Glossary of Terms
Absolute Priority: a rule that stipulates the order of payment – creditors before shareholders – in the event of liquidation.
Adventure Capitalist: A specific type of investor that is now able to participate in a new asset class named Regulation Crowdfunding (Reg CF) Under Title III of the Jumpstart Our Business Startups Act (JOBS Act) passed in May 2016. The general public for the first time ever has been able to invest in startups and businesses over the internet alongside wealthy investors and traditional venture capitalists (VC’s). While Adventure Capitalists may not have deep pockets, they tend to accept greater risk and better identify with the products, services, and technologies of companies they believe in.
Accelerator: entities focused on helping entrepreneurs grow new business concepts. Accelerators offer fixed-term, cohort-based programs, often including professional advice and guidance, that culminate in a public pitch event or demo day.
Accredited Investor: an investor who meets specific SEC income and net worth criteria, allowing him or her to invest in startups and other high-risk private company securities.
- Based on the current U.S. Securities and Exchange Commission (SEC) regulations, most startup investment opportunities are available only to accredited investors. An accredited investor is defined under rules set by the SEC.
- You are an accredited investor if you meet one or more of the following criteria:
- Any bank as defined in section 3(a)(2) of the Act, or any savings and loan association or other institution as defined in section 3(a)(5)(A) of the Act whether acting in its individual or fiduciary capacity; any broker or dealer registered pursuant to section 15 of the Securities Exchange Act of 1934; any insurance company as defined in section 2(a)(13) of the Act; any investment company registered under the Investment Company Act of 1940 or a business development company as defined in section 2(a)(48) of that Act; any Small Business Investment Company licensed by the U.S. Small Business Administration under section 301(c) or (d) of the Small Business Investment Act of 1958; any plan established and maintained by a state, its political subdivisions, or any agency or instrumentality of a state or its political subdivisions, for the benefit of its employees, if such plan has total assets in excess of $5,000,000; any employee benefit plan within the meaning of the Employee Retirement Income Security Act of 1974 if the investment decision is made by a plan fiduciary, as defined in section 3(21) of such act, which is either a bank, savings and loan association, insurance company, or registered investment adviser, or if the employee benefit plan has total assets in excess of $5,000,000 or, if a self-directed plan, with investment decisions made solely by persons that are accredited investors;
- Any private business development company as defined in section 202(a)(22) of the Investment Advisers Act of 1940;
- Any organization described in section 501(c)(3) of the Internal Revenue Code, corporation, Massachusetts or similar business trust, or partnership, not formed for the specific purpose of acquiring the securities offered, with total assets in excess of $5,000,000;
- Any director, executive officer, or general partner of the issuer of the securities being offered or sold, or any director, executive officer, or general partner of a general partner of that issuer;
- Any natural person whose individual net worth, or joint net worth with that person’s spouse, exceeds $1,000,000.
- Any natural person who had an individual income in excess of $200,000 in each of the two most recent years or joint income with that person’s spouse in excess of $300,000 in each of those years and has a reasonable expectation of reaching the same income level in the current year;
- Any trust, with total assets in excess of $5,000,000, not formed for the specific purpose of acquiring the securities offered, whose purchase is directed by a sophisticated person as described in §230.506(b)(2)(ii); and
- Any entity in which all of the equity owners are accredited investors.
Acquisition: the process through which one company obtains ownership of another entity’s stock, equity interests, or assets.
Alphabet Rounds: the early rounds of funding for a startup company, which get their name because the first is known as Series A financing, followed by Series B financing, and so on.
Angel Investor: a single individual (as opposed to a firm) who provides his or her personal capital to fund a startup company.
Annual Report: a company’s yearly report to shareholders, documenting its activities and finances in the previous financial year.
Bankruptcy: a legal proceeding involving a person or business that is unable to repay outstanding debts.
Bond: a bond is a debt investment in which an investor loans money to an entity (typically corporate or governmental) which borrows the funds for a defined period of time at a variable or fixed interest rate.
Bootstrapping: this is when an entrepreneur starts a company with little to no capital. It is often an attempt to found/build a business from personal finances or from the operating revenues of the new company. This can be beneficial, as the entrepreneur maintains control over all decisions rather than having investor input, but there is also a high risk of not maintaining enough capital to maintain expenses and reach key milestones.
Bridge Loan: a loan which is designed to “bridge the gap” between institutional investment rounds.
Buyout: when a purchaser gets controlling interest in a company after it buys the requisite number of shares.
Campaign: an intense effort on the part of an organization to raise significant dollars in a specified period of time.
Cap: a valuation ceiling that exists in a convertible debt deal.
Cap Table: a detailed spreadsheet that outlines all the stockowners of a company and the terms at which they have invested.
Capital Funding: the money that lenders and equity holders provide to a business. A company’s capital funding consists of both debt (bonds) and equity (stock). The business uses this money for operating capital.
Carry/Carried Interest: profits that a VC is entitled to after returning principal and interest to investors. This can range from 10-30%.
Closing: the final event to complete an investment, at which time all the legal documents are signed and the funds are transferred.
Common Stock: the type of stock generally issued to company employees. This class of stock (shares) generally has the least amount of rights and privileges. Common stock is a lesser class of stock than preferred stock.
Convertible Debt (or Convertible Notes): a debt or loan that will be paid back in the future in the form of equity or company stock.
- When sourcing capital for a new business venture, entrepreneurs utilize one of two basic structures: debt or equity. Debt is a capital source with a finite life and clearly defined return profile known at the initial investment. With debt financing, a company is required to pay interest throughout the term of the loan with principal repaid at maturity. Conversely, equity investors are issued shares representing ownership in an enterprise. While equity does not require repayment over a defined time period, an entrepreneur’s stake in his or her company is diluted through the issuance of equity to outside investors.
- Given the dynamics of early-stage companies, venture capital investors use a hybrid funding mechanism, convertible debt. Convertible debt, in the context of venture capital financing, is a funding structure that combines the benefits of debt and equity into a single capital source. Convertible debt, usually in the form of a convertible note, is essentially a loan which converts into equity at a later date.
- A convertible note is a short-term loan with maturities ranging from 12 to 36 months. Instead of paying interest in the form of cash, which would deplete valuable resources of a young company, interest accrues until maturity or conversion. A conversion of the loan (plus accrued interest) into equity is triggered by a subsequent priced equity financing round, typically known as a Series A financing. To compensate convertible note holders for the additional risk assumed with investing at an early stage, most convertible notes feature a conversion price below that of the subsequent financing round through the use of a valuation cap or a discount on the purchase price. Importantly, a valuation cap and a discount are mutually exclusive conversion features thus cannot be applied simultaneously. The note holder will ultimately utilize the conversion feature resulting in the most advantageous purchase price. Below is a demonstration of how a convertible note functions in practice.
- There is no assurance that a purchaser of a convertible note will realize a return on its investment or that it will not lose its entire investment. Additionally, purchasers will not become equity holders unless there is a future fundraising event, an IPO, or sale of the Company none of which can be guaranteed.
Crowdfunding: the process by which a large number of individuals make small monetary contributions into a single pool, ultimately funding a new venture or project.
Debt Financing: when a firm raises money for working capital or capital expenditures by selling bonds, bills, or notes to investors, promising to repay the debt with interest.
Down Round: when investors purchase stock or convertible bonds from a company at a lower valuation than the preceding round. Lower valuations can occur for a number of different reasons, from increased competition to changing investor perceptions. During fundraising, each funding round usually results in the dilution of ownership percentages for existing investors. However, during a down round, the need to sell a higher number of shares to meet financing requirements increases the dilutive effect. Raising capital in a down round is often a company’s last resort, but the new funding may represent the company’s only chance of staying in business.
Due Diligence: comprehensive review or investigation of material facts in regards to an investment or transactions.
Early Stage: a period of venture capital investment that falls between seed- and late-stage deals that include Series A and Series B financings. These companies typically have a proven concept and little revenue.
Entrepreneur: an individual who, rather than working as an employee, runs a small business and assumes all the risks and rewards of a given business venture, idea, or good or service offered for sale. The entrepreneur is commonly seen as a business leader and innovator of new ideas and business processes.
Equity Financing: when a company raises money by selling its shares, allowing shareholders to become partial owners of the company through the purchase of stock. Equity financing spans a wide range of activities in scale and scope, from a few thousand dollars raised by an entrepreneur from friends and family, to giant initial public offerings (IPOs) running into the billions by household names such as Google and Facebook. While the term is generally associated with financings by public companies listed on an exchange, it includes financings by private companies as well. Both debt and equity financing can happen independently or in conjunction with each other.
Exit Strategy (Liquidity Event): this the VC’s way of seeing a return on an investment in a company. Common types of exit strategies include initial public offerings (IPOs), strategic acquisitions, and management buyouts.
FINRA: this is the Financial Industry Regulatory Authority (“FINRA”). FINRA provides tools, templates, and other resources for firms with 150 or fewer registered representatives. FINRA has also established the Small Firm Advisory Committee (“SFAC”) to advise FINRA leadership and the Board of Governors.
Founders: in business, founders are the people who establish the company — that is, they take on the risk and reward of creating something from nothing.
Friends and Family Shares (Directed Shares): a company’s stock that is offered to select individuals prior to the stock’s launch to the public (IPO). It allows them to have a stake in the future success of the company. These shares typically represent a small percentage of an offering, less than 5%, but can create significant gains for the holder.
Fund: a source of money that will be allocated to a specific purpose. Individuals, businesses, and governments all use funds to set aside money. Individuals might establish an emergency fund or rainy-day fund to pay for unforeseen expenses, or a trust fund to set aside money for a specific person. A college may set aside money to award a scholarship and an insurance company may set aside money to pay its customers’ claims.
Fundraising: active seeking of financial support for a charity, cause, or other enterprise — in this case, a startup venture.
General Partner: an owner of a partnership who has unlimited liability and who is active in the day-to-day operations of the business.
Incubator: entities that advise young companies in their earlier days, most commonly before they have received a significant investment. Aside from offering the companies a physical workspace, incubators provide an array of services – marketing help, guidance on product development, legal assistance, access to a network of investors, and pitch/presentation training – designed to ready companies for growth and success.
Initial Public Offering (IPO): marks the first moment that shares of stock are offered to the public. When this happens, the company becomes publicly traded and is subject to an entirely new array of securities regulations (among other things). This also means the company will be listed on an exchange.
Institutional Investors: investors represented by groups that invest and manage funds on the investor’s behalf, including pension funds, investment funds, and mutual funds.
Investment Crowdfunding: a way to source money for a company by asking a large number of backers to each invest a relatively small amount with it. In return, backers receive equity shares of the company. Previously restricted to accredited investors, the 2012 JOBS Act allows for a greater scope of investors to invest via crowdfunding.
Investment Fund: a supply of capital belonging to numerous investors used to collectively purchase securities, while each investor retains ownership and control of his own shares. An investment fund provides a broader selection of investment opportunities, greater management expertise, and lower investment fees than investors might be able to obtain on their own. With investment funds, individual investors do not make decisions about how a fund’s assets should be invested. They simply choose a fund based on its goals, risk, fees and other factors. A fund manager oversees the fund and decides which securities it should hold, in what quantities, and when the securities should be bought and sold. Types of investment funds include mutual funds, exchange-traded funds, money market funds, and hedge funds.
Issuer: the legal entity that develops, registers, and sells securities (shares, bonds, notes, etc.) to finance its operations.
JOBS Act: Jumpstart Our Business Startups Act, passed in April 2012. Read More Here.
Late Stage: rounds Series C and later are typically categorized as late stage.
Lead Investor: the first person to put money into your deal. They aren’t necessarily the person that puts all the money into your deal, but they are the first step in the process that makes the rest of the process take flight. A Lead Investor Is Social Proof To Other Investors.
Leveraged Buyout (LBO): when one company uses a significant amount of borrowed money to meet the cost of acquiring another company. Assets of the company being acquired are often used as collateral for the loans, along with the assets of the acquiring company.
Limited Partner: a co-owner of a business organized as limited partnership who (unlike a general partner) does not participate in the management of the firm and has limited personal liability for the firm’s debts.
Liquid Asset: an asset that can be converted into cash quickly, with minimal impact to the price received in the open market. Liquid assets include money market instruments and government bonds.
Liquidation: an event that usually occurs when a company is insolvent, meaning it cannot pay its obligations. The company’s operations are brought to an end, and its assets are divvied up among creditors and shareholders, according to the priority of their claims. Once the process is complete, the business is dissolved.
Liquidation Preference: determines the payout order in case of a corporate liquidation. More specifically, liquidation preference is frequently used in venture capital contracts to specify which investors get paid first and how much they get paid in the event of a liquidation event, such as the sale of the company.
Lock-up Period: the length of time an investor must wait before selling or trading company shares after an exit.
Love Money: seed money or capital given by family or friends to an entrepreneur to start a business. The decision to lend money and the terms of the agreement are usually based on qualitative factors and the relationship between the two parties, rather than on a formulaic risk analysis.
Pitch Deck (Slide Deck): a brief presentation, often created using PowerPoint, Keynote or Prezi, used to provide your audience with a quick overview of your business plan. You will usually use your pitch deck during face-to-face or online meetings with potential investors, customers, partners, and co-founders.
Portfolio Company: a company in which a venture capital firm has invested, thus, making that company part of the venture capital “VC” firm’s portfolio.
Pre-money and Post-money Valuation: pre-money valuation refers to what a company is worth before it receives any sort of funding. Let’s say the initial agreed-upon valuation is $3 million. If a venture capital firm then invests another $1 million, the post-money valuation would be $4 million (the sum of the pre-money valuation and the additional funding).
Preferred Stock: has a higher claim on assets and earnings than common stock. Preferred shares generally have a dividend that must be paid out before dividends to common shareholders, and the shares usually do not carry voting rights.
Primary Investment Opportunity: an investment opportunity that allows investors to acquire equity in an issuer through a primary transaction.
Primary Transaction: the acquisition of stock (shares) or debt instrument from the issuer directly.
Professional Investor: an investor which is considered to be a professional client or may, on request, be treated as a professional client within a specified context. This is generally a corporation, partnership, proprietorship or any other entity, even if they do not run investment services. This can also be a natural person who is authorized to give investment services or registered with the Securities Exchange Commission “SEC” (or authorities with similar functions in other countries).
Pro-rata Rights: the right of investors to participate in later funding rounds so they can maintain the amount of equity they own in a company.
Regulation A+ Offering: a type of offering which allows private companies to raise up to $50 Million from the public. Like an IPO, Reg A+ allows companies to offer shares to the general public and not just accredited investors.
Regulation Crowdfunding Offering: type of offering that permits individuals to invest in securities-based crowdfunding transactions subject to certain investment limits.
Regulation D Offering: a type of offering which allows usually smaller companies to raise capital through the sale of equity or debt securities without having to register their securities with the SEC.
Return on Investment (ROI): the money the investor would get back from his or her initial investment.
Revenue Sharing: this can take many different forms, although each iteration involves sharing operating profits or losses among associated financial participants. In crowdfunding, sometimes revenue sharing is used as an additional incentive — a small business owner may pay investors a percentage reward for referring new customers, for example. Other times, revenue sharing is used to distribute profits based on certain sales targets. Revenue sharing may be combined with other financial instruments as an added perk.
Risk: the likelihood of seeing a lower return than expected, including the possibility of losing some or all of the original investment.
Rounds of Financing: startups raise money from venture capital firms in different rounds, typically called Series Seed, A, B, C, D, etc. Series Seed is the first round and is typically for the company to figure out the product it is building, the market it is in, and the user base. Series A is intended to help the company scale distribution or develop a business model. Series B is typically scaling the business and continuing to build traction. Funding amounts in each round generally increase.
SAFE (Simple Agreement for Future Equity): a warrant to purchase stock in a future priced round. Both SAFE and convertible notes allow for conversion into equity, but while a convertible note can allow for the conversion into the current round of stock or a future financing event, a SAFE only allows for conversion into the next round of financing.
SEC: this is the U.S. Securities and Exchange Commission. Its mission is to protect investors, maintain fair, orderly, and efficient markets, and facilitate capital formation.
Secondary Investment Opportunity: an investment opportunity that allows investors to acquire equity in an issuer through a secondary transaction.
Secondary Transaction: the acquisition of stock (shares) from sources other than the issuer (employees, former employees, or investors).
Seed Capital (Seed Funding): this is the initial capital used when starting a business, often coming from the founders’ personal assets, friends or family, for covering initial operating expenses and attracting venture capitalists. This type of funding is often obtained in exchange for an equity stake in the company.
Seed Stage: this is the early stage of business that runs on seed capital. During this phase, the startup is looking for funds to prove its concept, and that money can be helpful in building a prototype and proving the business concept. The seed round may be followed by additional rounds of funding.
Series A (A Round): this is the first round of financing given to a new business once seed capital has already been provided. Typically, this is when external investors are given company ownership for the first time. It is also known as round A or A-round financing.
Series B (B Round): this is the second round of financing for a business through any type of investment including private equity investors and venture capitalists. It generally takes place when the company has accomplished certain milestones in developing its business.
SIPC.: this is the Securities Investor Protection Corporation. It protects against the loss of cash and securities – such as stocks and bonds – held by a customer at a financially-troubled SIPC-member brokerage firm. The limit of SIPC protection is $500,000, which includes a $250,000 limit for cash.
Slide Deck (Pitch Deck): a presentation in which startup founders show their business concept and summarize financial projections for a VC.
Sophisticated Investor: an investor who does not meet the qualifications of an accredited investor but who holds sufficient investing experience and knowledge to weigh the risks and merits of an investment opportunity.
Startup: a company that is in the first stage of its operations.
Syndicate: a group of investors who invest in a startup together.
Term Sheet: a non-binding document that details the terms and conditions of the investment. This acts as a quick introduction to the investment opportunity and highlights some of the more complex legal documents that will follow.
Title3 Regulation: this is Title III of the JOBS Act, otherwise known as Regulation Crowdfunding or Reg CF. It was passed on May 16, 2016, with the goal of driving growth in small businesses. It legalizes retail investment crowdfunding, opening up the investor pool to over 300 million potential investors.
Title3Funds: this is a crowdfunding platform that brings together investors and capital-seeking startups. It is a premier gated-entry investment platform that specializes in crowdfunding for Title3 offerings.
Valuation: the process of determining the present value (PV) of an asset by an investor or business.
Venture Capital (VC): financing that investors provide to startup companies that are believed to have long-term growth potential but also a substantial amount of risk.
Venture Capitalist (VC): a person who invests in a business venture, providing capital for startup or expansion. An investment from a venture capitalist is a form of equity financing – the VC investor supplies funding in exchange for taking an equity position in the company.