Types of risk capital markets:– Informal risk capital market.– Venture-capital market.– Public-equity market.

All three can be a source of funds for stage-one financing.– However, public-equity market is available only for

high-potential ventures.

FINANCING THE BUSINESSFINANCING THE BUSINESS

INFORMAL RISK CAPITALINFORMAL RISK CAPITAL

It consists of a virtually invisible group of wealthy investors (business angels).

Investments range between $10,000 to $500,000.

Provides funding, especially in start-up (first-stage) financing.

Contains the largest pool of risk capital in the United States.

VENTURE CAPITALVENTURE CAPITALNature of Venture Capital

– A long-term (5-year) investment frame.– Money come from pooled money (equity pool).– Found in:

Creation of early-stage companies.Expansion and revitalization of businesses.Financing of leveraged buyouts of existing divisions

of major corporations or privately owned businesses.– Venture capitalist takes an equity participation in each of

the investments.

FIGURE 12.1 - TYPES OF FIGURE 12.1 - TYPES OF VENTURE-CAPITAL FIRMSVENTURE-CAPITAL FIRMS

FIGURE 12.4 – RISK/RETURN FIGURE 12.4 – RISK/RETURN EXPECTATIONS FOR VC FIRMSEXPECTATIONS FOR VC FIRMS

Venture-capital process can be broken down into four primary stages:

– Stage I: Preliminary screening – Initial evaluation of the deal.

– Stage II: Agreement on principal terms - Between entrepreneur and venture capitalist.

– Stage II: Due diligence - Stage of deal evaluation.– Stage IV: Final approval - Document showing the

final terms of the deal.

VENTURE CAPITALVENTURE CAPITAL

Locating Venture Capitalists– Venture capitalists tend to specialize either

geographically by industry or by size and type of investment.

– Entrepreneur should approach only those that may have an interest in the investment opportunity.

– Most venture capital firms belong to the National Venture Capital Association.

VENTURE CAPITALVENTURE CAPITAL

VALUING YOUR COMPANYVALUING YOUR COMPANYFactors in Valuation

– Nature and history of business.– Economic outlook- general and industry.– Comparative data.– Book (net) value.– Future earning capacity.– Dividend-paying capacity.– Assessment of goodwill/intangibles.– Previous sale of stock.– Market value of similar companies’ stock.

Ratio Analysis– Serves as a measure of financial strengths and

weaknesses of the venture but should be used with caution.

– It is typically used on actual financial results.– Provides a sense of where problems exist in the

pro forma statements.

VALUING YOUR COMPANYVALUING YOUR COMPANY

VALUING YOUR COMPANYVALUING YOUR COMPANY

VALUING YOUR COMPANYVALUING YOUR COMPANY

VALUING YOUR COMPANYVALUING YOUR COMPANY

VALUING YOUR COMPANYVALUING YOUR COMPANY

General Valuation Approaches– Assessment of comparable publicly held companies

and the prices of these companies’ securities.– Present value of future cash flow.– Replacement value.– Book value.– Earnings approach.– Factor approach.– Liquidation value.

VALUING YOUR COMPANYVALUING YOUR COMPANY

DEAL STRUCTUREDEAL STRUCTURETerms of the transaction between the entrepreneur and the funding source.

– Needs of the funding sources:Rate of return required.Timing and form of return.Amount of control desired.Perception of risks.

– Entrepreneur’s needs:Degree and mechanisms of control.Amount of financing needed.Goals for the particular firm.

GOING PUBLICGOING PUBLICSelling some part of the company by registering with the Securities and Exchange Commission (SEC).

– Resulting capital infusion provides the company with: Financial resources.A relatively liquid investment vehicle.

– Company consequently gains:Greater access to capital markets in the future.A more objective picture of the public’s perception

of the value of the business.

NOTE: DO NOT HAVE TO KNOW DETAILS FOR EXAM)

TABLE 12.8 - ADVANTAGES AND TABLE 12.8 - ADVANTAGES AND DISADVANTAGES OF GOING PUBLICDISADVANTAGES OF GOING PUBLIC