Thread by @ayonzontop, Hello folks...Welcome to the folk talk.We would be talking on Startup funding. [...]

Hello folks...

Welcome to the folk talk.

We would be talking on Startup funding.

This post is for budding entrepreneurs, founders and investors who want to get familiar with investment lingo to avoid being ripped off during fundings or buyouts.

You would get a clearer view of the nitty-gritty around terms like Seed capital, Valuation, Series-( A, B, C, D), Pre-money, Post-money, Venture Capitalist (VC), Private Equity (PE), Angel Investors, Preferred & Common stocks, Stock Dilution, Buyouts and IPO.

You are a Startup who offers products/services to customers, you have incorporated your company and already making sales.
Your business is increasing, more people are asking for your product or service, you need to scale up production and employ more people. You need money.

"How do I go about this", you ask yourself. You are a small business that is barely 6 months.
The first approach is friends, family or crowdfunding because it is difficult to find an investor that would put money in a business at such an early stage.

You are lucky, you get a friend's friend to invest in your business. This is called Seed Capital. This initial investment at the start of the business. It is risky for the investor because it is an upcoming business but the rewards are high as well.

So you run with the seed capital, meeting customer demands & supply, also paying salaries.

Your business becomes a year old, its generating revenue and looking promising. You feel its time to move to the next level by capturing a larger share of the market, you need more money.

Now you enter a more structured form of investment. The Series. The Series are different levels - A, B, C, D - of investments where VC, PE & Angel Investors put money into businesses in exchange for shares. I would be using equity, shares and stocks interchangeably.

Venture capitalist(VC) are firms who collect money from people/organization, usually from wealthy investors, investment banks, and any other financial institutions to invest in viable businesses that would generate returns
while...

Private Equities are usually a group of individuals or corporates are who also invest in businesses in exchange for share/equity or completely buyout a business. VC & PE are very similar in operation except PE tend to buy more equity and they deal more with matured businesses.

Angel investor are individuals who set out to invest in upcoming businesses. These are usually high net-worth individuals looking to diversify their portfolio.

Series A is the first round of investment, the usually occurs about a year after starting up the business or

if the business has shown its self to be mature and have potential. Then after another year period when it requires more funding it begins Series B round of funding and it goes on like that to series D.

So back to you, your business has potential and it's looking for more money to expand, it goes into the Series A round of funding.
Here, discussions of about your Valuation starts coming up. Valuation is the perceived worth of your business. i.e value of your business in numbers.

This is figure generated by taking into consideration your assets, revenue, profit margins, future earnings as well as risk and other metrics. There are people who professionally compute valuations for businesses.

The worth of your business just before the Series A funding...

...is known as Pre-money valuation while the worth of your business after the Series A funding is known as Post money valuation (i.e Pre-money + Series A funding=Post-money).
It is advisable for businesses to use Post-money when discussing value and amt of shares with investors

Now during the series A, a couple of VC & PE put money into your business, they want shares/stocks of your company. The amount of shares each gets is determined by their investments divided by the post-money valuation (i.e series A investments/Post money valuation).

An investor that invested $40M in a business worth 100M in post valuation would get 40% worth of stocks but this kind of stocks is different from the usual the company issues, it is called Preferred stocks.

What are Preferred stocks? Let's assume an investor has invested into a business and he/she is given a certain amount of Preferred shares. When the business decides to sell to a bigger company or a buyout and shareholders want to liquidate their stock (i.e convert to cash )

the holders with preferred stock are first compensated before those with common stocks. if the investors own 40% worth Preferred shares for which they paid $40M and the founders own 60% Common stocks, assume the buyout was $50M (which is small, maybe business was doing poorly)

the investor would first be paid their $40M in full for the 40% because they own Preferred stock, regardless of how much is left. The founders who own Common stocks would share the remaining 10M. This way investors secure their money in the event of an unfavourable outcome.

Now after issuing shares to investors, the value of your own shares and that of the first investor needs to be re-calibrated, this is what you call Stock dilution.
Before series A investment, you own 100% of the shares of your company, now with investors, you now own 60%.

This reduction in ownership of shares or dilution has to reflect in the value of the shares. Assuming the 100% of the shares was worth 100M (i.e pre-money valuation) and investor gives 40M for 40%, now your company is worth total of 140M for the 100% (Post-Money valuation),

your company has increased in value however you don't own all the 100%, you own 60% now which is worth 84M, but note you also have an extra 40M the investor gave you, with that you can expand your business, pay salaries and get more assets.

With time, the value of your business increases, so in the next valuation your business might be worth 200M, and the value that your 60% would have increased to 168M or if you slept on the business and spent all the 40M the investor gave you lavishly,

your business would be valued less and your 60% would drop drastically.
So this is a high-level view of how stock dilution works. I would put a link to a video below that summarizes what I have been talking about.

Now you have the grown business, you are making money and it is profitable but you are tired of the stress from running the business. You want to exit.
There are two ways to exit, either through a buyout or an IPO (Initial Public Offering).

As mentioned earlier, a buyout is when a bigger company comes to buy your company basically. We have seen cases of this, Facebook buying Instagram, Whatsapp and Giphy, Amazon buying Whole Foods.

Here investor have a choice of either cashing out after the sale or exchange their shares for shares in the bigger company while for the founders, most times, they are retained by the bigger company and their shares are exchange for a shares in the bigger company.

This is usually done to keep the founders on board to continue running the acquired company for a period of time.

Founders can also take the approach of listing on a stock exchange' i.e through an IPO (. Different countries have their own stock exchange.

This is platform through which companies can seek funding from the general public. People can buy and sell your stock at will. The price of stock can also rise rapidly or fall drastically depending on market sentiments.

With IPOs, your 60% value in stock can rise to as high as 500M depending on how valuable and profitable your company is seen to be.

See a link to explanatory vid to solidify your understanding. https://twitter.com/ayonzontop/status/1278125303953571841?s=20

https://twitter.com/ayonzontop/status/1278125303953571841?s=20

So guys, that is a summarized introduction into Funding and Investments.
Hope it was informative and easy to understand.
Follow for more.

Cheers!

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