Going Back to the Till : Series B Video Lecture | Stocks, Bonds, Equity and Valuation : Complete Knowledge - Entrepreneurship

Where I left off in the last
video, my buddies and I, we
had a business plan.
We had a great idea to
sell socks online.
We went to an angel investor.
He had originally given
us $5 million.
He valued what we already had
at $5 million dollars.
So, since he was giving us $5
million and we had $5 million,
he got 50% of the company.
And we have the other 50%.
We have two million
total shares.
And we took four of that
million, let's say six months
have passed.
We hired 50 people, and we
finally built a working
version of our website.
But we now are about
to run out of cash.
We still haven't started selling
things, and we'll
actually have to start selling a
lot of things before we have
enough money to support
ourselves.
So we need to go start
raising money again.
And we also want to spend money
marketing and all the
rest. So we go to some
professional investors.
We'll go to seed venture
capitalists, and we're going
to do our Series A
round of funding.
Which just means our first kind
of professional venture
capital round of funding.
We finally-- some guy finds
a team that, they like us.
And we start getting
to the negotiation.
They say, you know what?
You guys say you need
$10 million.
We believe you.
We know that that's what it
takes and we think you have a
good business.
So, let's see, let me say that
we need to raise $10 million.
Just so I make that clear.
We need it for ongoing
expenses.
And of course we'll have a big
business plan and everything
that further fleshes this out.
And we also have need-- we're
going to do some marketing, et
cetera, et cetera.
So they say, you know, we have
$10 million and we think this
is a hot space, because we know
those other VC's across
the street also invested in an
online undergarment play.
And we know that that's the
hot thing right now.
So we're also going to do it.
So the question now is,
what do they get
for their $10 million.
So once again we get into
this what is the
company worth right now?
So once again, they're going to
do a pre-money valuation.
So what is this whole thing
worth right now?
So they'll say, the
idea's good.
They won't break down.
They won't say oh, the idea
is worth $5 million.
But the general idea is,
hopefully, from that stage
where the post-money valuation
was $10 million, right?
Back here it was $10 million.
Then we did a bunch of work.
We used some of this
$5 million.
We did a bunch of work.
Hopefully we added value.
If we added value, our value of
this stuff now, this-- we
turned this cash into other
types of assets like a website
and other things, and knowledge
in our firm, and
expertise, and all that stuff.
Hopefully now, what we have here
is worth more than $10
million, right?
Otherwise we kind of
destroyed wealth.
And all of this is
very intangible.
It's very hard for someone to
really place a value on things
at this point.
A lot of VC's, they kind of
swing for the fences.
They're like, you know what,
these guys have a 10% chance
of being worth a billion
dollars, and a 90%
of being worth 0.
If I make 10 of these bets, at
least one of them is going to
pay off and make
my whole fund.
And so that's how they
kind of think.
So at this level, they'll do
some hard negotiating.
But it often times is going to--
not at this level, this
is where we are right now-- it's
kind of what other people
got for this stage
of a company.
They say oh, you know,
you have a pretty
good built-up website.
Those other guys who had a
pretty good built-up website
at this point, those guys across
the street, they had to
pay-- they had to give a $20
million pre-money valuation.
But you know, you guys are a
little bit-- your market isn't
quite as big as the broader
undergarments market.
You're just socks.
So the opportunity
isn't as big.
So we'll give you a $15 million
pre-money valuation.
So they're saying that what
we have right now
is worth $15 million.
And that's pretty good.
If that were reality, if it
really is worth $15 million,
then what are our shares
worth right now?
Notice, they haven't
given us any money.
This is the pre-money
valuation.
So $15 million divided by two
million shares, right?
That's how many we
have right now.
So what is the value
per share?
15 million divided by 2
is $7.50 per share.
That's pretty good.
Because back here-- remember,
this is kind of a scenario
that didn't happen, that was
kind of a negative scenario--
but back here when the pre-money
was $5 million for a
million shares, it
was $5 per share.
Then it became $10 million
for two million shares,
still $5 per share.
But before and after this round,
that angel said oh,
your shares are worth
about $5 per share.
Now this VC, who is a
professional investor and has
teams of MBA's making
spreadsheets for him, says
that actually, what we
have right here is
worth $7.50 a share.
So just over those six months
we actually got a 50% return
on our shares, if you
believe that.
And the angel investor's
happy.
He feels good about it.
This was vindication
for his bet on us.
So we feel good.
We feel like we've given
him, at least in the
short term, a return.
So anyway, we get a $15 million
pre-money valuation.
And I'll let you think
about this one.
What's the post-money
valuation?
What happens when you layer on
the $10 million from this
venture firm?
Actually, just to make the math
simple, let's say that
we're raising 7.5 million.
Let's say that we wanted 10
million, but we were hoping
for 20 million pre-money
valuation, because that's what
the other guys got.
And since they're only giving us
a $15 million pre-money, we
just don't want to take as many
shares from them, because
we don't want to give as much
of the company away.
So we're just going to take $7.5
million, because we think
that's just enough that
we need to keep going.
So we do that.
We take $7.5 million from this
seed venture capitalist. And
he essentially valued our old
shares at $7.50 per share.
So, for $7.5 million at $7.50
per share, he should get
another million shares.
So what we're going to do--
this angel investor is
probably sitting on our board
now because he owns so many of
the shares.
The board of directors of a firm
is essentially elected by
the shareholders.
So if you have 50% of the
shares, you can put yourself
on the board.
You could probably put some
other people on the board of
directors as well.
So, we had two million.
These guys get a million.
How many shares do
we have now?
We now will have three
million shares.
So we had to issue another
million shares.
And what is our post-money
valuation?
Pre-money was 15.
We have $7.5 million now.
Our post-money valuation
is $22.5 million.
And now, what percentage
do each of us own?
So the angel investor owns one
million, not out of two
million shares like
he used to.
He now owns one million out
of three million shares.
So now he owns 30%.
The seed VC, he has a million
out of three million, so he
owns-- well this is 33
and 1/3%-- the seed
VC owns 33 and 1/3%.
And then me and my buddies, we
collectively own 33 and 1/3%,
and I have 1/5 of that, so
I have a little over 5%.
So the founders, that's us, we
still have about a third of
the company.
And now we have the $7.5 million
we just raised, plus
we have the million dollars
in cash we had before.
We have $8.5 million to keep
on going with our business.
Fair enough.
So let's say another
six months go by.
So our old balance sheet-- let
me draw all of the shares-- I
want to do a couple of more
rounds of financing before I
take the company public.
So this is my slice down
here, $200,000.
This is the angel investor.
This is the seed VC.
And then, of course, let's say
after, I don't know, another
six months we burn
through the cash.
We've marketed the website, we
have only $1 million left.
And that's usually our trigger
point for when we want to
raise more money.
In fact we probably would have
to do it at $2 million because
we've raised more employees, and
we're burning more cash.
Your cash burn is essentially
how much cash is going out of
the door every month, because
your business still isn't
making money.
And of course you have all of
the assets of the firm, which
essentially, it's a website,
and offices, and the
knowledge, some of
it intangible.
So, website, and everything
that comes with it.
Your brand now, you probably
have, because you've marketed.
So people recognize
socksonline.com.
I don't know if that already
exists so forgive me if I'm
actually somehow insulting a
real business out there.
But you have a brand now.
And so you're almost ready.
You're actually generating
revenue.
But you're still kind of
cash flow negative.
You're burning less money
because people are actually
going to your site.
They're buying stuff.
But you just need a little bit
more money, you think, to get
profitable, right?
Once you get this amount of
money, you're ready to go.
So you go to another VC.
Once again, a lot of
them turn you away.
But one guy finally says OK,
I'll give you some money.
And you say, you know
I need $5 million.
He says, fair enough.
I'm going to value your business
at-- let's say we're
in an optimistic world, so
we're doing up rounds.
Up rounds are when your
pre-money valuation of this
round is more than the
post-money valuation of the
last round.
So the value is going up.
You are creating value.
It would be a down round-- like
here, they valued us at
$15 million.
While the post-money of our last
round was $10 million.
So that was an up round.
If these guys said no way,
the world has changed.
We're only going to value all
of this stuff at $8 million,
then that would be a down round,
and no one's happy
about that.
We'll talk about the
repercussions of that in the
future, why down rounds
aren't good.
So often times, you actually
don't want to get too good of
a valuation.
Because if you get too good of a
valuation, in the next round
it might be hard to get people
who are going to give you a
better valuation.
You might be forced to take
a down round, which
has negative aspects.
But just quick and dirty, you're
a prominent brand now.
It's a little easier for
you to raise money.
You go to some VC who
specializes in kind of helping
people get to that profitability
stage.
And what you do is you
raise your Series B.
And just to put it simply,
it's an up round.
Your post-money from your last
round was $22.5 million,
right? $22.5 million.
You've generated some value.
So now they say,
you know what?
Your business is worth
$30 million.
And you need another
$10 million to
really pump up the marketing.
How many shares do they get?
Well the pre-money was $30
million, we had three million
shares, so they're assigning us
a value of essentially $10
a share, which is great.
Remember the first round, the
angel gave us $5 per share?
Second round we got
$7.50 per share.
And now we're getting
$10 per share.
So if we're selling him shares
at $10 per share, we just have
to issue another million shares
to get $10 million.
It's another million shares,
and this goes to
VC2, the second VC.
And that's our Series B.
We raised $10 million.
Fair enough.
So we've done one round
of angel investing.
And then we've got
our Series A that
gave us the $7.5 million.
Then we did our Series B that
gave us $10 million.
And we could keep doing this,
Series C, Series D, and so on
and so forth.
And I'll continue this
in the next video.