CleanTech Open Academy Day 2

July 24, 2010

Building an Investor-Worthy Financial Model

Peter Liu: Founder, New Resource Bank

• Whiz bang complicated models sometimes are detrimental: clear presentations better

Capitalization--Satisfying Investors, Employees & the IRS

Herb Fockler: Partner, Wilson Sonsini

• The answer is 7.5%
  • VCs take 50%, Option plan reserve 20% total 70%
  • 4 year vesting, maybe 1 year credit
  • 30% divided by 4 is 7.5% per year. But this is without putting in any cash.
• Goal of silicon valley companies
  • Sell at a high price to investors
  • Sell at a low price to employees
  • How? 
    • Lapse of time
    • Achieve milestones
    • Sell them someone different, like preferred stock
• Preferred stock characteristics
  • Liquidation preference, sometimes participation
  • Veto powers over corporate structure
  • Anti-dilution
  • Convertible to common generally 1:1
  • Various contractual rights, like rights-of-first refusal
• Don't get creative on the capital structure
• ISO don't pay taxes on exercising but have to hold for 1 year after. Also limited to $100k per person per year. So many companies use just NSO
• Fully diluted shares could or could not include the option pool
• Be careful about casual promises of stock ownership or forgotten founders. Otherwise get them to sign something waiving their rights
• Bad thing to contribute services in exchange for founders share because this is taxable!
• Contribute property or IP in the formation of company, is tax free. Property or IP afterwards is taxable.
• IRS and FAS requires outside valuation of FMV to issue options. This costs between $6k and $10k.
• Restricted stock better because it doesn't require this.
• Need to pay all employees and founders at least minimum wage. But lots of companies don't.
• Use convertible debt for seed round to delay settling on company valuation. Also simplifies documentation. Nominal interest but no security. So really more like equity, but they are first in line. Sometimes sweetened with a convertible discount of about 20%
• Before Series A, will increase option pool to 15% to 25%.
• Series A VCs will probably take majority of board and bring in CEO
• Raise enough for 18 months

Term Sheet Fundamentals

Herb Fockler: Partner, Wilson Sonsini

• Disclosure rule: If you think something might scare off an investor, that is exactly what you have to tell them
• Usually takes 6 months after initial VC interest in order to get funds
• Valuation is fungible, so VCs will look for 50%. So whatever amount you are raising, the VCs will set the same amount as the pre-funding valuation. The amount you raise in Series A will largely determine the value of your company.
• Herb doesn't like drag-along rights where common stock owners have to bow to will of preferred stock holders. 

Investor Pitch – 
The Essence of Telling Your Company’s Story

Andrew Chung:, Principal, Lightspeed Venture Partners. Cleantech, Internet, software.

• Problems with pitches
  • Mangement Team
    • Homogeneity
    • Theory over substance
    • Lack of recruiting clarity
  • Market
    • Too much time spent explaining a familiar market
    • Lack of clarity on target market
  • Tech Overview
    • Not explaining it clearly
    • Not tailoring technical depth for audience and stage
  • Tech Differentiation
    • Another "me too" technology
    • Assuming approach is unique
  • Tech Economics
    • Industry costs are moving targets
    • Not understanding sensitivities of price to outside influences
  • Tech development timeline
    • Long time to market (3+ years)
    • Lengthy "design-in" time requirements
    • Dependence on other emerging technologies
  • Ops: Sales and Distribution
    • Sales cycles that are too long
    • Long payback time, limited ROI for customers
    • Fragmented customer base
  • Ops: Policy/regulatory Issues
    • Dependence on pending legislation, short-term policy windows, stimulus package
  • Financials: Projections
    • Too aggressive
    • Too conservative
    • Not knowing how sensitive financials are to externalities
  • Financials: Fundraising needs
    • Large initial rounds with limited proof points
    • Lack of flexibility in round structure