Entrepreneurial Finance

Professor Lily Fang

Session 1: The Entrepreneurial

Financing Landscape
Eye-popping Returns
• Investment A:
• Initial investment: 25M in June 1999
• Exit: 4B in Aug. 2004
• Value multiple: 160X; IRR: 260%

• Investment B:
• Initial investment: 2M in June 1997
• Exit: 2.5B in Sep. 1998
• Value multiple: > 1000; IRR: 100,000%

• Investment C:
• Initial investment: 7M in Feb 2011
• Exit: 300M in April 2012
• Value multiple: 43; IRR: 2,500%
Startup A: DigitalDisruptor Inc.
• Startup Profile:
• Builds disruptive digital technology that make people happier
• Great concept, no revenue, yet

• What kind of investors might be interested?

• What type of financing would be suitable?

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Startup B: BetterBasics Inc.
• Startup Profile:
• Not digital; not disruptive
• Provides a good or service that people need
• Has revenue and makes money

• What kind of investors might be interested?

• What type of financing would be suitable?

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Startup C: CancerCure Inc.
• Startup profile:
• Totally cool gene editing/silencing technology
• Founded by MIT scientist
• No product, no revenue yet

• What kind of investors might be interested?

• What type of financing would be suitable?

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The 2X2 Matrix: Money and Technology
$$$$$
Capital
Intensity

Technology Novelty

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Venture Funding Types

Trade Credit

Cash
Conventional Debt
Convertible Notes
Working Capital
Preferred Stock

Fixed Assets

Common Equity

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Venture Funding Types and Sources
• Typically, VC investments are structured as preferred stock

• Angel investments are often structured as convertible notes

• Common equity comes from founders

• Conventional debt is rare for young (tech) ventures

• Specialized players for small business loans: Kabbage (FinTech firm)
• Specialized venture debt

• Young ventures can also use trade credit or asset-backed financing.

One example of asset-backed financing is “factoring”, or selling
receivables for cash
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Venture Funding Sources

Crowd
Incubators Funding
Corporations
(strategics)
Governments Venture Debt Firms

Factoring
Super
Angels

Angels VCs

Self, family,
friends
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Crowd Funding Startups
• Debt and other non-equity financing:
• Kabbage (small business loans; 6 minute loans)
• Fundbox (invoice factoring; that is the firm will buy your startup’s
invoices or accounts receivables for cash up front)

• Equity:
• Enabled in the US by the Jumpstart Our Business Startups (JOBS) Act,
and specifically, the CROWDFUND Act (Capital Raising Online While
Deterring Fraud and Unethical Non-Disclosure Act) within
• CircleUp, FundersClub; StartupValley; EarlyShares (real estate)

• Token: Kickstarter

• Syndicated VC/Angel Investing: AngeList

From Entrepreneurship to Venture

• Capital Rule #1: It takes money to make money

• Capital Rule #2: The key to funding is to

overcome information and incentive problems

• How do the different funding methods solve these

problems?

• How should entrepreneurs prepare themselves to

signal their worth?
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Summary
• Startup capital comes in two main flavors: equity, and non-equity; non-
equity capital plays a surprisingly important role. Equity-based capital is
mainly from founders and VCs. VC’s investments are typically structured
as preferred equity

• Startups differ greatly in terms of technological novelty/difficulty and

capital intensity. Depending on these characteristics, the suitable funding
type and source are different

• The cost of starting a digital startup has gone down tremendously. This
is also the favored field of many VCs and angels. While there is lots of
funding available and valuations are high at the moment, this is a
crowded space and bubble-like symptoms

• The cost of starting a life sciences venture, on the other hand, has gone
up rather than down. Suitable funding sources include government, 12
corporations, much less frequently VCs
Summary
• Crowd funding provides a new platform of financing, but ultimately crowd
funding still boils down to equity or non-equity based financing

• Equity-based crowd funding is made possible recently in the US by the

JOBS Act and in particular the CROWDFUND Act

• In all types of fund raising setting, the key difficulties entrepreneurs need
to overcome is the information problem: adverse selection and moral
hazard

• Adverse selection needs to be addressed by due diligence

• Moral hazard is partially addressed by term sheets

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