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Raising Capital in 2010 or Beg, Borrow and Steal 403 @ the School of Hard Knocks also called Why I hate the word “fun PowerPoint Presentation
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Raising Capital in 2010 or Beg, Borrow and Steal 403 @ the School of Hard Knocks also called Why I hate the word “funding”. Getting the Terminology Right. “ Funding ” is what research a project consumes It is a matter of academic curiosity “ Capital ” is what entrepreneurs need and create

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Raising Capital in 2010orBeg, Borrow and Steal 403@ the School of Hard Knocksalso called Why I hate the word “funding”

getting the terminology right
Getting the Terminology Right
  • “Funding” is what research a project consumes
    • It is a matter of academic curiosity
  • “Capital” is what entrepreneurs need and create
    • It is a matter of business and wealth creation
  • “Cash” is what keeps the enterprise alive
    • It is a matter of life and death
getting the thinking right
Getting the Thinking Right
  • “Debt” is not the same as “Equity”
  • “Expenses” are not the same as “Cash Flow”
  • A key programming language: “Accounting”
what s up with venture capital
What’s up with Venture Capital?

The V in VC = Vanishing

getting to angels
Getting To Angels
  • It’s about “Math” not “Prayers”
  • The technical term is “Win-some, Lose some”
  • “Rule of 2-6-2”: Out of every 10 investments
    • 2 die completely
    • 6 are the undead... Zombies... Cash never exits
    • 2 generate all of our returns
  • Every entrepreneur thinks they are in the right 2
angels time value of money
Angels: Time Value of Money

Investors have CHOICES about where to put their money

Assuming average Time to Exit of 5 years, what are our alternatives?

Portfolio MultipleEquivalent Investment Strategy

1x = (1+0%)5 Hoard Cash

1.5x =(1+8%) 5 Secured Debt

2.0x =(1+15%)5 Unsecured Debt

3.0x =(1+25%)5 Pay day loans

4.5x =(1+35%) 5 Other Startups Like You

the basic math
The Basic Math

4.5X

22.5 X

Our Expectations = 4.5X

35% Per Year Rate of Return

Your Promise = 22.5 X

1.0X

Dead

Zombies

1X

Live

Year 0

Year 1

Year 2

Year 3

Year 4

Year 5

entrepreneur math
Entrepreneur Math

Average angel deal looking at 20 X exit, so...

  • IF
    • I want to keep control of my company (66%)
  • THEN
    • 33% of my company needs to be worth > 20X the investment
    • So 100% needs to be worth > 60X the investment!!
  • 80% of companies bought by Google were purchased for less than 100 M$

Angels will do this math, even if you don’t

Corollary: Why are you better than average?

to close an angel
To Close an Angel
  • Show that our risk is lower than typical
    • Better than 20% chance of being in the right 20%
    • (we won’t believe you, but you get extra points for trying)
    • Or at least demonstrate that you are keenly aware of risks
  • Explain how their exit will be much sooner
    • Shrink that exponential function, exponentially
  • Prove that you understand basic business
    • Demonstrate a focus on making money for them
    • Demonstrate knowledge that business is about choices
    • Connect the dots from cool technology to wealth creation

A good business opportunity will attract investors

friends and family aren t like that
Friends and Family Aren’t Like That
  • They want you to succeed more than they want to make money
  • Or maybe they just aren’t any good at math

Really, they are buying into YOU...

Corollary: If they won’t, who will?

you the most important investor
YOU: the most important investor
  • “Skin in the Game”... yours first
    • If you don’t believe, then I won’t either
  • “Appetite for Risk”... if you don’t have the stomach, don’t sit at the table
  • “Risk” and “Reward” enjoy a Karmic balance
banks
Banks
  • Banks only provide you cash for the capital you already have
  • They convert “Assets” to “Cash Flow” and vice versa
  • They don’t share your passion or care about your ideals
  • Banks *ONLY* care about the math

Banks are NOT sources of capital

financing
Financing
  • Easiest: Product with Gross Margin of 80%
    • Customer pays 20% in advance
    • This is the basis for “just pay S&H” (includes product cost)
  • Purchase Order Financing, or “factoring” in lingua banka
    • Unconditional Purchase order is financeable on *THEIR* credit rating
    • Conditional purchase order is financeable on YOUR ability to convince your investors you can meet the conditions
  • Services business can be SRED financed
    • Especially if US sourced revenue
edc export development canada
EDC: Export Development Canada
  • “Export Express Credit”
    • $50,000 unsecured loan, repayable over 2 years
  • “Export Guarantee”
    • Provide guarantees to your bank (so your bank will give you more credit)
  • “Supplier Financing”
    • Purchase your foreign receivables
government
Government
  • It takes work... But in most cases you don’t have to pay it back
  • SR&ED Tax Credits
  • IRAP
  • OCE
  • Regional Development Incentives
sr ed oitc
SR&ED & OITC
  • Know this program inside and out
  • Simplistic: ~ 40% of 160% of eligible expenditures
    • There are lots of rules, but they are clear and easy to follow
  • You need to actually make the expenditures
    • You must maintain appropriate records, evidence
    • Expect to be audited – better safe than sorry
  • Note: expenditures and cash flow are not the same thing
slide17
IRAP
  • Most useful program is “Contribution” agreement
    • IRAP pays for R&D Salaries (about 60% of project)
    • Company pays for overheads (about 40%)
  • You pay your costs, IRAP reimburses a portion, about 60 days AFTER you spend it and send in proof
  • BUT, it can be difficult for many entrepreneurs
    • It is a finite resource, heavily over-subscribed
    • Requires a disciplined business management approach
    • Need to learn how to speak IRAP
  • Great program, Fantastic people, Really trying to help
    • But they are over-worked
  • Also provide other useful programs
    • Market research, mentorship, academic-industrial partnering...
regional initiatives
Regional Initiatives
  • OCRI
    • Strong and active entrepreneurship program
    • Sponsors Lead To Win
    • Various events
    • Referrals to Provincial programs (OCE, MARS...)
  • Grass Roots Initiatives
    • The Ottawa Network, DemoCamp, TeamCamp...

The Good news: Opportunity Cost trending to  $0

employees
Employees
  • Slavery was outlawed long ago, but...

... Sweat Equity is part of the package

  • Innovative “on spec” or “rev-share” deals
  • Directors, Executives and Officers are Special
  • But... Get appropriate legal advice
suppliers
Suppliers
  • Take As Long As Possible to Pay
  • They often have more patience than you think
    • If you succeed, you’ll buy more
    • It’s in their interest that you survive
  • Cash is our most precious resource
    • Count cash in terms of Door-Open-Days
customers
Customers
  • The only source of capital you don’t eventually have to pay back
  • Customers are the folks who pay you
    • Avoid Whiners (won’t pay)
    • Differentiate from Users (don’t pay)
  • If you can’t find at least one Customer willing to put it in writing, you have to wonder if any exist at all
summary sources of capital
Summary: Sources of Capital
  • Venture Capital
  • Angel Capital
  • Friends and Family
  • Banks
  • Government
  • Employees
  • Suppliers
  • Customers
financial engineering
Financial Engineering
  • A few illustrations in the art of the possible
    • Makes many simplifying assumptions
    • Get professional advice (legal, accounting)
  • Start with the typical Founder Scenario
    • Work for a year from your kitchen for no salary
    • 1 year later... What do you have?
a tale of two founders
A Tale of Two Founders

A: Works for a year “for free”

B: Personally Begs, Borrows or Steals $100,000

    • Lends it to their company
    • Company uses this stash of cash to pay B a salary+benefits of $100,000
    • Company pays source deductions of about $35,000
      • (B takes home about $65,000 after tax, which gets returned to whence it came)
    • Company eventually receives SRED Tax Credit of $43,000
      • (company repays B $43,000 of the $100,000 loan principal, which also goes back to whence it came)
  • When The Dust Settles, both A and B have 0 net cash, but
    • Founder B shows a $57,000 loan to the company (skin in the game!!)
      • which can be offset against future income, tax free even if the company fails
    • Founder B has EI, CPP benefits
    • Founder B isn’t “unemployed” to the rest of the world

Your Mileage May Vary, Some Restrictions Apply

three founders irap sred
Three Founders, IRAP+SRED

C: Approved for $100,000 IRAP program and begs, borrows or steals $100,000

    • Lends it to their company (showing IRAP sufficient cash to execute the program)
    • Company pays salary+benefits of $100,000
    • Company pays source deductions of about $35,000
      • (C takes home about $65,000, which gets returned to whence it came)
    • Along the way, IRAP pays the company $60,000
      • (company repays C $60K of the $100K oan, $35K goes to retire the loan, leaving $25K free cash)
    • Eventually receive SRED Tax Credit of about $16K (SRED is reduced by contributions etc.)
      • (company repays C another $16K of the loan principal, total $41K free cash)
  • When The Dust Settles, C has net $41K after-tax cash
    • (equivalent to 60K/year salary)
    • Founder C also holds a $24,000 loan to the company which can be offset against future income, tax free even if the company fails
    • Founder C has EI, CPP benefits
    • Founder C is employed at a better rate than flipping burgers
  • Again, Your Mileage May Vary, Some Restrictions Apply

Put it All Together with an Angel Investment

irap sred angel bank
IRAP & SRED & Angel & Bank

D: Approved for $100K IRAP program, $30K Equity from Angel, $70K Personally Secured Bank Loan

    • Company starts with 100K in bank
    • Company pays salary+benefits of $100K
    • Company pays source deductions of about $35K
      • (D takes home about $65,000)
    • Along the way, IRAP pays the company $60,000
      • (company repays bank $60,000 of the $70,000 loan)
    • Eventually receive SRED Tax Credit of about $16,000 (SRED is reduced by contributions etc.)
      • company repays bank remaining $10,000 of the loan principal
      • company has $6,000 left over, but it will also owe some interest
  • When The Dust Settles, D has taken home a good salary, AND
    • Angel investor gets $100K worth of work done for $30K investment
    • Company has established a good credit rating

Add revenue, and even a break-even business is profitable