Entrepreneurial Finance - Lunds universitet · Entrepreneurial finance (in theory and practice) is...
Transcript of Entrepreneurial Finance - Lunds universitet · Entrepreneurial finance (in theory and practice) is...
2015-04-21
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Entrepreneurial Finance Hans Landström
Sten K. Johnson Centre for Entrepreneurship
Lund University
Email: [email protected]
PhD course:
Commercializing your research
Lund, 21 April 2015
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Today: Entrepreneurial Finance
9.15-9.30 Sum-up from last meeting SOL
9.30-12.00 Lecture: Entrepreneurial Finance
(theory)
HLa
12.00-13.00 LUNCH
13.00-13.45 Lecture: ”Soft money” and the
innovation support system
SOL
13.45-16.30 Project work Business
Advisors
16.30-17.15 Reflections SOL
HLa
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AGENDA
1. What’s the problem?
2. Financial bootstrapping
3. Financial sources for entrepreneurial ventures
4. Venture Capital Institutional Venture Capital
Informal Venture Capital
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Financial characteristics in young
ventures
Liability of smallness/newness (Stinchcombe, 1965)
Investors’ perspective: High information asymmetries, absence of a
financial operating history, lack of collaterals, lack of knowledge, high
ex ante failure risk.
Difficulties in getting resources, not least financial resources
Entrepreneurs’ perspective: Lack of management and knowledge, but
also a private and informal way of operating the business (including
the intertwining between the firm and the individual/family).
Difficulties in using/manage the resources efficiently
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The Big Money Assumption
Entrepreneurial finance (in theory and practice) is based
on a ‘big money’ assumption i.e. entrepreneurs/small
business managers need a lot of capital in order to buy
resources necessary on the market.
Focus
High-tech firms
Growth-oriented firms
Industries (telecom/biotech/life science/etc.)
Supply of capital is regarded as the problem
Venture Capital is in the forefront of the interest
Investors’ perspective and approach
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
“Big money” assumption … could be
questioned!
New ventures constitute a heterogeneous group of firms
with a lot different needs for capital.
In general the need for capital is limited The majority of new ventures begins with very limited resources, and
generally with no employees or only family members to share the work. Many resources have become less expensive through the web, open
innovation, etc. Even high growth companies start with small amounts of initial finance:
”… according to an analysis of the Inc500 ’America’s fastest
growing private companies’ in 2000, 16% started with less than
$1,000, 42% with $10,000 or less, and 58% with $20,000 or
less.” Inc. Magazine, October 17, 2000, p. 65.
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InfoGate AB
Consultancy: web-solutions
Start: 1999
Customers: Golf industry
Develop/host/managing
administrative systems for
golf clubs
Ulf Isacson Employees: 12
Founder and CEO Sold to SYSteam
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Resource management in Infogate
Individual-based
resources
Social-based
resources
Contract-based
resources
Period 1 Teacher (university)
No salary
Credit card
(Loan) from mother
Student colleagues
Period 2 Family
Founding team
First customer
Period 3 Retained earnings Bank loan
Customers
Business Angel
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Bootstrapping
Bootstrapping is a strategy through which small business
managers acquire and use resources without the need to
raise equity or borrow money. (Vanacker & Sels, 2009)
Bootstrapping can takes two forms:
1. to minimize the need for external finance, and
2. to creatively acquire resource without using bank finance or outside equity.
Examples:
Use your social network
Use available resources
Borrow resources
Obtain payment in advance from customers
Lease instead of buy
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Bootstrapping ‘modes’
Mode Characteristics Examples
1 Owner financing Use manager’s credit card, loan from relatives and
friends, withholding managers salary
2 Minimization of
account receivable
Cease business relations with late payers, routines to
speed up invoices
3 Customer-related Tapping resources from customer, prepayment of
prototypes, etc.
4 Joint utilization Borrow equipment from others, coordinate purchase
with others, barter instead of buying
5 Delaying payment Lease equipment, delay payment to suppliers
6 Minimizing capital
in stock
Routines to minimize stock, best conditions from
suppliers
7 Subsidy finance Subsidies from different governmental agencies
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Advice for entrepreneurs
◘ Don’t start thinking in terms of external capital use your creativity even when acquire resources.
◘ Bootstrapping is an approach that is convenient and an easily obtainable source (don’t require a business plan or collaterals), and it stimulates a ‘lean’ mindset and ‘resourceful’ solutions.
◘ However, be aware of …
- the necessary speed of launching the product/service
- growth potential of the product/service
◘ There is always ‘an other side of the coin’ – pay back
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Case: Flex Prop
Propellers for passenger boats and cargo ships based on a composite
material that makes the propeller blade flexible.
Karl-Otto Strömberg Propeller for turbines
CEO and power stations
Propeller for ships
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Financial markets for entrepreneurial
ventures (Black & Gilson, 1998)
Bank-oriented Equity-oriented
markets markets
Government-oriented
markets
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Sources of finance for
entrepreneurial ventures
Business size Business age
Very young and Small ventures Growth-oriented small ventures with high growth ventures with an potential but international limited track record market Internal finance Informal VC Public equity - Personal savings Institutional VC - Credit cards Customers - Gifts/loans/equity Suppliers (trade credits) from FFF Research funding Short-term loans (banks) Governmental finance Long-term loans (e.g. banks) - VINNOVA - ALMI - LUIS
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Venture capital
Equity capital
Minority ownership
Temporary partners
Active partnership
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Institutional venture capital vs informal venture capital (DeClerq et al, 2006)
Informal VC (BA) Institutional VC
Status Wealthy individuals Limited partnership
Type of investments Start up/very early stage Generally more mature
projects
Amounts invested €0.03m to €0.4m €0.8m to €6m
Time horizon 4-6 years 6-8 years
Speed of decision Weeks Months
Selection criteria Commercial
Entrepreneurial
Strictly commercial
Syndication Yes Yes
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Governance structure of venture capital
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Structure of a VC fund
Investor (limited partners) (e.g. individuals, pension funds insurance companies, foundations, etc.) Capital Return on investment
Management
VC firm Capital
(general Mgmt fee VC fund Venture partner) Sale of
Return on equity investment Monitoring and
advising
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Time restrictions of a VC fund
Year
1 2 5 8 9 10
Structure Investments Add value Add value Fund
of fund (first round) Investments Harvest raising
(second round)
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
The venture capital process
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The venture capital process
Investment
process
Structuring
Monitoring and
add value
Exit
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
The venture capital process
Investment
process 1. Deal generation
• Unsolicited deal flow negative
• Personal network flow +/-
Structuring • VC search positive
2. Initial screening
Monitoring and Non-negotiable criteria
add value • Industry
• Amount of money
• Geographical location
Exit • VCs investment strategy
• etc.
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The venture capital process
3. Detailed screening
• Entrepreneur
• Entrepreneur
• Entrepreneur
– Attitude/Experience/Openness
• Technology
– Market need/Unique idea/Feasibility/Intellectual property rights
• Market attraction
– Market attraction and growth of markets/Unique selling points
• VC portfolio
– Synergies
– Resource complementarities
BUT IN THE END: IT IS AN INTUITIVE DECISION!
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
The venture capital process
Investment
process Valuation
• No universally agreed method of valuing
new ventures method are imprecise,
Structuring subjective and based on rule of thumbs
(or “gut feeling”) – it’s often a guess!
Monitoring and Structuring (contract), e.g.:
add value • Capital and ownership
• Investor’s control over key decisions
• Investor’s involvement in the company
Exit • Compensation scheme for management
• Downsize protection
• etc.
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The venture capital process
Investment
process Activities:
1. Monitoring
2. Providing value-added
Structuring • Management support
- Strategic issues
- Recruit and compensate key individuals
Monitoring and - Routines/discipline (adm./board)
add value - Financial management/raising capital
• Ownership goals
- Joint goals/Distinct milestones
Exit - Market focus
• Legitimize
• Network
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
The venture capital process
Investment
process Exit strategies:
• Initial Public Offering (IPO)
• Acquisition (or trade sale)
Structuring • Secondary sale
• Buyback or management buy out
• Write-off, reconstruction, bankruptcy, etc.
Monitoring and
add value General performance:
2-3 failures
4-6 “living deads”
Exit 2-3 successes
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Performance of venture capital
Actual returns on investments (in % per annum)
Source: Leleux, 2007
Europe USA
5 years 10 years 5 years 10 years
Early stage -7.5 -0.1 -8.6 45.8
Later stage -2.7 7.6 -4.2 17.0
All ventures -4.0 5.3 -6.3 25.4
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Advice for entrepreneurs
• Are you sure that you want an external investor in your venture?
• Develop a comprehensive and competitive business plan.
• A venture capital investment is often a once in life-time investment learn as much as possible about the market and the venture capitalists’ way of work in order to find the best venture capitalist for your venture.
• Your venture must be ’investment ready’ e.g. management team, board of directors, economic control system, etc.
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Critics against venture capital
• More or less ‘impossible’ multiples of exits necessary to
generate required rate of returns, due to: – Limitations in finding growth-oriented companies.
– The lack of successful exit markets.
• Rate on returns on VC investments have been low and the
inflow of capital into the market has been very low.
Venture Capital
Performance in
the US
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Critics against venture capital
• The transformation of the original US business model into
other contexts has been difficult. – The rate of returns lower outside the US.
– Few governmental initiatives to stimulate the VC market have
been successful.
– Lack of good quality venture capitalists outside the US.
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Informal venture capital
Private individuals who invest risk capital (equity capital)
directly in unquoted ventures in which they have no family
connection (Mason & Harrison, 2000)
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Market characteristics
Capital
High Capital-oriented Classical Business
role Angel role
Low Micro-investors Knowledge-oriented
role (crowd funding) role
Low High
Knowledge
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Micro-investors role
Capital
High Capital-oriented Classical Business
role Angel role
Low Micro-investors Knowledge-oriented
role (crowd funding) role
Low High
Knowledge
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Case: HVR Water Purification
Remove all contaminants from tap water (membrane distallation)
Financed by share issues to ‘micro investors’
Today: app 2 500 share holders (through five share issues)
Aapo Saask
CEO
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Crowdfunding
The collective effort of individuals who network and
pool their money, usually via the Internet (e.g. platforms such
as “FundedByMe” and “Kickstarter”), to support efforts
initiated by other people or organizations
Example of forms of crowdfunding:
Equity-based
Donation-based
Debt-based
Buy-based Advertising
First product
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Classical business angel role
Capital
High Capital-oriented Classical Business
role Angel role
Low Micro-investors Knowledge-oriented
role (crowd funding) role
Low High
Knowledge
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Case: Probi
PhD thesis in medicine at LU: Lactobacillus plantarum 299v (that improve
digestion and decrease acidity of the stomach).
Biotech company that develops probiotics with well-documented
beneficial health effects (functional food).
Kaj Vareman
Business Angel
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Business Angels in Sweden (See also Kelly, 2007)
Gender (male) 96% Age 58 years (mean) 40 years or less 6.1% 65 years or more 24.9 % Number of ventures in portfolio 4.4 companies Number of informal investments made the last three years 4 investments (mean) 1 or less investments 16.5% 7 or more investments 11.7% Capital invested in informal investments 1.4 m€ (mean) 0.26 m€ (median)
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Business Angels’ investment
portfolio
27%
14%8%
2%
30%
7% 2%
11%
Stocks in quoted companies
Informal investments
Privately ow ned companies
Bonds
Art
Real-estate
Insurances
Other
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
What do business angels look for?
General criteria Average
1 Leadership potential of lead entrepreneur 4.3
2 Market/sales capabilities of team 4.2
3 Track record of lead entrepreneur 4.1
4 Recognized industry expertise in management team 4.0
5 Information available to investor on investment 4.0
6 Organizational/administrative capabilities of team 3.9
7 Degree of product-market understanding of team 3.8
8 Financial/accounting capabilities of team 3.8
9 Market growth and attractiveness 3.7
10 Production capabilities of team 3.6
11 Expected rate of return 3.5
12 Ability to cash-out 3.5
13 Uniqueness of product 3.3
14 Relative familiarity of BA with industry and technology 3.3
15 Ability to create post-entry barriers in market 3.1
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Advice for entrepreneurs
◘ The first question to ask: Do you have any money to invest for the
moment?
◘ Make detailed assessments of the potential investor
◘ Business Angels are no philanthropists, it is a heterogenous market
and business angels use different investment criteria, but ’first
impression’ and a trustworthy management team important.
◘ Value added from business angels is individual and related to
the situation ( look for experience)
Lunds universitet / Ekonomihögskolan / Sten K Johnson Centre for Entrepreneurship
Learn more about Venture Capital
Hans Landström (ed.),
2007, Handbook of
Research on Venture
Capital, Volume 1,
Cheltenham: Edward
Elgar.
Hans Landström and Colin
Mason (eds.), 2012,
Handbook of Research on
Venture Capital, Volume 2,
Cheltenham: Edward Elgar.
Colin Mason and Hans
Landström (eds.), 2016,
Handbook of Research on
Venture Capital, Volume 3,
Cheltenham: Edward Elgar.
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Q&A
Thank you for your attention!
Hans Landström