Entrepreneurship final

pro forma statement common mistakes:

1. Not understanding the revenue drivers, 2. Underestimating costs, 3. Underestimating time to generate revenue, 4. Lack of comparables, 5. Top-down versus bottom-up forecasting, 6. Underestimating time to secure financing

venture capital stats

1. Only 799 U.S. companies got VC funding in 2004, 2. You are more likely to get $1 million+ in a lottery than get VC funding, 3. VC funding goes to new ventures that have established their potential, especially in high tech sectors, 4. VC funding accelerates growth

IPO

1. Only about 10% of VC-backed ventures are able to go public, 2. IPO yields the biggest returns (where do billionaires come from?), 3. But might not be best for founders and management teams

Other Possible Debt Sources

1. Prepayments from customers: Common for large, complex projects & Defense contractors, builders, ship makers, etc., 2. Equipment financing, 3. SBA-guaranteed loans: For small companies that have been refused conventional loans from banks

profit vs cash flow

1. Profit is an accounting concept designed to measure the overall performance of the company., 2. Many financial transactions that do not enter into the calculation of profit do enter into cash flow., 3. Some transactions that enter into the determination of profit do not directly enter into cash flows.

venture capital

1. Rarest source of capital for nascent entrepreneurs, 2. Fewer than 1 in 10,000 new ventures get their initial financing from venture capitalists, 3. Informal investors provide far more capital to new ventures than VCs do, 4. Venture capital is generally used to accelerate the growth of new ventures rather than to create them, 5. Focused on knowledge-based industries, e.g., biotechnology, nanotechnology, IT, etc.

working capital in ARs

1. Sales pattern, Cash versus credit sales, 3. Credit policies, 4. Who gets credit?, 5. How much?, 6. Setting credit terms, 7.Collection policies, 8. Setting credit limits for individual accounts

bootstrapping sources

1. Services at reduced rates, 2. Vendor financing, 3. Customer financing, 4. Reduced rent from a landlord, 5. Incubators, 6. Leasing instead of buying, 7. Government programs, e.g. SBIR grants

cash flow statement

1. Shows when and how much financing you need, 2. Leave out financing assumptions until you see how much the cash flow statement indicates that you need, 3. This helps you decide how much outside financing you need: Too little cash shortage, Too much give up too much equity or have excessive interest expenses

Transition to Entrepreneurial Leadership

1. Start delegating responsibilities, 2. Prepare for the Control Barrier, 3. Develop top managers: Train (or fire) insiders who have company experience, Hire outsiders who have industry experience / special skills & Balance insiders and outsiders, 4. Use delegation to start decentralization, 5. Professionalize your board of directors, 6. Coordinate driving forces, 7. Preserve your entrepreneurial skills and your organization's entrepreneurial capabilities

build up method

1. Start with income statement and - more specifically - revenue projection, 2. Estimate revenue / unit of something, e.g., days: Revenue driver, Use multiple drivers, e.g., revenue by product type, 3. List your assumptions, 4. Compare results with: Primary market data & Secondary market data

Leverage Organizational Resources and Capabilities

1. Tap into sources of financial resources: Founders, family, friends, angels, VCs, etc., Strategic partners, Franchising, 2. Identify, secure, and leverage intangible resources: Hire more specialists & Integrate strategies and capabilities (Develop strategies to exploit existing capabilities & Craft new capabilities to support promising strategies)

Limitations from Former Employment

1. The entrepreneur's former employment may imposed several limitations on his or her freedom, 2. These are the result of: Agreements signed by entrepreneur and/or Laws, 3. Four key areas affected: The opportunity, Recruitment of fellow employees, Proprietary information, Noncompetition

Protection vs. Deterrence

1. There are two dimensions to secure your intellectual property: A. (Physically) protecting your IP from theft, B. Threatening those who might steal your IP, 2. Legal instruments are generally based solely on deterrence, but one is not. Which one?, 3. Protection does not work on IP that has to be disclosed to be used.

Market-comparable Valuation

1. Total Equity Valuation = NI x P/E, 2. Use P/E of a comparable public company in the same industry or an average from several similar companies, 3. Most common technique for: Companies seeking investment from professional investors such as venture capitalists and Companies that are going public

Provisional Patent Application

1. US uses "first to invent." Other countries use "first to file.", 2. Provisional patent application is intended to help the little guy: Cheaper / easier (no claims, etc.), Time to test invention, Provides an 'extra' year, 3. Must file for a patent within one year

IP and the internet

1. Uploading and downloading of copyrighted material on the internet can be copyright infringement, 2. Copyright infringement has also been found in some cases against bulletin board operators and administrators who have received and stored such material., 3. Domain names are taking on some of the characteristics of trademarks.

comparable method

1. Use comparable method to see how your estimates compare to industry averages and benchmark companies. Examples: ➡ Sales / square foot, ➡ Sales / customers, ➡ Margin% or COGS%, 2. Run scenario analysis: ➡ If sales / square foot is 50% lower, do we still earn a profit?

Present Value of Future Cash Flows

1. Uses Free Cash Flow - cash in excess of what a firm needs to maintain its optimal rate of growth. Operating income = - Interest - Taxes on Operating Income + Depreciation & Other Non-Cash Charges - Increase in Net Working Capital - Capital Expenditures (Replacement and Growth) - Principal Repayments

there are ______ kinds of patents but the two main kinds are _______

1. Utility Patent: covers the idea, underlying concept, or functionality. 2. Design Patent: Covers the appearance of a product

why is IP important to entrepreneurs

1. When they start a new venture, they generally have no other advantage than their IP - their business idea, 2. Investors prefer to invest in startups with secured IP.

D. Putting it Together

1. Write a 2 to 3 page explanation of your forecasts (to include in business plan), 2. Use the following 4 sections: A. Overview, B. Income Statement: Factors driving revenue, Cost categories, C. Cash Flow Statement: Major cash infusions and outlays, Inventory, receivables, payables, D. Balance Sheet: Asset categories, Ratios

earnings capitalization method

1. company value = net income/capitalization rate, 2. Which year's income to use?, 3. Works well when net income is steady and predictable, 4. Not so useful for valuing a company - like a startup - that has unpredictable income

Employees as Agents of the Company: liabilities

1. employees' relationships with third parties, 2. two types: contract and tort

corporate opportunity doctrine

1. identify the opportunity, 2. notify the company about it, 3. if the company doesn't use it then you can

stockholder and operating agreements

1. negotiating employment terms (duties and compensaiton), 2. disposition of equity interests (sale, death, or termination), 3. distribution of company profits (ownership, cut voting - same or different?), 4. redemption provisions (cash out procedure or protection)

List of Startup Costs and Use of Proceeds

1. start up costs: All costs incurred to get the business off the ground; Determine the capital needed, 2. Use of Proceeds: Determine what you will do with the capital once you get it

business angels

1. term comes from theater industry, 2. Angels fund 30-40x as many startups as formal VC, 3. Provide $20-$30 billion per year in US, 4. Invest early - seed and early-stage ventures, 5. Angel groups: Increasing but less common and May charge fee for presenting to them and even for submitting a business plan, 6. Getting investment from the right angel sends a powerful signal

trade secret

1."Knowledge that is kept secret, which may include business knowledge or technical knowledge, that is kept secret for the purpose of gaining an advantage in business over one's competitors." (i.e. Coke formula), 2. Does NOT require application or disclosure, 3. Does NOT exclude independent invention or involuntary disclosure., 4.• Can potentially last forever.

about ________ of VC backed ventures get to the IPO

10%

in terms of investors being limited partners; _______ of funds comes from _____. Balance is from ________________

50%; pension funds; endowments, foundations, insurance companies, banks, and individuals

balance sheet length

Annually for 5 years

Floating or blanket lien

Borrower pledges all inventory

CIMITYM stands for?

"Cash is more important than your mother."

duty of loyalty

"is normally adjusted by the law to reflect the individual's position within the business."

Average amount of external financing that entrepreneurs need

$18,678

Average amount of informal investment =

$24,202

figure 13.1

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slide 10 chapter 12

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GOGS%

1-Margin%

Trademarks and Servicemarks

1. "Any word, symbol, or combination thereof that is used on good (or service) to indicate their source.", 2. You obtain it by using it. No formal government procedure required, 3. But if you use it in interstate or foreign commerce, you can obtain federal registration that protect it in all 50 states, 4. You loose it if you don't use it for 3 year or if it becomes too descriptive (aspirin, cellophane, linoleum)

software protection

1. All manner of software could be protected by patent regardless of how it is perceived, and many patents have been issued on software., 2. Software specific to the operation of the computer itself is patentable., 3. All forms of computer programs could be protected by copyright, 4. Companies can also protect software through a trade secret approach.

Financing New Ventures

1. Average amount needed: $70,000, 2. Average portion self-financed: 70%, 3. Sequence of sources: Your own money (need skin in the game), Bootstrapping, Bank, Informal investors, Business Angels, and Venture Capitalists

start up capital

1. Average startup in the U.S. needs: $62,594, Entrepreneurs provide roughly 2/3 of this, 2. GEM average is $53,673, 3. Opportunity pull average is $58,673, 4. Necessity-push average is $24,467, 5. Average for men is $65,010, 6. Average for women is $33,20

IPO process

1. Beauty contest or bake-off, 2. Lead underwriter and syndicate, 3. Red herring, 4. Quiet period, 5. Road show, 6. First-day pop, 7. Money left on table / underpricing, 8. Holding period

non-competition

1. Because of the duty of loyalty, you cannot compete with your employer while you are working for it, 2. This duty ends with termination unless You signed a non-competition agreement (These vary by scope of operation, length of time, and geographic scope), 3. Laws vary by state, but Some refuse to enforce such agreements and Others will only enforce reasonable agreements.

Methods for Building Statements

1. Build-up method, 2. Comparable method: A. Build-up method B. Comparable Method C. Building Integrated Financial Statements D. Final Steps

costs to entrepreneurs

1. Capital invested in startup, 2.Opportunity cost of job income, 3. Foregone interest on invested capital, 4. Career penalties

Borrowing Against Inventory

1. Chattel or property mortgage, 2. Floating or blanket lien, 3. Field warehousing, 4. public warehousing

Sources for Comparison Data

1. Companies: Annual reports, Hoover's, Ratios, 2. Almanac of Business and Industrial Financial Ratios: Industry Norms and Key Business Ratios

choosing a name

1. Corporations, LLCs, LLPs, and LPs must file charters with the state, 2. As past of this process, the state will check whether the name is confusingly similar to a name already in use., 3. The state makes a judgment call as to what names could be confusing.

copyright

1. Covers "all manner of writings, and the term writings is very broadly interpreted.", 2. Covers books, pictures, films, software, etc., 3. Exclude exact copying but may exclude more general copying (theme), 4. No registration required, but registration allows for special damages to be collected, 5. "As a general rule, for works created after January 1, 1978, copyright protection lasts for the life of the author plus an additional 70 years. For an anonymous work, a pseudonymous work, or a work made for hire, the copyright endures for a term of 95 years from the year of its first publication or a term of 120 years from the year of its creation, whichever expires first."

income statement

1. Don't show revenue from the first day, 2. Costs will incurred before there is any revenue: Show expenses for 3 months before first revenue, 3. Incorporate seasonality into forecast, 4. Ramp up revenues appropriately: Must be consistent with your marketing plan and expenses

two types of tort

1. Employee: With scope of employment principal is liable & Outside scope of employment agent is liable, 2. Independent contractor: Nondelegable duty principal is liable & Delegable duty agent is liable

Legal and Taxes Issues In Hiring Employees

1. Employees as Agents of the Company, 2. Employment discrimination, 3. Other employment statues, 4. Employment agreements, 5. Equity sharing / stock options

estimating costs

1. Estimate margin (using comparisons), 2. GOGS%, 3. COGS, 4. Check results - be consistent, 5. Estimate Operating Expenses (SG&A), 6. Marketing expenses, 7. Salaries, 8. General administration, 9. Use good cost drivers to estimate Op. Expenses

two types of contract

1. Explicit or implied authority principal bound by contract, 2. No authority principal not bound by contract

factoring

1. Finance company (factor) buys ARs at discount, 2. Possible fees: Interest charge, Collection free, Credit checking charge, 3. With or without recourse (determines who eats a loss)

Stockholder and Operating Agreements

1. Founders and investors need a written agreement, 2. LLC - operating agreement., 3. Corporation - Stock Purchase Agreement, Charter Amendments, and Stockholders' Agreement., 4. Partnership or LP - Partnership Agreement.

types of cash flow

1. Free cash flow - the firm's cash flow from operations minus investments in capital expenditures that are required to maintain the company's competitiveness, 2. Pretax undedicated or "raider" cash flow - free cash flow plus tax and interest expenses

Microfinance and Microcredit example

1. Grameen Bank: Started by Muhammad Yunus in 1976, Access to credit as a human right, Average loan is 344 USD, Loan recover rate is almost 99%, 2. How do they achieve such a high recovery rate? Personal trust and social capital - not collateral

informal investors

1. Half of them want their money back within two years (more like a loan), 2. Be clear about risks - that could loose their entire investment, 3. It's hard to value a very new startup better to treat this investment as a loan and pay principal and interest in lump sum, 4. Sign a written loan agreement!

balance sheet

1. If selling on credit, record accounts receivable, 2. If buying equipment, land, a plant, or leasehold improvements, then list as asset and depreciation over time, 3. If you owe suppliers, record as accounts payable, 4. Don't plug retained earnings: Balance sheet must balance without plugging.

Expected Returns on Informal Investment

1. Informal investors expect a negative or zero return on half of their investments: Investing for love rather than money?, 2. But there is a big variation: 34% do not expect to receive any of their investment back, 5% expect to get 20x or more, 3. There is a big variation in payback time too: 74% expect payback of 2 years or less, 2% expect payback time of 20+ years

harvesting

1. Initial Public Offering (IPO) = A+ 2. Acquisition = B, 3. Buyback = C or D, 4. None of the above = F

Two securities offerings that do not have to be registered with government authorities

1. Intra-state offering exemption (public placement) and 2. Offering under $1,000,000 (private placement)

working capital inventory

1. Inventory ties up working capital: Costs of material and labor, Storage costs, Obsolesces / damage, 2. But carrying too little inventory can cost: Costs of frequent ordering, Loss of quantity discounts, Loss of customer goodwill and/or plant efficiency due to stock outs.

Financial Analysis Tools

1. List of startup costs and use of proceeds, 2. Forecast (Proforma) financial statements: Income statement, Balance sheet, Cash flow statement, 3. Breakeven analysis

SBA loans

1. Loans must be guaranteed with personal assets, 2. SBA helps small business get bank loans by guaranteeing them, 3. $50 million per day in 2004, 4. 25% of financing has to come from owner's equity, 5. Most of this money goes to existing small businesses rather than startups

pros and cons of acquisitions

1. Management can stay focused, 2. Founder /CEO may butt heads with new owners, 3. Acquirer might have deep pockets., 4. Acquisitions often deal cash faster than IPOs because of the holding period., 5. Getting cash instead of stock lowers incentives of founder and employees, 6. Top managers of the acquired venture may have to sign non-compete agreements, 7. Cultures may clash. Acquirer may replace managers in acquired venture, 8. Expenses and commissions are lower than for an IPO.

candidates for VC

1. Management team 2. Target market 3. Product / service 4. Competitive positioning 5. Financial returns 6. Business Plans

Internal vs. External Funds

1. Managers of established firms can obtain funds from both: Operations & External sources, 2. Entrepreneurs use personal funds first (have skin in the game) and then seek funds from other people (OPM)

short term bank loans

1. Maturity, 2. Interest rate, 3. Collateral, 4. Information required: How much, use, repayment, timing, 6. Restrictive covenants: General provisions, e.g., limitation on additional borrowing, Routine provisions, e.g., provide bank with regular financial statements, and Specific provisions, e.g., limit raises for management

asset based valuation

1. Modified (Adjusted) Book Value: Replacement Value, Liquidation Value, 2. Works well for established companies that are stable or growing slowly, 2. Assumes that accounting records accurately reflect the economic value of the assets and liabilities, 3. Is static because it ignores the future, especially future earnings.

Patent Cooperation Treaty (PCT) patent application -

can preserve your first to file in other countries for 20 or 30 months after you file US application.

A new venture will not survive long without _____

cash

low growth/high innovation is _________. High growth/low innovation is __________. and low growth/low innovation is _______. high/high is __________. All of the low categories receive __________

constrained; ambitious; economic core; glamorous; informal investments

internal sources of debt

credit cards & Home Equity Lines - HELOC

when choosing the right mix for short term financing you should consider __________

current and future costs of the alternatives

working capital requirements

current operating assets and current operating liabilities

Employees as Agents of the Company

duties and liabilities

Average entrepreneur who gets financing gets _____

enough

true/false there is an ideal type of angel

false

VCs are the _________. investors are the ___________

general partners; limited partners

when a patent is pending you are ________

granted no legal rights

The search for startup capital is a ________

haphazard process

when hiring an accountant you should __________

hire early and choose local

in terms of pro forma statements many entrepreneurs are _________

intimidated

key components of the cash conversion cycle

inventory cycle, accounts receivable cycle, and accounts payable cycle

growth can _____

kill

in terms of pro forma statements you should _________

know the numbers inside and out

European Patent Convention (EPC)

lets you file a single European application to several several European countries.

which owner is for which business? lifestyle? growth? family?

lifestyle-small business owner; growth-entrepreneur, family-small business owner or entrepreneur

Venture capitalists set up a _____________

limited partnership with a 10 year life.

net liquid balance

liquid financial assets and callable liabilities

net working capital

long term assets and long term liabilities (including equity)

Licensing and Technology Transfer

look them up in book

IP agreements

look up in book

Employees as Agents of the Company: Duties

loyalty, noncompetition, confidentiality, accountability

build control system

metrics to track everything, assessment of performance, accounts payable policies, inventory management system, accounts receivable and collections policies

grace period

must file application within one year of public disclosure (US only, with provisional patent)

The cash balance can never be _______

negative

managing working capital

net liquid balance + working capital requirements = net working capital

duration of patents

now 20 years (but application process usually takes 3 years)

when creating the income statement list ________

percentages

Borrowing Against ARs

pledging, pledging with notification, and factoring

________ is like food or water, but ______ is like oxygen.

profit; cash

the process of building an integrated financial statement is more important than the _______

projection

when Leaving Your Present Position be aware of _________-

recruitment of fellow workers, proprietary info (info that is protected), and non-competition ( you aren't allowed to compete with your former employer)

% of informal investors

relatives-50, friend/neighbor-28.5, work colleague-6.1, and stranger-9.4

because Startups often have little or no free cash flow, ___________ then determines PV

residual value

New ventures must develop financials from ___________

scratch

smallest source of outside funding __________? largest?

self funding; commercial paper

options for venture:

sell, maintain, grow

options for founder if you sell? maintain? grow

sell-stay with company, start new venture, seek other employment; maintain-become a manager, exit day to day management; grow-become an entrepreneurial leader, take alternative position in firm, exit day to day management

there has been a __________ in amount raised by IPOs for VC recently, receiving less than ____________

sharp decline; 10,000

sources of short term cash

short term bank loans, tightening up accounts receivable collections, seasonal business credit terms, trade credit, and negotiating with suppliers

when choosing an attorney they should be _________

specialized

classic venture capital goes to ________ who are in the highest growth and highest innovation of the _________ category

superstars; glamorous

returns to VCs correlates with

the performance of the IPO market

true/false If the startup fails, the entrepreneur may not be able to return to as strong of a career track as he or she had before becoming an entrepreneur.

true

types of formal investors

venture capitalists

Out of 10 investments, a successful VC gets __________

• 2 home runs, • 2 flops, • 3 walking wounded, and • 3 living dead

VC Firms' Take: Two Sources of Income:

• 2-3% of the principal per year as an annual fee • 20% of the capital gain after the limited partners have received their principal back.

methods for valuing a business

• Asset-based Valuation, • Earnings Capitalization Method,• Present Value of Future Cash Flows, • Market-comparable Valuation

pledging

• Borrow from bank or finance company • ARs as collateral, no notification

5 c's of credit

• Character, • Capacity, Capital, • Collateral, and • Conditions

What are the most important criteria to consider when selecting the legal form for your new venture?

• Control • Liability • Taxation • Administrative Obligations

types of angels

• Entrepreneurial Angels, • Corporate Angels, Professional Angels, • Enthusiastic Angels, • Micromanagement Angels

International Protections for Intellectual Property

• Have to file for patents in each country (or EU) • Most countries require filing before any public disclosure and use "first to file."

VC issues

• How much equity for X dollars? • Term sheets • Follow-On Rounds • Harvesting

who gets VC?

• Informal investment goes to all types of new ventures • VC goes to high growth, high innovation new ventures

review by patent examiner

• Novel? • Non-obvious? (to a person in the field) • Useful?

insurances

• Property insurance, • Liability insurance, • Key person life insurance, • Business interruption insurance, • Group life, disability, and health insurance for employees

U.S. dominance in venture capital

• US has almost 2/3 of total classic venture capital • Backed companies that changed the world

evaluating a VC

• Value Added? • Patience? • Deep Pockets? • Board of Directors? • Accessibility?

COGS

COGS% x Revenue

utility patent covers __________

Chemical inventions, • General/mechanical inventions, • Electrical inventions, • Computer software in various forms

intellectual property

Creations of the mind, such as inventions; literary and artistic works; and symbols, names, images, and designs used in commerce. Business intellectual property includes patents, trade secrets, trademarks, and copyrights

pledging with notification

Customer pays lender directly, notification required

in order to obtain a utility patent you must _______

File application with USPTO containing: • Drawings, • Description, • Claims

field warehousing

Finance company takes over and secures part of the borrower's warehouse

A more accurate name for pro forma statements is _________________

Forecast Financial Statements

integrated financial statements ___________

Forecast statements over time

types of informal investors

Founders, Family, Friends, Foolhardy investors, e.g., work colleagues and strangers (business angels)

who has the lowest VC% of GDP? Highest?

Greece; Sweden

_______ is the best outcome for VC

IPO

public warehousing

Inventory is sent to an independent warehouse

who has the lowest VC investment per company? highest?

Japan; U.S.

Chattel or property mortgage

Loan secured by specific assets

cash flow statement length

Monthly for 2 years, then annually for 3 more

income statement length

Monthly for 2 years, then annually for 3 more

limited partnership

One or more general partners, who conduct the business and take on personal risk, and one or more limited partners, who act as passive investors

sole proprietorship

Owned and operated by one owner who is in total contro

limited liability company

Owned by "members," who either manage the business themselves or appoint "managers" to run it for them

cost of a patent

Preparing and filing: $8,000 - $15,000 Prosecution: $4,000 - $6,000 For foreign patents: $5,000 - $10,000 per country just for filing fees

forecast financials

Project the financial condition of the new venture 1. Income Statement: Estimates profit and loss, its A flow measure, 2. Balance Sheet: Shows financial structure of the business, Allows investors to conduct ratio analysis, A stock measure

corporation

Separate legal entity, with legal existence apart from its owners, the stockholders

forecast financials pt 2

Statement of Cash Flows: Used to manage a venture's cash, Shows whether a venture will be able to pay, its bills and maintain solvency, Is a flow measure

Why do we have laws to protect intellectual property (IP)?

To give individuals and organizations an incentive to innovate and to create valuable intellectual property.

preliminary income statement

Total Revenue (less) Total COGS (=) Gross Profit (less) Total Operating Expenses (=) Earnings from Operations (less) Interest Expenses and Taxes (=) Net Income or Earnings

partnership

Two or more persons go into business for profit, as coowners, sharing profits and losses

cash conversion cycle

average inventory collection period + average receivables processing period - average payables period