E145/STS173E145/STS173

Workshop CWorkshop CStaged Venture FinancingStaged Venture Financing

Professor Tom ByersStanford University

Special Thanks to Scott Bowie and Mike Rosenbluth

Copyright © 2004 by the Board of Trustees of the Leland Stanford Junior University and Stanford Technology Ventures Program (STVP). This document may be

reproduced for educational purposes only.

AgendaAgenda

1. Valuing public companies (Ratios)

2. Dilution + Growth: The exploding pie

3. Chemdex financing

Ratios & Valuing Public Companies TodayRatios & Valuing Public Companies Today

• Market Cap = # shares outstanding x Share price– Answers “what does the market think the company is worth?”

• Ratios– EPS = Earnings per share

• An indicator of value created for shareholders – P/E = Market Cap / Annual Earnings or Stock Price / EPS

• How much does $1 of earnings cost an investor? – P/S = Market Cap / Annual Sales

• Similar companies facing similar risks should have similar ratios

Metrics in ActionMetrics in Action

Market Cap

Net Income: $10 M

P/E: 30

$300 M

Share Price: $15

# Shares: 20 M

$300 M

Sales: $100 M

P/S: 3

$300 M

A Sampling of Public CompaniesA Sampling of Public CompaniesStock Price

($/share) Market Cap

($B)EPS

($/share)P/E P/S

Ebay 66.93 43.24 0.68 98.43 Microsoft 47.32 253.2 1.74 27.91 8.44Walmart 47.15 208.1 1.73 27.79 0.88Coca Cola 40.33 99.983 1.68 23.9 4.62Sony 39.39 36.229 1.885 21.22 0.57GE 23.05 229.4 1.51 15.66 1.79Yahoo! 17.75 10.488 0.18 99.83 11.14Palm 14.81 430.6M -9.57 0.46Gap 14.7 12.993 0.22 66.86 0.94Alkermes 7.35 475.8 M -2.39 11.3Sun 3.11 9.687 -0.74 0.82Handspring 0.79 114.4M -0.46 0.56BioTransplant 0.319 8.1M -1.89 4.81

Metrics CalculationMetrics Calculation

Sales: $100 MNet Income: $10 MShares Outstanding: 20 MStock Price: $15

Public Company Info:(must be filed with SEC)

EPS:P/E:P/S:Market Cap:

We can calculate:

Metrics CalculationMetrics Calculation

Sales: $100 MNet Income: $10 MShares Outstanding: 20 MStock Price: $15

Public Company Info:(must be filed with SEC)

EPS: $0.50P/E: 30P/S: 3Market Cap: 300

We can calculate:

The Venture Financing GameThe Venture Financing Game

Kaplan’s StartupGame:

A race against time to create value and

reduce risk

(1) Founding:An entrepreneur begins with a vision and shares of stock in the new venture.

Entrepreneur trades stock for ideas, money, and people

(2) Seed Stage:•Venture capitalists provide money in return for stock

•Employees join via friends & associates in return for cash salary and stock options

•Ideas become intellectual property which represents the initial value in the company

Further growth is delayed until milestones are

reached and risk of failure is reduced

(3) Growth Stage:More money, ideas, and people are

obtained, but for much less stock than in the earlier stage due to lower risk

Company balances earning cash, taking investment, and spending cash to create value

(4) Exit Stage:•Company files for IPO•Entrepreneur, investors, and employees can cash in stock for money •A viable public company has been created•Each party continues to build the company, retires, or starts the game again

Value has been successfully created.

Reference: Start-Up by Jerry Kaplan

The Exploding PieThe Exploding Pie

• The smaller slice of the bigger pie– Goal: Trade shares to grow the pie– Is more fun and rewarding for most entrepreneurs– Is worth more than the whole pie that never grows– Requires high growth rates– Is not easy to achieve, even with lots of financing– Requires a good relationship between entrepreneur and investors

A Real Life Example: Chemdex*A Real Life Example: Chemdex*

• How much money do the founders need?

• How long until significant revenue?

• How long until profitability?

• What’s the going rate for 1st round deals?

Valuation is an art, not a science.

*Chemdex is now called NexPrise (NXPS)

Chemdex in 1997: Series AChemdex in 1997: Series A

1. How much does the company need to raise?

Series ASeries A

2. Negotiate a pre-money valuationpost $ = pre $ + amount raised = $2.7 M + $1.9 M

% of company sold = amount raised / post $ valuation = $1.9 M / $4.6 M

Series ASeries A

3. Determine share price and total number of shares

In Round A, share price is set so total shares = 5-10 million

Total Shares = post $ / share price = $4.6 M / $0.54 = 8.5 M shares

Series BSeries B

1. How much does the company need to raise?

Series BSeries B2. Negotiate a pre-money valuation

post $ = pre $ + amount raised = $11 M + $13 M

% of company sold = amount raised / post $ valuation = $13 M / $24 M

Series BSeries B

3. Determine new share price

Share price = (pre-money valuation) / (total pre-money shares)

= $11M / 8.5 M

4. Determine total number of sharesTotal Shares = pre $ shares + amount raised / share price

= 8.5 M + $13 M / $1.29

Series BSeries B

Chemdex - Series CChemdex - Series C

3. Determine new share price

4. Calculate total number of shares

1. Decide how much you need to raise

2. Negotiate a valuation

Chemdex FinancingChemdex Financing

Calculating DilutionCalculating DilutionPercentage owned = owned shares / total shares

Founders’ shares = 59% of 8.5M = 5.02M shares

Series B Dilution: 5.02M / 18.6M = 27%

Series C Dilution: 5.02M / 24.2M = 21%

IPO Dilution: 5.02M / 31.8M = 16%

Chemdex and DilutionChemdex and Dilution

Lessons LearnedLessons Learned

• Know what public company metrics mean

• Most financings done in multiple rounds

• A smaller piece of a big pie is better than a big piece of a small pie

• Know how to work out multiple stage financings