ENTREPRENEURIAL FINANCE

By

RAJEEV ROY
Associate Professor & NEN Faculty Leader XIMB

ENTREPRENEURIAL FINANCE

CHAPTER 8 ENTREPRENEURSHIP By

RAJEEV ROY
OXFORD UNIVERSITY PRESS 2008

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Chapter Objectives
To list the various sources of debt finance To understand the process of securing debt finance To discuss the importance of collateral security To tabulate the lending strategies of banks To discuss the characteristics of venture capital To understand the structure of venture funds To list the various roles within a venture fund To understand how venture capitalists get compensated for their efforts To describe a step by step screening process followed by venture funds while making an investment To list the elements of a termsheet To understand the current scenario of VC funding in India

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Disadvantages of Equity Finance

Dilution of shareholding Increased 3rd party governance Increased external controls Increased commitment to stated strategy

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Sources of Debt
State Finance Corporations NBFC Banks

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Securing Debt
Drawing up the business plan. Identifying sources of debt finance. Presenting the proposal to the bank. If the manager is considering your proposal favourably, you will have to go for further talks Once the two parties have broadly agreed, details have to be worked out.
Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008

Principles of Good Lending

Purpose Safety Profitability Other considerations

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Security
Collateral
Inside Outside

Personal guarantee Maturity Covenants Menu pricing

Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008

Lending Strategies
Financial statements Relationship lending
Length of relationship Breadth of relationship Degree of trust

Credit scoring

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Venture Capital
Venture capital is characterized by: Financing of new and potentially high growth companies Investments primarily in the form of equity participation Assistance in the early days of the enterprise Adding value to the company through active participation, even joining the management on occasions Willingness to take on higher risk Expectation of higher rewards A long-term outlook regarding the investment

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Wikipedia
Venture capital (VC) is financial capital provided to early-stage, high-potential, high risk, growth startup companies. The venture capital fund makes money by owning equity in the companies it invests in, which usually have a novel technology or business model in high technology industries, such as biotechnology, IT, software, etc. The typical venture capital investment occurs after the seed funding round as growth funding round (also referred as Series A round) in the interest of generating a return through an eventual realization event, such as an IPO or trade sale of the company. Venture capital is a subset of private equity. Therefore all venture capital is private equity, but not all private equity is venture capital.[1]

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Contd..
In addition to angel investing and other seed funding options, venture capital is attractive for new companies with limited operating history that are too small to raise capital in the public markets and have not reached the point where they are able to secure a bank loan or complete a debt offering. In exchange for the high risk that venture capitalists assume by investing in smaller and less mature companies, venture capitalists usually get significant control over company decisions, in addition to a significant portion of the company's ownership (and consequently value).
Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008

Contd..
Venture capital is also associated with job creation (accounting for 21% of US GDP),[2] the knowledge economy, and used as a proxy measure of innovation within an economic sector or geography. Every year there are nearly 2 million businesses created in the USA, and only 600-800 get venture capital funding. According to the National Venture Capital Association 11% of private sector jobs come from venture backed companies and venture backed revenue accounts for 21% of US GDP.
Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008

Roles in a Venture Fund

General partner Investor Venture partner Entrepreneur-in-residence Others

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Screening by VCs
Get rid of scamsters Major broad concerns Growth and industry considerations Monetising value

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

Important Considerations
The entrepreneurial team
Personal or individual characteristics Experience of the individual

Ease of exit
Via IPO Sale to PE, etc

Rajeev Roy, XIMB

Entrepreneurship Oxford University Press, 2008

The Termsheet
Amount and terms of investment Dividend policy Composition of the board of directors Reporting Liquidity (exit) plans Rights of sale Warranties Matters requiring venture capitalist approval
Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008

Problems Facing VCs in India

Large established firms with strong growth figures look like a very attractive proposition. Investments in public listed firms are giving returns in excess of 30%, at far lesser perceived risk Small firms in India are informationally opaque. Indian entrepreneurs are perceived as lacking in marketing and management skills. Indian entrepreneurs are more reluctant to give up controls than their western counterparts. VCs face an exit challenge as the capital markets in India are still shallow Brand India is strong only in some manpower driven services sectors like IT and ITES.
Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008

Sectors Favoured by VCs

IT and IT-enabled services Software Products Wireless and telecom Banking and financial services Divestments in public sector units Media and entertainment Biotechnology Pharma and diagnostics High technology Manufacturing Retail
Rajeev Roy, XIMB
Entrepreneurship Oxford University Press, 2008