Chap12 mba.ppt

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Hisrich

Peters

Shepherd

Chapter 12

Informal Risk Capital,Venture Capital,

and

Going PublicCopyright 2010 by The M cGraw-Hi ll Companies, Inc. All ri ghts reserved.McGraw-Hill/Irwin


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Financing the Business

Criteria for evaluating appropriateness offinancing alternatives:

Amount and timing of funds required.

Projected company sales and growth. Three types of funding:

Early stage financing.

Development financing.

Acquisition financing.


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Table 12.1 - Stages of BusinessDevelopment Funding


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Risk capital markets provide debt andequity to no secure financing situations.

Types of risk capital markets:

Informal risk capital market-market consistingmainly of individuals .e.g. Business Angels

Venture-capital market- consist of formalcompanies.

Public-equity market-risk capital consisting ofpublicly owner stocks of companies.

Financing the Business (cont.)


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Financing the Business (cont.)

All three can be a source of funds for stage-one financing.

However, public-equity market is available only

for high-potential ventures.


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Informal Risk Capital

It consists of a virtually invisible group ofwealthy 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 inthe United States.


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Table 12.2 - Characteristics ofInformal Investors


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Table 12.2 - Characteristics ofInformal Investors(cont.)


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Venture Capital

Nature of Venture Capital

A long-term investment discipline, usuallyoccurring over a five-year period.

The equity pool

is formed from the resources ofwealthy limited partners.

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 participationin each of the investments.


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Figure 12.1 - Types of Venture-Capital Firms


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Figure 12.3 - Percentage of VentureDollars Raised by Stage in 2008


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Venture-Capital Process

Objective of a venture-capital firm - Generationof long-term capital appreciation through debt

and equity investments.

Venture Capital (cont.)


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The Venture Capitalist expects a companyto satisfy three general criteria:

1. The company must have a strong

management team who individually musthave

solid experience and backgrounds

Have a strong commitment to thecapabilities.

Capabilities in a specific area of expertise.

The ability to meet challenges.


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The flexibility to scramble whenevernecessary.

Each spouse of each management team

member must also be committed to thenew venture.

2. Is the product and/or market opportunity

unique? Will the venture have a differential

advantage in a growing market?

Securing a unique market niche is

essential.


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This niche must be spelled out and is evenstronger when it is protected by a

patent or trade secret.

3. The business must have significant capitalappreciation.

The venture capitalist generally expects a

40 to 60 percent return on investment in most situations.

This is both art (intuition) and science.(business plan)


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Figure 12.4 - Venture-CapitalFinancing: Risk and Return Criteria


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Venture-capital process can be broken downinto four primary stages:

Stage I: Preliminary screening Initial evaluation ofthe deal.

The screening is the initial evaluation of a deal.

Begins with the receipt of the business plan.

The plan must have clear cut mission, in depth

industry study and a strong pro forma income statement and balance sheets.

The Executive Summary is critical to the VentureCapitalist because it will tell if this fits the firms meet

the long term policy and short term need to balancea ortfolio.



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

Stage III: Due diligence

This is the longest stage and can last from 1-3months.

The upside and risk potential are assessed.

Complete background of all management

members is completed. Thorough evaluation of the markets.

Stage IV: Final approval - Document showingthe final terms of the deal.


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Locating Venture Capitalists

Venture capitalists tend to specialize eithergeographically by industry or by size and type ofinvestment.

Entrepreneur should approach only those thatmay have an interest in the investmentopportunity.

Most venture capital firms belong to the NationalVenture Capital Association.



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Valuing Your Company

The problem confronting the entrepreneur in

obtaining any investment is determining value of the

company

Factors in Valuation1. The nature and history of the business. Provides

strength and diversity from the outset.

2. Examination of the financial data of the venture

compared with that of other companies in theindustry. Included are the outlook of the economyand the outlook of that particular industry.


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Valuing Your Company

3. The book value is the owners equity which is the

acquisition cost (less depreciation) minusliabilities. This is built over time.

4. The future earning capacity of the company is themost important factor in valuation.

5. The dividend paying capacity of the venture.

6. The assessment of goodwill and other tangibles of

the venture.7. Assessing any previous sale of stock.

8. The market prices of the stocks of companiesengaged in similar lines of business.


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Ratio Analysis

Serves as a measure of financial strengths andweaknesses of the venture but should be usedwith caution.

It is typically used on actual financial results.

Provides a sense of where problems exist in thepro forma statements.

Valuing Your Company (cont.)


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General Valuation Approaches

1. Methods to determine the worth of thecompany.

2. Present value of future cash flow is based onfuture sales and profits.

3. Replacement Value is the cost of replacing allassets of the company.

4. Book value is the indicated worth of theassets of the company.

5. Earnings Approach determines value bylooking at present and future earnings.



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6. Factor approach uses the major aspects ofthe company to determine its worth.

7. Liquidation value is the worth of the companybased selling everything today.


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Going Public

Selling some part of the company byregistering with the Securities andExchange Commission (SEC).

Resulting capital infusion provides the companywith:

Financial resources.

A relatively liquid investment vehicle.

Company consequently gains: Greater access to capital markets in the future.

A more objective picture of the publics perception ofthe value of the business.


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Table 12.8 - Advantages andDisadvantages of Going Public


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Timing of Going Public andUnderwriter Selection

Timing

Is the company large enough?

What is the amount of the companys earnings,

and how strong is its financial performance? Are the market conditions favorable for an initial

public offering?

How urgently is the money needed?

What are the needs and desires of the presentowners?


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Underwriter Selection

Managing underwriter - Lead financial firm inselling stock to the public.

Underwriting syndicate - A group of firmsinvolved in selling stock to the public.

Factors to consider in selection:

Reputation.

Distribution capability.

Advisory services.

Experience.

Cost.

Timing of Going Public andUnderwriter Selection (cont.)


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Registration Statement andTimetable

All hands meeting - Preparing a timetablefor the registration process.

First public offering requires six to eight

weeks. The SEC takes six to 12 weeks to declare

the registration effective.


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Reasons for delays:

Heavy periods of market activity.

Peak seasons.

Attorneys unfamiliarity with federal or stateregulations.

Issues arising over requirements of the SEC.

When the managing underwriter is

inexperienced.

Registration Statement andTimetable (cont.)


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SEC attempts to ensure that the documentmakes a full and fair disclosure of thematerial reported.

Registration statement consists of: Prospectus.

Registration statement.

Most initial public offerings will use a FormS-1 registration statement.



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Cover page

Prospectus summary

Description of thecompany

Risk factors

Use of proceeds

Dividend policy

Capitalization

Dilution

Selected financialdata

Business,management, andowners

Type of stock

Underwriterinformation

Actual financialstatements.


Prospectus


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Procedure

Preliminary prospectus (red herring) can bedistributed to the underwriting group.

Deficiencies are communicated throughtelephone or a comment letter.

Pricing amendment - Additional information onprice and distribution is submitted to the SEC todevelop the final prospectus.

Waiting period - Time between the initial filingand its effective date is usually around 2 to 10months.



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Legal Issues and Blue-SkyQualifications

Legal Issues

Quiet period 90-day period in going publicwhen no new company information can bereleased.

Blue-Sky Qualifications

Blue-sky laws - Laws of each state regulatingpublic sale of stock.

May cause additional delays and costs to thecompany.

Many states allow their state securitiesadministrators to prevent an offering from being

sold in their state.


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After Going Public

Aftermarket Support

Actions of underwriters to help support the priceof stock following the public offering.

Relationship with the Financial Community Has a significant effect on the market interest

and the price of the companys stock.


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Reporting Requirements

The company must file:

Annual reports on Form 10-K.

Quarterly reports on Form 10-Q.

Specific transaction or event reports on Form 8-K.

Company must follow proxy solicitationrequirements.

After Going Public (cont.)

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