What do investors look for?
Objective and Problem Solving: The offering of any startup should be differentiated to solve a unique customer problem or to meet specific customer needs. Ideas or products that are patented show high growth potential for investors.
Market Landscape: Market size, obtainable market-share, product adoption rate, historical and forecasted market growth rates, macroeconomic drivers for the market your plans to target.
Sales and Marketing: No matter how good your product or service maybe, if it does not find any end use, it is no good. Consider things like sales forecast, targeted audiences, product mix, conversion and retention ratio, etc.
How do investors benefit from investing in startups?
i) Mergers and Acquisitions: The investor may decide to sell the portfolio company to another company in the market. For example, the $140mn acquisition of RedBus by South African Internet and media giant Naspers and integrating it with its India arm Ibibo group, presented an exit option for its investors- Seedfund, Inventus Capital Partners and Helion Venture Partners.
ii) IPO: Initial Public Offering is the first time that the stock of a private company is offered to the public. Issued by private companies seeking capital to expand. It is one of the most prefered methods by investors to exit a startup organisation.
iii) Selling shares: Investors may sell their equity/shares to other venture capital or private equity firms.
iv) Distressed Sale: Under financially stressed times for a startup company, the investors may decide to sell the business to another company or financial institution.
What is a term sheet?
A term sheet is a “Non-binding” list of propositions by a venture capital firm at the early stages of a deal. It summarizes the major points of engagements in the deal between the investing firm/investor and the startup. A term sheet for a venture capital transaction in India typically consists of four structural provisions: valuation, investment structure, management structure and finally changes to share capital.
i) Valuation: Startup valuation is the total worth of the company as estimated by a professional valuer. There are various methods of valuing a startup company, such as: Cost to Duplicate approach, Market Multiple approach, Discounted cash flow (DCF) analysis and Valuation-by-Stage approach. Investors choose the relevant approach based on the stage of investment and market maturity of the startup.
ii) Investment Structure: It defines the mode of the venture capital investment in the startup, whether it is through equity, debt or a combination of both.
iii) Management Structure: The term sheet lays down the management structure of the company which includes a list for the board of directors, and prescribed appointment and removal procedures.
iv) Changes to share capital: All investors in startups have their own investment timelines, and accordingly they seek flexibility while analyzing exit options through subsequent rounds of funding. The term sheet basically addresses the stakeholders’ rights and obligations with respect to subsequent changes in the company’s share capital.
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Topics covered in this course:
What do investors look for, term sheets, legals