Accredited Investor - In the United States, to be considered an accredited investor, one must have a net worth of at least one million US dollars, excluding the value of one’s primary residence, or have income at least $200,000 each year for the last two years (or $300,000 combined income if married) and have the expectation to make the same amount this year.
The term “accredited investor” is defined in Rule 501 of Regulation D of the U.S. Securities and Exchange Commission (SEC) as:
a bank, insurance company, registered investment company, business development company, or small business investment company;
an employee benefit plan, within the meaning of the Employee Retirement Income Security Act, if a bank, insurance company, or registered investment adviser makes the investment decisions, or if the plan has total assets in excess of $5 million;
a charitable organization, corporation, or partnership with assets exceeding $5 million;
a director, executive officer, or general partner of the company selling the securities;
a business in which all the equity owners are accredited investors;
a natural person who has individual net worth, or joint net worth with the person’s spouse, that exceeds $1 million at the time of the purchase, or has assets under management of $1 million or above, excluding the value of the individual’s primary residence;
a natural person with income exceeding $200,000 in each of the two most recent years or joint income with a spouse exceeding $300,000 for those years and a reasonable expectation of the same income level in the current year; or
a trust with assets in excess of $5 million, not formed to acquire the securities offered, whose purchases a sophisticated person makes."
Angel Investor - An angel investor or angel (also known as a business angel, informal investor, angel funder, private investor, or seed investor) is an affluent individual who provides capital for a business start-up, usually in exchange for convertible debt or ownership equity. A small but increasing number of angel investors invest online through equity crowdfunding or organize themselves into angel groups or angel networks to share research and pool their investment capital, as well as to provide advice to their portfolio companies.
Board of Directors - A board of directors is a body of elected or appointed members who jointly oversee the activities of a company or organization, which can include a non-profit organization or a government agency or corporation. A board of directors’ activities are determined by the powers, duties, and responsibilities delegated to it or conferred on it by an authority outside itself. These matters are typically detailed in the organization’s constitution and bylaws. These documents commonly also specify the number of members of the board, how they are to be chosen, and how often they are to meet. However, the constitution and bylaws rarely address a board’s powers when faced with a corporate turnaround, restructuring, or emergencies, where board members need to act as agents of change in addition to their traditional fiduciary responsibilities.
In an organization with voting members, the board acts on behalf of, and is subordinate to, the organization’s full group, which usually chooses the members of the board. In a stock corporation, the board is elected by the shareholders and is the highest authority in the management of the corporation. The board of directors appoints the Chief Executive Officer of the corporation and sets out the overall strategic direction. In a non-stock corporation with no general voting membership, the board is the supreme governing body of the institution; its members are sometimes chosen by the board itself.
Burn rate - Burn rate is the rate at which a company is losing money. It is typically expressed in monthly terms. E.g., “the company’s burn rate is currently $65,000 per month.” In this sense, the word “burn” is a synonymous term for negative cash flow. It is also measure for how fast a company will use up its shareholder capital. If the shareholder capital is exhausted, the company will either have to start making a profit, find additional funding, or close down.
Business Plan - A business plan is a formal statement of business goals, reasons they are attainable, and plans for reaching them. It may also contain background information about the organization or team attempting to reach those goals. Business plans are decision-making tools. The content and format of the business plan is determined by the goals and audience. For example, a business plan for a non-profit might discuss the fit between the business plan and the organization’s mission. Banks are quite concerned about defaults, so a business plan for a bank loan will build a convincing case for the organization’s ability to repay the loan. Venture capitalists are primarily concerned about initial investment, feasibility, and exit valuation. A business plan for a project requiring equity financing will need to explain why current resources, upcoming growth opportunities, and sustainable competitive advantage will lead to a high exit valuation.
The following structure is a simple way to break down the most important parts of a business plan -
Problem - What is the problem you are trying to solve?
Solution - How do you plan to solve the problem?
Customers - Who has the problem you are trying to solve?
Competition - What are the ways the problem is currently being solved?
Unfair Advantage - What edge or advantage do you have that can protect you from competition?
Channels - How will you acquire your customers?
Cost structure - What are the costs associated with creating your solution and managing it?
Revenue - In what way(s) do you plan to make money?
Success Metrics - How will you determine your success? What will you have to measure?
Cap - In a convertible note, this is the maximum company value that the note can be converted into company stock at.
Carried Interest - Carried interest, or carry, is a percentage of any profits realized from an investment that is paid to a party involved with or managing the investment.
Common Stock - Common stock is a form of corporate equity ownership, a type of security. The terms voting share and ordinary share are also used frequently in other parts of the world; “common stock” being primarily used in the United States. This type of share gives the stockholder the right to share in the profits of the company, and to vote on matters of corporate policy and the composition of the members of the board of directors.
It is called “common” to distinguish it from preferred stock. If both types of stock exist, common/equity stockholders usually cannot be paid dividends until all preferred/preference stock dividends are paid in full; it is possible to have common stock that has dividends that are paid alongside the preferred stock.
In the event of bankruptcy, common stock investors receive any remaining funds after bondholders, creditors (including employees), and preferred stockholders are paid. As such, common stock investors often receive nothing after a liquidation bankruptcy Chapter 7.
Common stockholders can also earn money through capital appreciation. Common shares may perform better than preferred shares or bonds over time, in part to accommodate the increased risk
Convertible Debt - In finance, a convertible bond or convertible note or convertible debt (or a convertible debenture if it has a maturity of greater than 10 years) is a type of bond that the holder can convert into a specified number of shares of common stock in the issuing company or cash of equal value. It is a hybrid security with debt- and equity-like features.
To compensate for having additional value through the option to convert the bond to stock, a convertible bond typically has a coupon rate lower than that of similar, non-convertible debt. The investor receives the potential upside of conversion into equity while protecting downside with cash flow from the coupon payments and the return of principal upon maturity. These properties lead naturally to the idea of convertible arbitrage, where a long position in the convertible bond is balanced by a short position in the underlying equity. From the issuer’s perspective, the key benefit of raising money by selling convertible bonds is a reduced cash interest payment. The advantage for companies of issuing convertible bonds is that, if the bonds are converted to stocks, companies’ debt vanishes. However, in exchange for the benefit of reduced interest payments, the value of shareholder’s equity is reduced due to the stock dilution expected when bondholders convert their bonds into new shares.
Convertible Preferred Stock - Convertible Preferred stock is a type of preferred issue which holders can exchange for a predetermined number of the company’s common-stock shares. This exchange may occur at any time the investor chooses, regardless of the market price of the common stock. It is a one-way deal; one cannot convert the common stock back to preferred stock.
Crowdfunding - Crowdfunding is the practice of funding a project or venture by raising monetary contributions from a large number of people. Crowdfunding is a form of crowdsourcing and of alternative finance.
Deal Flow - Deal flow (or dealflow) is a term used by finance professionals such as venture capitalists, angel investors, private equity investors and investment bankers to refer to the rate at which they receive business proposals/investment offers. The term is also used not as a measure of rate, but simply to refer to the stream of offers or opportunities as a collective whole. An organization’s deal flow is considered “good” if it results in enough revenue- or equity-generating opportunities to keep the organization functioning at peak capacity.
Debt - A debt generally refers to something owed by one party, the borrower or debtor, to a second party, the lender or creditor. The borrower or debtor may be a sovereign state or country, local government, company, or an individual. The lender or creditor may be a bank, credit card company, payday loan provider, or an individual. Debt is generally subject to contractual terms regarding the amount and timing of repayments of principal and interest.
Dilution - Stock dilution, also known as equity dilution, is the decrease in existing shareholders’ ownership of a company as a result of the company issuing new equity. New equity increases the total shares outstanding which has a dilutive effect on the ownership percentage of existing shareholders. This increase in the number of shares outstanding can result from a primary market offering (including an initial public offering), employees exercising stock options, or by issuance or conversion of convertible bonds, preferred shares or warrants into stock. This dilution can shift fundamental positions of the stock such as ownership percentage, voting control, earnings per share, and the value of individual shares.
Director - A director is a person from a group of managers who leads or supervises a particular area of a company, program, or project. Companies that use this term often have many directors spread throughout different business functions or roles (e.g. director of human resources). The director usually reports directly to a vice president or to the CEO directly in order to let them know the progress of the organization. Large organizations also sometimes have assistant directors or deputy directors. Director commonly refers to the lowest level of executive in an organization, but many large companies use the title of associate director more frequently. Some companies also have regional directors and area directors. Regional directors are present in companies that are organized by location and have their departments under that. They are responsible for the operations for their particular country. Though directors are the first stage in the executive team, area directors are seen as higher up, based on their area of control.
Discounted Convertible Note - This is a loan that will be converted into equity of a company at a future date. When this loan is converted, the owner will receive shares of the company at a pre-determined discount to the value at the time of the conversion. This discount is compensation for the owners taking the risk of early investment in a company through the convertible note.
Down-Round - A down round occurs when a company raises capital at valuation that is lower than the valuation used in the previous round of financing.
Due Diligence - Due diligence is an investigation of a business or person prior to signing a contract, or an act with a certain standard of care. The theory behind due diligence holds that performing this type of investigation contributes significantly to informed decision making by enhancing the amount and quality of information available to decision makers and by ensuring that this information is systematically used to deliberate in a reflexive manner on the decision at hand and all its costs, benefits, and risks.
Escrow - An escrow is a contractual arrangement in which a third party receives and disburses money or documents for the primary transacting parties, with the disbursement dependent on conditions agreed to by the transacting parties,
Exit - This is when you finally get your money (and hopefully profit) out of your investment in a startup. If the startup is acquired by another company, investors will typically be paid in either cash or shares of the new company. If the startup has an initial public offering (an IPO) and becomes listed on a trading exchange, an investor will be able to sell their shares for cash.
Flat-round - A flat round occurs when a company raises capital at valuation that is the same as the valuation used in the previous round of financing.
Follow-on Investment - This is when an investor who has already invested in a company makes an additional investment in a subsequent round of financing.
Founders Equity - This is the equity that is owned by the founders of a company and is typically common stock
Future Equity – A Future Equity Agreement is an agreement between an investor and a company that provides warrants to the investor for equity in the company without determining a specific price per share. A Future Equity investor receives the futures shares when a priced round of investment or liquidation event occurs. Startup accelerator Y Combinator released the Simple Agreement for Future Equity (“SAFE”) investment instrument as an alternative to convertible debt in late 2013.
General Partner - General partner is a person who joins with at least one other person to form a business. A general partner has responsibility for the actions of the business, can legally bind the business and is personally liable for all the business’s debts and obligations
General Solicitation - General solicitation is basically any effort to solicit investment in a securities offering without having a pre-existing relationship with the investor. If general solicitation is prohibited, sales information may only be provided to potential investors that lawyers, accountants, or bankers associated with the offering, as well as anyone management, officers, or directors of a company already know.
Illiquid - An illiquid investment is an investment that cannot easily be transferred, sold, or converted into cash.
Initial Public Offering - Initial public offering (IPO) or stock market launch is a type of public offering in which shares of a company usually are sold to institutional investors that in turn, sell to the general public, on a securities exchange, for the first time. Through this process, a privately held company transforms into a public company. Initial public offerings are mostly used by companies to raise the expansion of capital, possibly to monetize the investments of early private investors, and to become publicly traded enterprises. A company selling shares is never required to repay the capital to its public investors. After the IPO, when shares trade freely in the open market, money passes between public investors. Although IPO offers many advantages, there are also significant disadvantages, chief among these are the costs associated with the process and the requirement to disclose certain information that could prove helpful to competitors. The IPO process is colloquially known as going public.
Internal Rate of Return (IRR) - The internal rate of return on an investment or project is the “annualized effective compounded return rate” or rate of return that makes the net present value of all cash flows (both positive and negative) from a particular investment equal to zero. It can also be defined as the discount rate at which the present value of all future cash flow is equal to the initial investment or, in other words, the rate at which an investment breaks even.
Equivalently, the IRR of an investment is the discount rate at which the net present value of costs (negative cash flows) of the investment equals the net present value of the benefits (positive cash flows) of the investment.
Investment Round - a discrete round of investment, by which a business or other enterprise raises money to fund operations, expansion, a capital project, an acquisition, or some other business purpose.
J-curve - In private equity, the J curve is used to illustrate the historical tendency of private equity funds to deliver negative returns in early years and investment gains in the outlying years as the portfolios of companies mature.
Lead Investor - Typically the lead investor is the investor making the largest investment and taking the most active role in an investment round.
Limited Partner - Like shareholders in a corporation, limited partners have limited liability. This means that the limited partners have no management authority, and (unless they obligate themselves by a separate contract such as a guaranty) are not liable for the debts of the partnership. The limited partnership provides the limited partners a return on their investment (similar to a dividend), the nature and extent of which is usually defined in the partnership agreement. General Partners thus bear more economic risk than do limited partners, and in cases of financial loss, the GPs will be the ones which are personally liable.
Liquidity Event - In corporate finance, a liquidity event is the merger, purchase or sale of a corporation or an initial public offering. A liquidity event is a typical exit strategy of a company, since the liquidity event typically converts the ownership equity held by a company’s founders and investors into cash. A liquidity event is not to be confused with the liquidation of a company, in which the company’s business is discontinued.
Lock-up - A lock-up period, also known as a lock in, lock out, or locked up period, is a predetermined amount of time following an initial public offering where large shareholders, such as company executives and investors representing considerable ownership, are restricted from selling their shares. Generally, a lock-up period is a condition of exercising an employee stock option. Depending on the company, the IPO lock-up period typically lasts between 90–180 days before these shareholders are allowed the right, but not the obligation, to exercise the option.
Lockups are designed to prevent insiders from liquidating assets too quickly after a company goes public. When employees and pre-IPO investors initially get their shares or options, they sign a contract with the company that typically prohibits trades for the first 90–180 days after a future IPO. When the company is ready to go public, the underwriting bank then reaffirms the existing agreements in new contracts. This helps to ensure the market will not disproportionately increase the supply, which drives prices downward. While lockups used to be simple—usually lasting 180 days for everyone—they’ve become increasingly complex.
Usually employees and early investors want shorter lockups (so they can cash out sooner) while the underwriting banks want longer ones (to keep insiders from flooding the market and sinking the share price). The company is often somewhere in the middle—wanting to keep employees and investors happy but not wanting it to look like insiders don’t have faith in it.
Officer - American companies are generally led by a chief executive officer (CEO). In some companies, the CEO also has the title of president. In other companies, the president is a different person, and the primary duties of the two positions are defined in the company’s bylaws (or the laws of the governing legal jurisdiction). Many companies also have a chief financial officer (CFO), chief operating officer (COO) and other senior positions as necessary such as chief information officer, chief sales officer, etc. that report to the president and CEO as “senior vice presidents” of the company. The next level, which are not executive positions, is middle management and may be called vice president, director or manager, depending on the size and required managerial depth of the company.
Post-Money Valuation - Post-money valuation is the value of a company after an investment has been made. This value is equal to the sum of the pre-money valuation and the amount of new equity. External investors, such as venture capitalists and angel investors, will use a pre-money valuation to determine how much equity to demand in return for their cash injection to a company. The implied post-money valuation is calculated as the dollar amount of investment divided by the equity stake gained in an investment.
Pre-Money Valuation - A pre-money valuation is a term widely used in private equity or venture capital industries, referring to the valuation of a company or asset prior to an investment or financing. If an investment adds cash to a company, the company will have different valuations before and after the investment. The pre-money valuation refers to the company’s valuation before the investment. External investors, such as venture capitalists and angel investors will use a pre-money valuation to determine how much equity to ask for in return for their cash injection to an entrepreneur and his or her startup company. This is calculated on a fully diluted basis.
Usually, a company receives many rounds of financing (conventionally named Round A, Round B, Round C, etc.) rather than a big lump sum in order to decrease the risk for investors and to motivate entrepreneurs. Pre- and post-money valuation concepts apply to each round.
Preferred Stock - Preferred stock (also called preferred shares, preference shares or simply preferreds) is a type of stock which may have any combination of features not possessed by common stock including properties of both an equity and a debt instrument, and is generally considered a hybrid instrument. Preferred stocks are senior (i.e., higher ranking) to common stock, but subordinate to bonds in terms of claim (or rights to their share of the assets of the company) and may have priority over common stock (ordinary shares) in the payment of dividends and upon liquidation. Terms of the preferred stock are described in the articles of association.
Like bonds, preferred stocks are rated by the major credit-rating companies. The rating for preferred is generally lower than for bonds because preferred dividends do not carry the same guarantees as interest payments from bonds and because preferred-stock holders’ claims are junior to those of all creditors.
Private Company - A privately held company or close corporation is a business company owned either by non-governmental organizations or by a relatively small number of shareholders or company members which does not offer or trade its company stock (shares) to the general public on the stock market exchanges, but rather the company’s stock is offered, owned and traded or exchanged privately.
Private Equity - In finance, private equity is a type of equity (finance) and one of the asset classes consisting of equity securities and debt in operating companies that are not publicly traded on a stock exchange.
Public Company - A public, publicly traded, publicly held company, or public corporation is a corporation whose ownership is dispersed among the general public in many shares of stock which are freely traded on a stock exchange or in over the counter markets. In some jurisdictions, public companies over a certain size must be listed on an exchange.
Qualified Purchaser - Typically, this refers to a person who has at least $5 million dollars in investments.
Vesting - Small entrepreneurial companies usually offer grants of common stock or positions in an employee stock option plan to employees and other key participants such as contractors, board members, advisors and major vendors. To make the reward commensurate with the extent of contribution, encourage loyalty, and avoid spreading ownership widely among former participants, these grants are usually subject to vesting arrangements.
Vesting of options is straightforward. The grantee receives an option to purchase a block of common stock, typically on commencement of employment, which vests over time. The option may be exercised at any time but only with respect to the vested portion. The entire option is lost if not exercised within a short period after the end of the employer relationship. The vesting operates simply by changing the status of the option over time from fully unexercisable to fully exercisable according to the vesting schedule.
Common stock grants are similar in function but the mechanism is different. An employee, typically a company founder, purchases stock in the company at nominal price shortly after the company is formed. The company retains a repurchase right to buy the stock back at the same price should the employee leave. The repurchase right diminishes over time so that the company eventually has no right to repurchase the stock (in other words, the stock becomes fully vested).
Return on Investment (ROI) - Return on Investment (ROI) is the benefit to an investor resulting from an investment of some resource. A high ROI means the investment gains compare favorably to investment cost. As a performance measure, ROI is used to evaluate the efficiency of an investment or to compare the efficiency of a number of different investments. In purely economic terms, it is one way of considering profits in relation to capital invested.
Runway - A company’s runway is basically the length of time it can continue to operate, with its current amount of cash and investments, before it runs out of money.
SEC Filing - A SEC filing is a financial statement or other formal document submitted to the U.S. Securities and Exchange Commission (SEC). Public companies, certain insiders, and broker-dealers are required to make regular SEC filings. Investors and financial professionals rely on these filings for information about companies they are evaluating for investment purposes. Many, but not all SEC filings are available online through the SEC’s EDGAR database.
Seed Round - Seed money, sometimes known as seed funding or seed capital, is a form of securities offering in which an investor invests capital in exchange for an equity stake in the company. The term seed suggests that this is a very early investment, meant to support the business until it can generate cash of its own (see cash flow), or until it is ready for further investments.
Series A - A series A round is the name typically given to a company’s first significant round of venture capital financing. The name refers to the class of preferred stock sold to investors in exchange for their investment. It is usually the first series of stock after the common stock and common stock options issued to company founders, employees, friends and family and angel investors.
Shareholders Agreement - A shareholders’ agreement (sometimes referred to in the U.S. as a stockholders’ agreement), SHA in short is an agreement amongst the shareholders of a company.
In strict legal theory, the relationships amongst the shareholders and those between the shareholders and the company are regulated by the constitutional documents of the company. However, where there are a relatively small number of shareholders, like in a Startup company, it is quite common in practice for the shareholders to supplement the constitutional document. There are a number of reasons why the shareholders may wish to supplement (or supersede) the constitutional documents of the company in this way:
a company’s constitutional documents are normally available for public inspection, whereas the terms of a shareholders’ agreement, as a private law contract, are normally confidential between the parties.
contractual arrangements are generally cheaper and less formal to form, administer, revise or terminate.
the shareholders might wish to provide for disputes to be resolved by arbitration, or in the courts of a foreign country (meaning a country other than the country in which the company is incorporated). In some countries, corporate law does not permit such dispute resolution clauses to be included in the constitutional documents.
greater flexibility; the shareholders may anticipate that the company’s business requires regular changes to their arrangements, and it may be unwieldy to repeatedly amend the corporate constitution.
corporate law in the relevant country may not provide sufficient protection for minority shareholders, who may seek to better protect their position by using a shareholders’ agreement
to provide mechanisms for removing minority shareholders which preserve the company as a going concern.
Term Sheet - A term sheet is a bullet-point document outlining the material terms and conditions of a business agreement. After a term sheet has been “executed”, it guides legal counsel in the preparation of a proposed “final agreement”. It then guides, but is not necessarily binding, as the signatories negotiate, usually with legal counsel, the final terms of their agreement.
Within the context of venture capital financing, a term sheet typically includes conditions for financing a startup company. The key offering terms in such a term sheet include (a) amount raised, (b) price per share, © pre-money valuation, (d) liquidation preference, (e) voting rights, (f) anti-dilution provisions, and (g) registration rights.
Up-Round - A flat round occurs when a company raises capital at valuation that is the same as the valuation used in the previous round of financing.
Venture Capital Financing - Venture capital financing is a type of financing by venture capital. It is private equity capital provided as seed funding to early-stage, high-potential, growth companies (startup companies) or more often it is after the seed funding round as a growth funding round (also referred to as series A round). It is provided in the interest of generating a return on investment through an eventual realization event such as an IPO or trade sale of the company.