Understanding How Venture Capital Works | Kirsten Leute and John Lee | Lunch & Learn
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Osage University Partners is a venture capital firm managing a fund with $315 million in assets, focused on investing in startups from 93 partner institutions, offering profit sharing and network benefits to those institutions. The presentation highlights the importance of creating compelling fundraising pitches, understanding venture capital economics, and the significance of equity allocation among founders and investors for startup success. Additionally, it outlines the various factors impacting venture capital funding success, as well as guidelines for pitching to potential investors.
Understanding How Venture Capital Works | Kirsten Leute and John Lee | Lunch & Learn
- 1. CONFIDENTIAL & PROPRIETARY UNIVERSITY INNOVATION, REALIZED. VENTURE CAPITAL AND FOUNDERS’ EQUITY 101 JOHN LEE, PRINCIPAL KIRSTEN LEUTE, SVP OF UNIVERSITY RELATIONS OSAGE UNIVERSITY PARTNERS
- 2. Osage University Partners Proprietary Information 2 TODAY’S PRESENTER John Lee, Principal, Osage University Partners Previously •- Associate, Lux Capital •- Manager, Mahindra & Mahindra •- B.S. from Cornell University
- 3. Osage University Partners Proprietary Information 3 TODAY’S PRESENTER Kirsten Leute Senior Vice President of University Relations, Osage University Partners Previously •- Associate Director, Office of Technology Licensing at Stanford University •- Board of Trustees, AUTM (2 terms) •- Board Member, WiLBA •- Santa Clara University, M.B.A. •- Wellesley College, B.A. •- Patent Agent
- 4. OUP OVERVIEW
- 5. Osage University Partners Proprietary Information 5 • Venture fund $315 AUM • Invests exclusively in startups from 93 partner institutions • Institutions share in fund profit and enjoy network benefits and programs • Fund I -- $100 M, 39 investments • Fund II -- $215 M, 47 investments to date, 90% invested and reserved • Fund III – targeting $250 M OSAGE UNIVERSITY PARTNERS (OUP) OVERVIEW
- 6. Osage University Partners Proprietary Information 6 OUP I & II COMBINED PORTFOLIO TECH ACTIVE PORTFOLIO IT / SOFTWARE LIFE SCIENCES ACTIVE PORTFOLIO THERAPEUTICS HARDWARE, MATERIALS, SEMI & ENERGY EXITS DEVICES & DIAGNOSTICS
- 7. Osage University Partners Proprietary Information 7 OUP INVESTS AT ALL STAGES Exits Seed 1st Round 2nd Round 3rd Round 4th Round +
- 8. Osage University Partners Proprietary Information 8 TOP TIER VCS AND CORPORATE CO-INVESTORS
- 9. Osage University Partners Proprietary Information 9 EUREKA! FINALLY! WE DID IT! YEA! WE’RE GONNA BE FAMOUS AND RICH!
- 10. Osage University Partners Proprietary Information 10 GREAT, BUT…IT’S JUST THE BEGINNING… Beware – it’s a long, long tough road with many unforeseen obstacles. • Create a clear, concise, and compelling fund raising “pitch” • Value company and raise money thoughtfully • Use capital efficiently • Focus on lead product
- 11. Osage University Partners Proprietary Information 11 UNIVERSITIES LAUNCH HIGH QUALITY STARTUPS 360 460 450 553 555 595 596 651 671 705 818 914 1012 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015
- 13. Osage University Partners Proprietary Information 13 VC FUND ORGANIZATION BASICS GENERAL PARTNERS Insurance Company Endowment PensionFund FamilyOffices HighNet WorthInd. LIMITED PARTNERS VENTURE CAPITAL FUND VENTUREFUNDSTRUCTURE GENERAL PARTNERS (GPs) • GPs = “Venture Capitalists” • GPs raise and manage funds • GPs are assisted by Principals, VCs, Associates, and Analysts who do the ‘heavy lifting’ VENTURE CAPITAL FUND • LPs invest based on GPs’ track record, investment strategy, expertise and track record LIMITED PARTNERS (LPs) • Capital “called” as needed • Typical LPs are insurance Companies, Endowments, Pensions, and High Net Worth Individuals • 5-10% of LP portfolio assets to private equity
- 14. Osage University Partners Proprietary Information 14 VC COMPENSATION - ECONOMICS VC FUND 2 – 2.5% per year 20/80 SPLIT OF PROFITS MANAGEMENT FEES • GPs call 2-2.5% of fund amount annually • MANAGEMENT FEES are used for fund administration (salaries, operations, and everything else) CARRIED INTEREST • LPs receive all returns (profits from exits) until 100% of committed capital, plus interest (often 6-8%), is earned • Thereafter, 80/20% profit split • GP’s 20% is called “Carried Interest” or “carry”
- 15. Osage University Partners Proprietary Information 15 FUND LIFE AND LIFE CYCLE FUND LIFE • 10 plus 2 • 4 year investment period INVESTMENTS • Reserve $2-3 for every $1 they invest for future rounds SUBSEQUENT FUNDS • New funds are launched once 80% of capital is committed and reserved • Subsequent funds provide additional management fees and potential for additional carried interest
- 16. Osage University Partners Proprietary Information 16 WHAT % OF COMPANIES SEEKING VC FUNDING ARE SUCCESSFUL? https://www.fundable.com/learn/resources/infographics/startup-funding-infographic Likelihood of Receiving VC Funding Entrepreneurs seeking VC Entrepreneurs VC-funded 1-2% YES 98-99% NO
- 17. Osage University Partners Proprietary Information 17 ACTUAL OUP DEAL FLOW ANNUALIZED Deals Considered Call/Meet Company Management Review Opportunity with GPs Conduct Due Diligence Fund Company Source: “How Do Venture Capitalists Make Decisions?” 2000 500 250 125 15
- 18. WHAT IS ARE THE MOST IMPORTANT VC DUE DILIGENCE CONSIDERATION FACTORS?
- 19. Osage University Partners Proprietary Information 19 VC DUE DILIGENCE FACTORS CEO and Management Team Market Opportunity Technology Data Competition IP Capital Structure, Valuation and Exit Analysis
- 20. Osage University Partners Proprietary Information 20 • Historical common perception: 1/3, 1/3, 1/3 • Recent analyses – -65-75% fail / lose investors’ money do not produce expected returns – 11% go public (IPO) – 25% M&A (different valuations) SUCCESSFUL COMMERCIALIZATION POST-VC (1) Gage (2012) (2) Gompers (2016) TBD IPO Fail 75% Venture backed companies fail IPO TBD 65-75% 11% M&A
- 22. Osage University Partners Proprietary Information 22 Angels and VCs receive many pitches • Make your initial interaction -- verbal, PPT, narrative – clear, concise and compelling VCs triage new opportunities quickly to identify the most potentially attractive one (getting to “no”) • Deals of interest will move to a more engaging level THE CLICHÉ IS TRUE – YOU ONLY GET ONE CHANCE TO MAKE A FIRST IMPRESSION
- 23. Osage University Partners Proprietary Information 23 PITCHING GUIDELINES Don’t Cold Call Pre-empt any ‘killer’ questions Make slides visually interesting; use text sparingly Be clear, concise, compelling When you do not know an answer, say so Do not hide anything substantive; it won’t stay hidden for long
- 24. ELEMENTS OF A GREAT PITCH DECK Competition and Barriers to Entry (1-2 slides) • Academic and corporate researchers are working on the problem and status • Why/how will the product create a monopoly? • What’s your competitive (unfair) advantage Financing Strategy (1 slide) • Requested funds and expected progress • Financing history – grants, FFF, angels • Value inflection point with funding Summary and Vision (1 slide) • What will the company be in 5/10 years? 5 6 7 Introduction – Problem and Solution -- (1 slide) • GRAB ATTENTION Leadership (1-2 slides) • Background of executives, founders and advisors, including prior product development and commercialization successes • Be specific – numbers matter • Identify specific new hires contemplated Technology / Product / Data (3-10) • Experimental results prompting the “eureka” moment • SEEING IS BELIEVING!!! • Exactly where you are at in the product/service development process • Next steps in the program once you secure financing • ADDRESS KILLER QUESTIONS 1 2 3 4 Operational Plan / Milestones (1-2 slides) • Next steps in the R&D process, timeline for deliverables and future steps 5 6 7 8 Market Opportunity (2-3 slides) • Scope and scale of problem you’re solving • Don’t confuse market size, addressable market and revenues being generated by existing solutions
- 25. WHAT IS THE MOST IMPORTANT FACTOR FOR A VC INVESTMENT DECISION AND EVENTUAL SUCCESS OR FAILURE OF AN ENTERPRISE?
- 26. Osage University Partners Proprietary Information 26 MOST IMPORTANT FACTORS 0 10 20 30 40 50 60 Team Product Business model Market Fit Industry Valuation Ability to add value All Early Stage IT Healthcare Source: “How Do Venture Capitalists Make Decisions?”
- 28. Osage University Partners Proprietary Information 28 MOST FOUNDERS THINK THIS WILL HAPPEN… $0.0 $5.0 $10.0 $15.0 $20.0 $25.0 $30.0 $35.0 $40.0 2008 2009 2010 2011 2012 2013 2014 $Bn Zuckerberg's Net Worth
- 29. Osage University Partners Proprietary Information 29 BUT NOT THIS
- 30. Osage University Partners Proprietary Information 30 CONSEQUENCES OF POOR EQUITY ALLOCATION Parasitic Founders • Once equity is granted, it cannot be taken back • This can result in founders that are no longer incentivized to offer value to a startup and sit along for the ride on the cap table Lack of Equity for Compensation • Once options have been issued out, the company must expand their option pool to compensate future employees • Each subsequent expansion of an option pool dilutes existing shareholders Recapitalization • To remove a shareholder, sometimes companies go through a recapitalization • These are highly challenging for investors, who will typically pass on a deal rather than deal with cleaning up a capitalization table (Un)Incentivized Employees • Where there is not enough equity options to compensate existing and new employees, it can lead to low moral or employee exodus
- 31. Osage University Partners Proprietary Information 31 SAME CONSEQUENCES APPLY FOR BAD INVESTORS Bad Venture Investors can sometimes mean: • Parasitic investors • Lack of equity for compensation • Recapitalization • Poor culture around board meetings • Obstructive behavior
- 32. Osage University Partners Proprietary Information 32 SCENARIO: TYPICAL OWNERSHIP THROUGH ROUNDS 40.0% 29.0% 19.7% 15.6% 11.3% 40.0% 29.0% 19.7% 15.6% 11.3% 20.0% 14.5% 20.0% 20.0% 20.0% 0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% Founding Series A Series B Series C Series D Series Ownership by Round Option Pool Series D Lead - VC Series A Lead - VC Co-Founders/Employees Lead Founder/CEO • The average successful startup raises $41M across 4 rounds of financing, exiting around $240M • Most lead founders exit with around 11% ownership of their companies • Substantial dilution every round from refreshing the option pool and new capital for salaries
- 33. Osage University Partners Proprietary Information 33 INITIAL FOUNDER SPLIT 40.0% 40.0% 20.0% Example Initial Cap Table Lead Founder/CEO Co-Founders/Employees Option Pool • Initial CEOs/Lead Founders typically get the largest chunk of ownership • These Founders are day-to-day • Initial Equity ranges from 30-60% of the company • Co-Founders and key employees includes founding scientists, C-level execs, VP, and any initial employee • Investors will typically like to see an initial team in place before investing in a company • Initial option pools are set up to incentivize new hires • A company typically refreshes their option pool at every financing round and targets 15-25%
- 34. Osage University Partners Proprietary Information 34 TYPICAL PRE-FINANCING EQUITY Position Range % Founding CEO 30-60% Active Founding Scientist 20-25% Passive Founding Scientist 1-5% CEO 10-20% C-Level 4-10% VP 2-4% Director 1-2.5% Lead Engineer 1-2% Engineer (5+ years) 0.66-1.25% Engineer (Junior) 0.2-0.66% Ind. Board Member/Advisor 1% • Titles range from CTOs, CEOs, and Chief Scientist • Many are part time, but spend at least 30% of time at startup • Get 20% median and 25% mean initial equity • The most highly compensated are founding scientist CEOs, which is rare • Active founding scientist are more typical in tech companies • Titles range from nothing, Advisor, Scientific Advisory Board and Chief Scientist • Spending very little time at startup and some are not in touch with their companies at all • Get less than 5% initial equity
- 35. Osage University Partners Proprietary Information 35 VALUE OF SCIENTIFIC FOUNDERS • In Tech, some professors spend 1-2 years of leave at founding, but will often return to the university • Once returning to the university its very challenging to stay up-to-date with a fast moving startup, therefore, their contributions inevitably diminishes REASONS FOR ISSUING OPTIONS TO A PART TIME SCIENTIFIC FOUNDER • Continued research contributions from lab – pipeline of innovation • Pipeline for hiring students • High level research connections with major companies – research collaborations and acquisitions • Raising profile of company • Cutting-edge outside view
- 36. Osage University Partners Proprietary Information 36 WHY ARE OPTION POOLS IMPORTANT? THIS Pays For HOW CAN STARTUPS COMPETE?????
- 37. Osage University Partners Proprietary Information 37 TURNOVER 1. Product Development 2. Product Market Fit 3. Scale 3 Phases/Teams of a Startup • At each stage, the startup will require a different set of skills, and ultimately, people • Most startups turnover their teams 3 times throughout the process of getting to scale • Continuously refreshed option pools are important in bringing in new talent
- 38. Osage University Partners Proprietary Information 38 BE GREEDY WHEN APPROPRIATE Yes, you will be diluted But without your.. You will get…
- 39. Osage University Partners Proprietary Information 39 EXAMPLE: EQUITY DISTRIBUTION PLAN Annual Equity Grant Chart by Position New Hires Grants are issued to new employees at market levels according to annual equity grant chart Promotion Promotion grants are given additional options to bring employee to the level as if you were to hire her/him today Outstanding Performance Once a year grants for 10 to 20% of employees, which are 50% of what you would hire that person for today Evergreen Starting at 2.5 year anniversary for every year, provide employee ¼ of what person would be hired for today * Wealthfront, “https://blog.wealthfront.com/the-right-way-to-grant-equity-to-your-employees/”
- 40. Osage University Partners Proprietary Information 40 OPTION OPTIONS Restricted Stock Units (RSUs) • Commitment to give stock based on vesting • Taxable at vesting – good for founding equity as a “zero” value can be assigned • Employee becomes a true shareholder in the company Incentive Stock Options (ISOs) • Does not trigger federal income tax • ISOs receive long term capital gains treatment (must be held two years from grant and one year following exercise) • In the case of early acquisition, may be taxed as income • Can only be granted to employees (no advisors, consultants, or service providers) • Require 409a valuation to avoid mispricing stock Non-qualified Stock Options (NSOs) • Taxes upon exercise (difference of strike price of option and fair market value of stock at time of exercise) • Taxed at ordinary income rate • Require 409a valuation to avoid mispricing stock
- 41. Osage University Partners Proprietary Information 41 CAPITAL NEEDS BY INDUSTRY Time between development and market • Hard technical development may extend product development timeframes • Regulatory barriers may delay product launch Costs • Capex • Product Development Head Count • Sales/Marketing Head Count Opportunity • Different companies/sectors have different exit outcomes Product Market Fit • Selecting a market • Selecting a go-to-market strategy
- 42. Osage University Partners Proprietary Information 42 NOT ALL STARTUPS ARE EQUAL
- 43. Thank You Contact Us Kirsten Leute kleute@osagepartners.com John Lee jlee@osagepartners.com 50 Monument Rd, 201 Bala Cynwyd, PA 19004 484.434.2255 www.osageuniversitypartners.com
Editor's Notes
- #3: VCs each have a fund thesis Don’t approach a high tech VC when you are pitching a therapeutics company Pitchbook’s “Top Ten VCs in _________” series What do you need and how will they help you?
- #4: VCs each have a fund thesis Don’t approach a high tech VC when you are pitching a therapeutics company Pitchbook’s “Top Ten VCs in _________” series What do you need and how will they help you?
- #23: VCs receive many pitch decks The cliché is true – you only get one chance to make a first impression Ideally, your introduction to potential investors would come from one of their trusted friends or advisors Make your initial interactions (phone call, pitch deck, executive summary) clear, concise and compelling: Who you are Data justifying your enthusiasm and why data are compelling Addressable market and size Comparable companies as evidence of exit value Funding and accomplishments to date Amount and use of proceeds of financing Deals at this early stage are often “triaged” so that VCs can quickly identify the most attractive opportunities These deals will move to a phone call or pitch presentation
- #24: Do not hide anything substantive; it won’t stay hidden for long You will lose credibility Your lack of transparency and forthrightness will be shared with others Pre-empt any ‘killer’ questions. Show that you did your homework! Follow good presentation guidelines Be direct, be brief, then listen Be clear, concise, and compelling Do not over populate / over complicate slides Pause to allow for questions When you do not know an answer, say so If you can find out the information, let the questioner know you will get back to them with the information following the presentation Don’t Cold Call Remove #3 Remove #4 Combine 5+6 Remove 8