By: Dr. Marlo Rencher
I recently completed an online certificate program for Venture Capital University, which provides an excellent foundation of knowledge for emerging investors. It’s a collaboration between the University of California’s Berkeley Center for Law and Business and the National Venture Capital Association.
The Investment Thesis
This video is the last of a three-part series of my key takeaways from taking this venture finance course. Today, I’m going to talk about dilution. Dilution describes what happens when the relative ownership of a company shifts as investors provide capital in exchange for equity in a company. In the course of a company’s funding lifecycle, what usually happens is that the founders start with 100% ownership of the company. Over time, they exchange pieces of the company for money and they end up with less and less of the company. They hope to grow the value of the company so that with each round of funding, the relative value of the company is increased. So the last 10% of the company that they give up SHOULD bring in more money than the first 10% they give up. And that makes sense, right? Over time, a company should have more customers, more contracts, more knowledge, and more know-how. They should be more valuable overall and therefore it should cost more to invest in them later in the company’s life. Of course, it doesn’t always happen that way.
VC University does a great job of going over the math of how investments work. There is an intensive module where you work through different financing scenarios on an Excel spreadsheet and note how equity changes for different types of investors. After going through this part of the program, I felt a lot more confident about knowing the nitty gritty details of an investment. In my opinion, this part was the most challenging, and it was also the most gratifying to satisfactorily complete.
Advice for entrepreneurs
So for entrepreneurs – the important part to know is that you really have to examine the terms of a financing offer to know if it puts you in the best position to maximize your return when you exit your company. So as you determine how to best fund your company, you have to make sure that you are closely examining your offers. You have to see what expertise firms bring to the table and the terms under which they provide that expertise. Ideally, you will have guidance from an objective and experienced advisor because some terms are really unfriendly for founders.
Advice for Investors
For investors – the key takeaway is to make sure that you know the financial and reputational implications of the deals that you offer. Investors live and die by their track record. But that record will not only be measured in exit multiples, it will be measured in how you work with the businesses you invest in. The better your reputation, the better companies you will attract.
I hope you learned something of value. I definitely recommend the VC University online certificate program if you are looking to sharpen your knowledge in venture finance. Thanks so much for watching this video.