Chapter 79 Section 3 The Process of Venture Capital
The process of venture capital investment is actually the process of founding a technology company.In the United States, the entrepreneurial process of an emerging technology company (Startups) usually goes like this: Sam, an engineer from Cisco, and Johnny, an engineer from IBM, invented a wireless communication technology. The core business has nothing to do. The two felt that this technology had great commercial prospects, so they wrote a patent draft, spent another $5,000 to find a patent attorney, and submitted a patent application to the US Patent Office (one of the key points, intellectual property rights are very important).The two of them spent all their time after get off work and on weekends in the garage of Sam's house, and used the simulation software Matlab to simulate, proving that this technology can increase the speed of wireless communication by fifty times (the second key, whether there is an order of magnitude improvement is a measure of Whether the new technology is revolutionary or the key to innovation.) The two thought of several applications, such as replacing the existing computer Wifi, or using it on mobile phones, so they added two supplementary patents to the original patent. patent.Johnny and Sam took their own Powerpoint projection film, experimental results and patent application materials to look for investors everywhere. After hitting the wall seven or eight times, they found Sam's original boss, Yaping, an early employee of Cisco.After Yaping made his fortune from Cisco, he stopped being a technical director, and he and a few like-minded wealthy people were working as angel investors.Yaping has talked about investment with no less than a dozen entrepreneurs, and he has a keen eye for new technologies. He found that Sam and Johnny's technology is very unique, but because Sam and Johnny can't explain the specific business prospects of this technology Where, it is recommended that they find a person who is proficient in business to develop a business plan Business Plan (the third key, business plan is very important).
Johnny finds Dick, a friend who does marketing and sales, and introduces his invention to Dick, hoping that Dick will join in the joint development of the market.Dick felt that he could talk to these two people and was willing to start a business together.At this time, the first equity allocation problem appeared.
So far, all the work has been done by Sam and Johnny, each with 50% equity and voting rights in the future company.After Dick joined, the three agreed that if Dick worked out a business plan, he would get 20% of the shares, and Sam and Johnny would reduce their holdings to 40%.After investigation, Dick found that the invention of Sam and Johnny had great prospects in high-definition home entertainment centers, so he formulated a feasible business plan and got 20% of the shares.The ownership of the future company by the three individuals so far is shown in the table below.
The three found Yaping again. Yaping asked his friend, Professor Charlemagne from the Department of Electrical Engineering of Stanford University to make an evaluation, which confirmed that the technology of Sam et al. was advanced and had considerable complexity, and was protected by patents. It is not easy to copy and imitate.Yaping felt that it was time to invest. He and his angel investor group felt that the work of Sam, Johnny and Dick was worth (before financing) US$1.5 million so far, while the three entrepreneurs felt that their work was worth two 1.5 million, and the final price is 2 million The method is the same, our estimates here are all calculated with Pre-Money).Yaping and his investment group invested 500,000 yuan, accounting for 20% of the shares.At the same time, Yaping put forward the following requirements:
1. Yaping wants to become a member of the board of directors;
2. Sam, Johnny and Dick must resign from the original company and work full-time for the new company.And before there is no new investment, the wages of the three people should not exceed four thousand dollars per month;
3. The shares of Sam and the other three must be gradually acquired (Vested) on a monthly basis in the next four years, not immediately when the company is established.In this way, if one of them leaves, he can only get a part of the stock;
4. If there is any new financing behavior, Yaping's angel investment group must be notified.
Now Sam and others must formally set up the company.For the convenience of financing and conducting business in the future, they registered Saitong Technology Co., Ltd. in Delaware.Sam serves as the chairman of the board, and Dick and Yaping serve as directors.Sam is president, Johnny is vice president of technology and chief technology officer, and Dick is vice president of marketing and sales.All three are co-founders.The company has 15 million registered shares, and the internal calculation price is 20 cents per share.
After Yaping invested (at that moment), the company's internal estimate has increased from 2 million to 2.5 million. Calculated at 20 cents per share, all shareholders' shares accounted for only 12.5 million shares ( 2.5 million/0.2=12.5 million).So why are there 2.5 million more shares? They do not have the corresponding capital or technology as collateral. The existence of these shares actually dilutes (Dilute) the equity of all shareholders.Why do companies themselves print these empty banknotes?Because they must be reserved for the following purposes:
1. Since the wages of Sam and others are very low, they will get a part of the stock as compensation according to their contribution;
2. After the company is formally established, it needs to hire people, and it needs to issue stock options to employees;
3. There are still some important members of the company who have not come in, including the CEO, who will receive a considerable amount of stock.
At present, the equity of each shareholder of the company is as follows:
Next, Sam and others resigned from their previous positions to start their own businesses full-time.The company was very successful, and a prototype of the product was made half a year later.However, the 500,000 investment has been spent, and the company has grown to more than 20 people. The 2.5 million shares also took up 1.5 million shares.At this point, they must refinance.Due to the promising prospects of the company, it finally got the favor of Sequoia Venture Capital.Sequoia Ventures valued the company at $15 million. At this time, the company's stock was worth $1 per share, four times higher than when Ping invested.Sequoia agreed to invest $5 million, accounting for 25%, so that the total number of shares increased to 20 million shares.At the same time, Sequoia Ventures will appoint a person to serve on the company's board of directors.Sam and others also promised that Sequoia Ventures would help find a professional manager to be the official CEO of the company.The two parties also agreed to dilute another 5% of the financing, that is, 1 million shares, and issue options for future employees.The current shareholding of the company is as follows:
Readers may have noticed that Sequoia Ventures is now the largest shareholder.
Two years later, the company successfully developed a sample and won an order from Toshiba. At the same time, Bill, the former COO of Broadcom, was invited to serve as CEO.Bill was on the board and received options on a million shares at three dollars apiece.Of course the new hires also use up some of the unallocated stock.At this time, the company's stock price has actually tripled compared to when Sequoia Ventures invested.After Bill arrived, the company grew further, but it remained unprofitable.Therefore, the board of directors decided to raise funds again, led by Sequoia Ventures and cooperating with the other two venture capitals to invest 15 million.The company priced at 105 million at the time of investment, or $5 per share.Now, the company's equity becomes:
At this time, the investor's shares have accounted for 44%, which is opposite to the founder, that is, he has about half of the control.Two years later, the company became profitable, and with the help of Goldman Sachs, it issued an additional six million shares and listed on Nasdaq. The initial stock was priced at $25 per share when it was listed.In this way, a technology company was successfully established with the help of VC.After listing, the company's total market capitalization is approximately US$750 million.The company's shares are as follows:
At this time, the founder Sam and others became legendary billionaires, and its employees held stocks worth nearly 50 million US dollars, and many of them became millionaires.However, Sam and other employees of the company only hold 44% of the shares, and most of the company's ownership is transferred from the founders and employees to the investors.Generally speaking, it is not bad for a founder to still hold 10% of the shares when the company goes public.
As the earliest investor, Yaping's angel investment group had the highest return, as high as 124 times.The first round of Sequoia Ventures made 24 times the profits, and the second round and the other two venture capitals all made four times the profits.Obviously, the earlier you invest in a promising company, the more profitable you will be, and of course, the greater the chance of failure.Generally, large venture capital funds will invest in companies at different development stages according to a certain proportion, so as to not only guarantee the basic return, but also guarantee the opportunity to get dozens of times the return.
I have taken the trouble to calculate the equity and value of founders and investors at each stage, in order to provide a reference for those who want to turn to venture capital to start a business.I have met many entrepreneurs who have almost no financing experience when approaching investors. Some ask for a lot of money, and some devalue themselves to nothing.We can see from this example that venture capital must be gradual, and how much money needs to be invested at each stage, which is beneficial to both investors and entrepreneurs.For investors, no investor will cover all expenses for the next five years at the beginning, which is too risky.For entrepreneurs, the company’s stock price in the early stage will not be high. Premature large-scale financing will make their equity share too low. Not only will it be economically uneconomical, but they will also lose control of the company. Half of them were driven away by investors.In the example above, angel investors and VCs put in a combined $20.5 million, 43% of the pre-IPO, and the three founders and other employees 57%.If more than 20 million yuan is raised when the company’s initial valuation is only 2 million yuan, investors will account for more than 80% of the shares before listing, while founders and employees will account for less than 20%.
The above situation is an extremely simplified investment process, and any successful investment will be much more complicated than it.For example, usually there may be several angel investors instead of one, and many people will ask to sit on the board of directors. In this way, when investing in a real venture capital company, the board of directors has become very large.In this case, venture capital firms usually buy back equity from angel investors at a reasonable stock price (Fair Market Value) at that time, and remove them all from the board of directors.Otherwise, every time a board meeting is held, there will be a room full of shareholders, large and small, and everyone will chatter and discuss issues.Most angel investors are also willing to cash out their investment income in order to reduce their investment risk.
The above example is a very ideal situation, the development of the company is smooth sailing, each round of valuation is higher than the previous round, the actual situation may not be the case.When many companies run out of venture capital funds in a certain round, their performance does not improve much, and the valuation will drop in the next round of financing.A friend of mine used to work in such a semiconductor company. They spent nearly 100 million dollars in investment and still could not make the company profitable, so they had to continue financing. The valuation given by the new venture capital company was only one-thirtieth of the previous valuation. , but the founders and previous investors had to accept this valuation to avoid closing the company and never getting back a penny of their investment.
The three found Yaping again. Yaping asked his friend, Professor Charlemagne from the Department of Electrical Engineering of Stanford University to make an evaluation, which confirmed that the technology of Sam et al. was advanced and had considerable complexity, and was protected by patents. It is not easy to copy and imitate.Yaping felt that it was time to invest. He and his angel investor group felt that the work of Sam, Johnny and Dick was worth (before financing) US$1.5 million so far, while the three entrepreneurs felt that their work was worth two 1.5 million, and the final price is 2 million The method is the same, our estimates here are all calculated with Pre-Money).Yaping and his investment group invested 500,000 yuan, accounting for 20% of the shares.At the same time, Yaping put forward the following requirements:
1. Yaping wants to become a member of the board of directors;
2. Sam, Johnny and Dick must resign from the original company and work full-time for the new company.And before there is no new investment, the wages of the three people should not exceed four thousand dollars per month;
3. The shares of Sam and the other three must be gradually acquired (Vested) on a monthly basis in the next four years, not immediately when the company is established.In this way, if one of them leaves, he can only get a part of the stock;
4. If there is any new financing behavior, Yaping's angel investment group must be notified.
Now Sam and others must formally set up the company.For the convenience of financing and conducting business in the future, they registered Saitong Technology Co., Ltd. in Delaware.Sam serves as the chairman of the board, and Dick and Yaping serve as directors.Sam is president, Johnny is vice president of technology and chief technology officer, and Dick is vice president of marketing and sales.All three are co-founders.The company has 15 million registered shares, and the internal calculation price is 20 cents per share.
After Yaping invested (at that moment), the company's internal estimate has increased from 2 million to 2.5 million. Calculated at 20 cents per share, all shareholders' shares accounted for only 12.5 million shares ( 2.5 million/0.2=12.5 million).So why are there 2.5 million more shares? They do not have the corresponding capital or technology as collateral. The existence of these shares actually dilutes (Dilute) the equity of all shareholders.Why do companies themselves print these empty banknotes?Because they must be reserved for the following purposes:
1. Since the wages of Sam and others are very low, they will get a part of the stock as compensation according to their contribution;
2. After the company is formally established, it needs to hire people, and it needs to issue stock options to employees;
3. There are still some important members of the company who have not come in, including the CEO, who will receive a considerable amount of stock.
At present, the equity of each shareholder of the company is as follows:
Next, Sam and others resigned from their previous positions to start their own businesses full-time.The company was very successful, and a prototype of the product was made half a year later.However, the 500,000 investment has been spent, and the company has grown to more than 20 people. The 2.5 million shares also took up 1.5 million shares.At this point, they must refinance.Due to the promising prospects of the company, it finally got the favor of Sequoia Venture Capital.Sequoia Ventures valued the company at $15 million. At this time, the company's stock was worth $1 per share, four times higher than when Ping invested.Sequoia agreed to invest $5 million, accounting for 25%, so that the total number of shares increased to 20 million shares.At the same time, Sequoia Ventures will appoint a person to serve on the company's board of directors.Sam and others also promised that Sequoia Ventures would help find a professional manager to be the official CEO of the company.The two parties also agreed to dilute another 5% of the financing, that is, 1 million shares, and issue options for future employees.The current shareholding of the company is as follows:
Readers may have noticed that Sequoia Ventures is now the largest shareholder.
Two years later, the company successfully developed a sample and won an order from Toshiba. At the same time, Bill, the former COO of Broadcom, was invited to serve as CEO.Bill was on the board and received options on a million shares at three dollars apiece.Of course the new hires also use up some of the unallocated stock.At this time, the company's stock price has actually tripled compared to when Sequoia Ventures invested.After Bill arrived, the company grew further, but it remained unprofitable.Therefore, the board of directors decided to raise funds again, led by Sequoia Ventures and cooperating with the other two venture capitals to invest 15 million.The company priced at 105 million at the time of investment, or $5 per share.Now, the company's equity becomes:
At this time, the investor's shares have accounted for 44%, which is opposite to the founder, that is, he has about half of the control.Two years later, the company became profitable, and with the help of Goldman Sachs, it issued an additional six million shares and listed on Nasdaq. The initial stock was priced at $25 per share when it was listed.In this way, a technology company was successfully established with the help of VC.After listing, the company's total market capitalization is approximately US$750 million.The company's shares are as follows:
At this time, the founder Sam and others became legendary billionaires, and its employees held stocks worth nearly 50 million US dollars, and many of them became millionaires.However, Sam and other employees of the company only hold 44% of the shares, and most of the company's ownership is transferred from the founders and employees to the investors.Generally speaking, it is not bad for a founder to still hold 10% of the shares when the company goes public.
As the earliest investor, Yaping's angel investment group had the highest return, as high as 124 times.The first round of Sequoia Ventures made 24 times the profits, and the second round and the other two venture capitals all made four times the profits.Obviously, the earlier you invest in a promising company, the more profitable you will be, and of course, the greater the chance of failure.Generally, large venture capital funds will invest in companies at different development stages according to a certain proportion, so as to not only guarantee the basic return, but also guarantee the opportunity to get dozens of times the return.
I have taken the trouble to calculate the equity and value of founders and investors at each stage, in order to provide a reference for those who want to turn to venture capital to start a business.I have met many entrepreneurs who have almost no financing experience when approaching investors. Some ask for a lot of money, and some devalue themselves to nothing.We can see from this example that venture capital must be gradual, and how much money needs to be invested at each stage, which is beneficial to both investors and entrepreneurs.For investors, no investor will cover all expenses for the next five years at the beginning, which is too risky.For entrepreneurs, the company’s stock price in the early stage will not be high. Premature large-scale financing will make their equity share too low. Not only will it be economically uneconomical, but they will also lose control of the company. Half of them were driven away by investors.In the example above, angel investors and VCs put in a combined $20.5 million, 43% of the pre-IPO, and the three founders and other employees 57%.If more than 20 million yuan is raised when the company’s initial valuation is only 2 million yuan, investors will account for more than 80% of the shares before listing, while founders and employees will account for less than 20%.
The above situation is an extremely simplified investment process, and any successful investment will be much more complicated than it.For example, usually there may be several angel investors instead of one, and many people will ask to sit on the board of directors. In this way, when investing in a real venture capital company, the board of directors has become very large.In this case, venture capital firms usually buy back equity from angel investors at a reasonable stock price (Fair Market Value) at that time, and remove them all from the board of directors.Otherwise, every time a board meeting is held, there will be a room full of shareholders, large and small, and everyone will chatter and discuss issues.Most angel investors are also willing to cash out their investment income in order to reduce their investment risk.
The above example is a very ideal situation, the development of the company is smooth sailing, each round of valuation is higher than the previous round, the actual situation may not be the case.When many companies run out of venture capital funds in a certain round, their performance does not improve much, and the valuation will drop in the next round of financing.A friend of mine used to work in such a semiconductor company. They spent nearly 100 million dollars in investment and still could not make the company profitable, so they had to continue financing. The valuation given by the new venture capital company was only one-thirtieth of the previous valuation. , but the founders and previous investors had to accept this valuation to avoid closing the company and never getting back a penny of their investment.