Venture Capital Terms
All start-up teams that request investments from venture capitalists face different investment procedures and situations that involve specific knowledge and background in financing. For a beginner in the venture capital world, there is an enormous flood of terminology and financial information, which at a first glance might seem complicated and difficult, but there is no reason to panic. We have provided you with the most used terminologies in the venture capital environment and will enrich your financial vocabulary.
Angel Investors are accredited people who provide capital for a business or business start-up, investing in them in the early stages with their own money and resources. Angel investors usually give support to start-ups at the initial moments and when most investors are not prepared to back them.
These types of investments are rarely met, due to the risk uncertainty and have a share of about 10% in the angel investor’s portfolio. Therefore, most angel investors are searching for a higher rate of return than those determined by traditional investment opportunities.
Anti-dilution provision is an instrument that acts as a buffer to protect investors against their equity ownership positions from dilutive effect or depreciation. This can happen in the situation when there is an increase in the total number of shares outstanding, consequently, the percentage of the owner’s stake in the company slightly decreases.
Anti-dilution provisions are also applied to the anti-dilution clauses, subscription concessions, subscription rights or preemptive rights.
Capitalization table, also called the cap table, is a spreadsheet or table that shows the equity capitalization for a company. Information provided in a capitalization table is most utilized for startups and early-stage businesses but there are no restrictions in using capitalization tables by all types of companies.
A basic capitalization table places materials on each type of equity ownership capital, the individual investors, and the share prices. A more complex table may also include details on potential new funding sources, mergers and acquisitions, public offerings, and other hypothetical transactions.
Committed capital represents money contributed to the investment fund. Committed capital is used to finance investments as well as administrative costs and failure to execute it can have negative consequences, such as the loss of future profits.
This concept is used in relation to alternative types of investments, such as venture capital (VC) funds, private equity (PE) funds, and hedge funds.
Convertible loans are a form of debt financing. They will appear on the balance sheet as liabilities, and the investors become creditors of the company (unlike equity investors who become shareholders). Should the startup go into liquidation, the proceeds will first be used to repay the creditors (loan holders). The main advantage for entrepreneurs, that a convertible loan before being transformed into equity, has the same characteristics as a standard loan. But be attentive, the main inconvenience, the investor has a priority right at maturity date to claim all kinds of assets of the startup (tangible and intangible) for recovering the loan and interest.
Deal flow is the estimated proportion of business proposals and investment pitches coming and being received by investment bankers and venture capitalists.
Deal flow is composed of different types of proposals such as venture funding, syndication, private placements, initial public offerings (IPO), mergers, and acquisitions. And usually, it follows a cyclical pattern, and trends unfold throughout society and economic environments.
Death Valley curve
Death Valley curve is the first phase of an operating startup, that has not yet generated revenue. It can be challenging for firms to raise additional financing since their business model has not yet been proven and accelerated. As its name signifies, the Death Valley curve is a difficult period for startup companies in which they are at anticipated probability and risk of total failure.
Therefore, startup companies should do all possible to shorten this period and become self-sustainable before the initial invested capital runs dry.
Diluted founder is a term used to describe the process of a startup’s founders gradually losing ownership of the company they initiated. It can be explained now when VCs (venture capitalists) agree to invest money into a startup, for the received equity shares in return. As a result, the founders mitigate their ownership in the company in exchange for capital to grow their business.
Dilution is the devaluation of shareholders’ equity positions due to the publication or creation of new shares. A share of stock represents equity ownership in that company. When a firm’s board of directors takes a decision to declare their company public, through an initial public offering (IPO), they authorize the number of shares that will be offered on the stock market at the beginning. This initial amount of outstanding stock is commonly known as the “float.” If that company later issues additional stock, it has increased the float and therefore diluted current stock meaning that the shareholders who recently bought the original IPO of stocks now have a smaller ownership stake in the company compared with what they had prior to the new shares being released.
Due diligence is a complete examination of the product and transaction before the actual deal-making. Its goal is to determine whether the information provided by the startup was accurate. The investor can oversee this type of analysis on any stock accessing easily available public information. Due diligence investigation includes checking the cap table, finances, legal documents, team, clients and finally checking competitors and industries’ performances.
Elevator pitch is a commonly used term to describe a brief speech that summarizes an idea for a product, service, or project. The duration of it is usually 20-30 seconds. An elevator pitch should include why your product, idea or project is worth investing in by explaining such things as your unique solution, differentiation points.
Venture capitalists use the quality level of the elevator speech as a way to make a decision whether the idea has profit potential and to continue with the idea or not.
Incubator firm is a firm that supports and assists a startup from its first phase to a company that can retain it individually, without external stimulation. They can serve a startup by offering office space, administrative functions, also they can provide education and consultancy, additionally, they make connections with investors and capital markets.
Incubator firms can obtain profit from either charging a fee for their services or taking an equity stake in the startup. This period of incubation can have a duration of starting from a few months to several years. In Oklahoma, we have a large number of incubators. See a full list HERE
Letter of intent
Letter of intent (LOI) is a document declaring the preliminary interest of one party to do business with another. The letter outlines the main terms of a prospective deal and is commonly used in business transactions.
The terms included in an LOI are certain stipulations, requirements, timelines, and the parties involved. Many LOIs include non-disclosure agreements (NDAs) and no-solicitation provisions. Moreover, letters of intent are widespread and can be used outside of the business world in any conditions where two parties are willing to work together and form a deal.
The concept of liquidity explains to the investors the intensity with which an asset can be quickly bought or sold in the market at a price that reflects its intrinsic value. Cash is mostly recognized as a liquid asset because it can quickly and easily be transformed into other assets.
As an example, imagine if a person wants a $1,000 TV, cash is the easiest type of payment used, for obtaining the desired TV. If that person has no cash, but instead – a wine collection that has been evaluated at $1,000, he is unlikely to find someone willing to exchange the TV for their collection. As an alternative, she is supposed to sell her collection and use the cash to make a transaction in order to purchase the TV.
A non-disclosure agreement (NDA) is a legally binding contract referred to as a confidentiality agreement between 2 parties. The purpose of this document is keeping in the secret the sensitive information provided from one party to another. By using sensitive information, we mean information dealing with IP, databases, proprietary software, marketing strategy, business model.
Private equity is the term and class used for investors, funds and companies that don’t want to show up in the public market exchange. All capital raised via private equity can be utilized afterwards in different ways, for instance, finance new innovative technologies, increase working capital to boost private company operations and profit.
Startup Accelerator Is an early-stage institution, that offers help and support in education, financing, and consultancy for startups. Accelerator’s performance and mentoring services for a specific startup has a specific duration, usually from 3 to 6 months and is a period that is a part of a cohort. Accelerators work on improving startup outcomes via intensive, deeply engaging, and accelerated education with professional assistance. Their main goal is to help young entrepreneurs and their innovative companies to obtain experience via learning-by-doing method
A term sheet is a nonbinding agreement, mostly associated with start-ups, which includes the basic terms and conditions under which an investment will be executed. Entrepreneurs find this document as being crucial for attracting investors, such as venture capitalists (VC) with capital to fund enterprises.
The most common items spelled out in the term sheet include the company valuation, investment amount, percentage stake, voting rights, liquidation preference, anti-dilutive provisions, and investor commitment.
A unicorn is a startup that is privately-owned and exceeds a valuation of $1 billion. Some of the most popular unicorns are based in the U.S. and they include home-sharing giant Airbnb, video game company Epic Games, as well as fintech companies Robinhood and SoFi.
There are around 900 unicorn startups in the entire world in 2022. These startups span a variety of industries and are valued at more than $3.5 trillion combined.
Venture capitalist (VC) is an investor, interested in private equity investments to startups that manifest a high growth ability in exchange for an equity stake. This could be funding start-up ventures or supporting small companies that wish to expand but do not have access and resources to equities markets. Venture capitalists are prepared to take a risk by investing in such companies because there is a big probability of earning a massive return on their investments if invested companies achieve success. However, VCs experience high rates of failure due to the uncertainty that is involved with new and unsterilized companies.
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