From the life science venture fast track: http://www.thecapitalnetwork.org/programs/life-science-venture-fast-track/

1. Funding
Op*ons
for
Life
Science
Companies
January 21, 2014

2. Funding
the
Company
Assuming
you
plan
to
be
a
“high
growth”
company…
What
are
your
funding
op*ons?

3. Entrepreneurship
comes
in
many
types
SOCIAL
VENTURE
COMPANY
NORMAL
GROWTH
COMPANY
• Goal is to fulfill
a social need
• Has mission
orientation
• Team needs to
support
mission
• Growth profile
often one
resource at a
time
• Exit …much
harder to find
fit
• Includes all
service
businesses
• Exploiting a local
market need
• Team has ‘great
jobs’
• Growth by adding
resources one by
one
• Exit will be based
on value of cash
flow (mature biz.)
HIGH
GROWTH
COMPANY
• Company can
grow fast (on-line)
or has a scalable
system
• Team often
motivated by exit
• $10m revenue in
5 yrs & market
size allows
significant
additional growth
• Capital efficient
total investment
$2-4M
• Exit by M&A
3
EXTREME
HIGH
GROWTH
COMPANY
• Growth profile
ultra-scalable
• Team focus is exit
• Revenue $40M+
with lots of room
for growth (5 yr.)
• Based on $20M+
investment
• Exit targeted to
IPO or by ‘large’
M&A event

4. Close
Up:
Extreme
High
Growth
vs
High
Growth
M&A or
IPO
Later VC
Rounds
Capital Needs
High
Risk
Formal
Venture
Capital
Friends,
Family &
Founders
Friends,
Family &
Founders
Crystallize
Ideas
Angels or
Accelerators
or Micro-cap
funds
Busines
s Angels
Demonstrate
Product
M&A
Angels or
Accelerators
or Micro-cap
funds
Angel Group
(or Micro-cap)
Syndication
Low
Risk
Time
Market Entry
Early Scaling
Growth
Extreme
High Growth
High Growth
Sustained
Growth
4

5. High
Growth
Company
Characteris*cs
• Disrup*ve
Innova*on
with
Strong
value
proposi*on
– Correla*on
between
Large
Unmet
Need
:
Solu*on
• High
Margin
Product
(Ra*o
of
Revenue
:
COGS)
– Some*mes
Massive
Volume
Products
where
innova*on
is
incremental
• High
Rate
of
Revenue
Growth
over
sustained
period
• Scalable
(Fixed
cost
is
a
low
percent
of
Revenue)
• No
major
barriers
to
con*nued
growth
(ex.
blocking
IP;
geography;
regulatory)
• Repeatable
sales
and
distribu*on
model
with
many
credit
worthy
customers
• Large
Total
Addressable
Market
(TAM)
• Defensible
innova*on
able
to
withstand
compe**on
and
changing
condi*ons
• [Capital
efficient]
5

6. Capital
Source
View
NON
PROFIT
ORGANIZATION
SOCIAL
VENTURE
COMPANY
NORMAL
GROWTH
COMPANY
HIGH
GROWTH
(COMPANY)
EXTREME
HIGH
GROWTH
(COMPANY)
Risk / Return
Impact
/
Tax
Write
off
Charity
$$
Return
on
Debt
Income
DebtPay it back
Fixed Amounts
Return
on
Equity
High
Return
Equity –
Ownership stake
% of Future Value
6

7. Match
Funding
Sources
SOCIAL
VENTURE
COMPANY
• Friends
family,
founders
• Charity$$
• Crowds (Kickstarter)
• Impact Angels
• (Future)
Crowd funding
(portal style)
NORMAL
GROWTH
COMPANY
• Friends family,
founders
• Debt Bank and
other
• (Future) Crowd
funding (portal
style)
HIGH
GROWTH
COMPANY
EXTREME
HIGH
GROWTH
COMPANY
• Angels
• Angel Groups
• Angel Group
Syndication
• Angel List
• Micro-cap Funds
• (Future) Crowd
funding (portal
style)
• Increasingly
Strategic
Corporate VCs
Early on
• Accelerators
• Individual Angels
• Micro Cap VCs
• Seed from VC
Later stages
• Venture Funds
• Strategic VCs
• Angel
Syndication
7

8. Non-­‐Equity
Sources
• Accelerators
(some)
• Kickstarter
type
dona5ons
•
•
•
•
•
Pre-­‐orders
from
end-­‐customers
Credit
from
vendors
Strategic
VCs
Strategic
NREs
Distribu5on
Contracts
Common
Theme:
Providing
early
cash
in
exchange
for
a
beHer
commercial
opportunity
8

9. Equity
Sources
• Accelerators
(some)
• Friends
&
Family
Common
Theme:
Suppor5ng
success
of
the
entrepreneur;
business
terms
vary
•
•
•
•
•
•
Portal
Funding
Early
Angels
Super
Angels
Angel
Groups
Micro
VC
Tradi5onal
VC
(1st
Round)
Common
Theme:
All
are
looking
for
– sale
(or
IPO)
of
the
Company
at
4-­‐10
x
original
investment
– Capital
gains
treatment
on
all
sale
proceeds
– Preferen5al
treatment
on
subop5mal
exit
versus
the
founders
9

10. Sources
of
Equity
Capital
Must
have
exits
for
equity
model
to
work!!
– 2011
US
IPOs
-­‐
$36B
– 2011
US
M&A
-­‐
$57B
– 2011
US
Private
Equity
-­‐$35B
• Exit
sources
extremely
variable
…
health
of
economy
• All
exits:
indica*ve
of
future
cash
flow
or
market
control
Idea
Stage
Demonstrate
Market
Entry
&
Product
&
• Friends
Early
Growth
Market
Interest
•
Crowdfunding
family,
founders
• Grants
• Crowds
(Kick-­‐
starter)
• Accelerators
• Individual
Angels
• Angel
Groups
• Accelerators
• Micro
Cap
VCs
(portal
style)
•
Angel
Groups
•
Angel
Group
SyndicaSon
•
Angel
List
•
Micro-­‐cap
Funds
Early
Scaling
Growth
• Most
Venture
Funds
• Angel
SyndicaSon
Repeatable
Growth
• Most
Venture
Funds
• Strategic
VCs
• Angel
SyndicaSon
• Private
Equity

11. High
Growth
Capital
by
Stage
&Amount
Traditional VC
Micro VC
Angel Groups
AngelList
Investment
Size
Corporate Venturing
Equipment Financing
Grants
Angels
Portal Funding
Customers
Friends & Family
Vendors
Crowdfunding
Founder
Venture Stage
11

12. Capital
Sources:
Size
&
Cost
Angel Groups
Angels
Traditional VC
AngelList
Micro VC
Crowdfunding
Investment
“Cost”
Friends & Family
Founder
Personal
Loans
Bank
Loans
Vendors
Private Equity
Corporate / Strategic
Venture
Portal Funding
Venture
Debt
Equipment Financing
Customers
Grants
Investment Size

13. So
What
is
Equity
Anyway?
• Stock
=
right
to
residual
economic
interests
upon
sale/liquida*on
+
stockholder
vo*ng
rights
(usually
limited
to
Board
of
Directors
and
Sale
of
the
Company)
• Preferred
Stock
=
right
to
be
paid
before
Common
Stock
Par*cipa*ng
=
original
investment
PLUS
a
pro
rata
share
of
remainder
Non-­‐Par*cipa*ng
=
original
investment
OR
a
pro
rata
share
• Common
Stock
=
whatever
is
lep
aper
all
other
creditors
and
preferred
stockholders
are
paid
• Dividend
=
a
right
to
an
addi*onal
amount
upon
liquida*on
measured
as
a
func*on
of
*me
x
percentage
of
original
investment
.
Ex.
6.0%
per
annum
• OpSons
/
Warrants
=
Contracts
allowing
holder
to
purchase
an
amount
of
stock
in
the
future
at
a
pre-­‐determined
price
• Control
Rights
=
Statutory
and
Contractual
13

14. Equity
Type
Comparisons
Solo
Angel
Super
Angel
Angel
Group
MicroVC
VC
Valua*ons
High
rela*ve
to
High
rela*ve
to
Low
rela*ve
to
Low
rela*ve
to
Medium
stage
stage
stage
stage
Type
-­‐
Likely
(less
likely)
Common
(Warrants)
Conv
Note
(Preferred)
Preferred
(Conv
Note)
Preferred
(Conv
Note)
Preferred
Board
Seat
Maybe
1
or
none
1-­‐2
of
5
+/-­‐
Observer
1
of
5
+/-­‐
Observer
1-­‐2
of
5
+/-­‐
Observer
Audited
Financials
No
No
No
(reviewed)
Yes
Yes
Nega*ve
Covenants
No
Some*mes
Yes
Yes
Yes
Preemp*ve
Rights
No
Some*mes
Yes
Yes
Yes
Ver*cal
Exper*se
Some*mes
Rarely
Some
Usually
Always
14

15. Equity
Type
Comparisons
Solo
Angel
Super
Angel
Angel
Group
MicroVC
VC
Exit
Horizon
(from
$
in)
7
years
5
years
4
years
5
-­‐7
years
4-­‐5
years
Exit
Range
$20m+
$40m+
$50m+
$100m+
$250m+
15

16. Structure
of
an
Equity
Deal
• Company
and
Investors
agree
on
a
“pre-­‐money
valua*on”
(PM)
which
leads
to
a
price
per
share
• Investors
put
in
$X
• Investors
then
own:
X
/
(X
+
PM)
of
the
company
Example:
PM
=
$1M
X
=
$0.5M
Investors
own
0.5/1.5
=
33%
Remember:
New
issuance
NOT
transfer
16

17. Understand
the
Funding
Path
• We’re
talking
about
1st
funding
here
• What
is
the
probable
complete
funding
picture?
– This
is
only
funding
– Another
small
round
then
probable
small
exit
– Big
money
needed
before
exit
• Each
funding
event
should
occur
at
an
“inflec5on
point”
– Hopefully
at
a
point
where
risk
is
removed
– Increased
PM
=
so-­‐called
“up
round”
17

18. Understand
the
Funding
Path,
cont.
• What
if
things
aren’t
going
so
well?
– Flat
or
decreased
PM
=
so-­‐called
“down
round”
• More
money
coming
in
without
increased
PM
means
everyone
gets
diluted,
but…
• Depending
on
anS-­‐diluSon
provision
entrepreneur
may
carry
more
burden
than
the
investors
18

19. What
about
Conver*ble
Debt?
• Many
seed-­‐stage
companies
use
an
instrument
called
Conver5ble
Debt.
Huh?
• Conver5ble
debt
is
not
tradi5onal
bank
debt
• Converts
exist
for
two
major
reasons
– Investors
and
Entrepreneurs
find
it
hard
to
agree
on
a
PM
valua5on
– Some5mes
quicker
and
cheaper
to
document
than
equity
deals
(but
not
really)
19

20. Conver*ble
Debt
provides
Op*onality
• ConverSble
Debt
=
unsecured
debt
obliga*on
of
the
Company
that
may
be
converted
into
equity
of
the
Company.
• Conversion
Trigger
=
Qualified
Financing
usually
at
some
minimum
amount
of
funds
(ex.
$500,000)
• If
Notes
stays
as
Debt
=
Get
back
principal
and
interest
ahead
of
other
equity
(behind
other
creditors
typically)
• If
Notes
Convert
=
Convert
amount
of
debt
and
interest
into
equity
at
the
valua*on
in
the
next
round
•
aper
applica*on
of
a
Discount
(open
5
–
20%)
•
subject
to
a
maximum
valua*on
amount
(the
“Cap”)
20

21. Basic
Structure
of
Conver*ble
Debt
• Investor
loans
$
to
Company
an5cipa5ng
another
round
of
funding
• Investment
accrues
small
interest
• When
the
funding
occurs,
investment
+
interest
convert
to
equity,
usually
at
a
discount
(5-­‐20%
typically)
Example:
• Investors
loan
$200K
to
Company
• 20%
discount
• As
of
conversion,
interest
of
$10k
has
accrued
• Next
Round
PM
=
$2m
• Conversion
Amount
=
1/(1
-­‐
0.2)*
$210k
=
$262,500
At
Conversion,
Noteholders
receive
262.5K
/
(PM
+
262.5K
+
New
Money)
21

22. Conver*ble
Debt
–
Complica*ons!
When
does
the
debt
convert?
What
happens
if
PM
of
next
round
is
huge?
Does
the
investor
have
any
say
in
things?
What
if
there
is
an
equity
investment
that
doesn’t
trigger
conversion?
• What
happens
if
it
never
converts?
• What
happens
if
Company
gets
bought?
•
•
•
•
22

23. Conver*ble
Debt
–
Solu*ons?
• Caps
and
Floors
– May
defeat
purpose
with
signaling
•
•
•
•
Default
conversion
price
and
security
at
maturity
Quick
sale
preferences
(ex.
2x)
Governance
provisions
Careful
agenSon
to
conversion
condiSons
23

24. Conver*ble
Debt
–
Worse
than
Equity?
• MulSple
liquidaSon
preference
(circa
2008)
–
–
–
–
Ex.
$500k
of
Notes
with
cap
at
$2m
PM
Next
Round
at
$6m
PM
Issue
Noteholders
3x
number
of
shares
3x
shares
equals
3x
liquidaSon
preference!!
• Without
a
floor,
effecSvely
Full
Ratchet
AnS-­‐diluSon
• Preference
Overhang
– In
prior
example
Noteholders
bought
$262,500
of
preference
for
$200,000.
– All
other
Series
A
Holders
bought
1:1
preference
• Not
Just
a
Price
Adjustment
24

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