Foreword     xiii
Preface     xv
Acknowledgments     xvii
Introduction     1
Creditica Software Inc. Case Study     7
Understanding the Basics of the Venture Capital Method
Developing a Financing Map     19
Creating a Set of Stepping-Stones for a New Business     20
Matching the Financing Strategy to the Stepping-Stones     21
Developing a Map of Possible Stepping-Stones     23
Capturing as Much of the Prize as You Can     31
Getting to the First Stepping-Stone     33
Why New Ventures Are Not Fully Funded from the Start     34
Fleshing Out the First Stepping-Stone     35
Options at the End of Each Stage of Investment     38
The Chief Financial Officer as Strategist     39
Why Corporations Fail in Creating New Businesses     43
The Unique Cash Flow and Risk Dynamics of Early-Stage Ventures     47
Costs Known-Revenues Unknown     48
J Curves and Peak Cash Needs     53
Milestone Funding: Option or Investment?     59
A 12- to 24-Month Ticking Clock     63
Timing Is Everything-Buy Low, Sell High     65
A Five- to Seven-Year Marathon in Three to Four Stages     66
Gross Margins of 80 to 100%     68
No Correlation between the Amount of Money Raised and the Company's Success     70
A Tension between the "Lemons Ripening Early" and the "Valley of Death"     70
A Binary Payoff Profile     72
Raising the Finance
Determining the Amount of Capital to Raise and What to Spend It On     77
An Established Company-Estimating the Amount of Capital to Raise     78
A New Company-Estimating the Amount of Capital to Raise     78
Activities in a New Business That Absorb Capital     79
Investors' Views of the Five Capital-Absorbing Activities     90
Businesses with Different Capital-Absorbing Profiles     93
Getting Behind How Venture Capital Firms Think     97
Structure of Venture Capital Funds     97
Types of Investors in Venture Capital Funds     100
Size and Internal Structure of VC Firms     102
How VC Firms Are Compensated     103
Valuation of Investments within a VC Portfolio     106
Cash Flows and J Curve at a Fund Level     108
Expected Returns on a VC Fund     111
Expected Returns on Individual Investments in a VC Fund     114
It's All about Big Winners     117
Portfolio Construction      118
Sorting Out Conflicts of Interest     120
Creating a Winning Business Plan     123
Market Power-the Key Ingredient Missing in Most Business Plans     124
Evidence to Include in the Business Plan     125
Potential for Accelerated Growth in a Big, Accessible Market     125
Achievable Position of Market Power     130
Capable, Ambitious, Trustworthy Management     135
Plausible, Value-Enhancing Stepping-Stones     136
Realistic Valuation     137
Promising Exit Possibilities     137
Valuing the Early-Stage Venture
Valuing Early-Stage Companies     141
Traditional Valuation Methods-Why They Don't Work for Early-Stage Ventures     142
Are Valuations of Technology Companies Crazy?     145
Corporate Finance Theory-Technology Company Valuation     147
Triangulation Process of Venture Capitalists     150
How the Company Can Maximize Its Valuation     160
Why Big Companies Buy Small Companies     161
Value of Small Companies Compared to Large Companies     162
Negotiating the Deal: Term Sheets
Agreeing on a Term Sheet with a Venture Capitalist     169
Percentage Ownership of the Company Granted to the Investor     169
What Each Side Tries to Achieve in a Term Sheet     173
Why It Isn't Like Investing in a Public Company     175
Terms for Splitting the Rewards     177
Exit Preferences, Linked to the Type of Preferred Stock     178
Staging of Investment against Milestones     191
Options to Invest More Money at a Defined Price per Share     192
Preferred Dividends     193
Antidilution     194
Problems with Ratchets     204
Pay-to-Play Clauses     207
Washout Financing Rounds-Down (and Out!) Rounds     210
Allocating Control Between Founders/Management and Investors     213
Restricted Transactions/Protective Covenants     213
Structure of the Board of Directors     219
Redemption     226
Forced Sale     227
Registration Rights     229
Tagalong Rights, Dragalong Rights     230
Information Rights     233
Right of Access to the Premises and Records and Right to Appoint a Consultant     233
Preemption Rights     233
Transfer Provisions     234
Exclusivity Clause     235
Aligning the Interests of Founders/Management and Investors     237
Founders' Stock      238
Option Pool     238
Vesting Arrangements     240
Noncompete Agreements     245
Intellectual Property Assignment     246
Warranties and Representations     246
Exercises
Term Sheet Exercises     251
Security Portal Inc.     267
Standard Term Sheet Clauses     273
Index     281