Format A B C X: Seed Capital $50,000 $100,000 $150,000 Y: Founder shares 180,000 200,000 300,000

John and Steve are college buddies that co-found a startup (NewCo) two years ago. John and Steve each invested $X (__________) in seed capital to found the company. They each obtained Y (________) shares as founder shares and for the initial capital they put in (FYI, this is called sweat equity). During the two years, they spent all their energy in product development and had no revenue. Therefore, they had to raise some capital from Johns uncle and a few angel investors. In addition, they hired a few engineers to develop the product. To get them leave their current jobs and join the highly risky startup, all employees were granted with stock options.

After a couple of years of R&D, NewCo is finally close to succeeding in the commercialization of its product. NewCo now needs to hire five sales managers and also needs to repay some loan ($100,000) that it borrowed from a bank. Consequently, John and Steve need to raise additional capital from venture capitalists to finalize NewCos commercialization effort, pay salary to the newly hired sales managers, and survive for the 12 months. They believe that NewCo will generate positive cash flow within a year.

Capitalization Table:

Shareholder Amount invested Number of shares % ownership John (CEO) X (_______) Y (_______) 20% Steve (Chief Nerd) X (_______) Y (_______) 20% Johns uncle $100,000 100,000 10% Angel investors $200,000 200,000 20% Employee stock option pool N/A 300,000 30%

Table B: Use of proceeds

Product commercialization expenses$ 300,000 Additional R&D expenses$ 300,000 Operating expenses for the next 12 months$ 200,000 Short term debt payable$ 200,000 ==================================================== Total Amount to be Raised$1,000,000

Two venture capital firms approached to John & Steve and offered the following terms for a potential investment in NewCo. John and Steve decided that they did not want to dilute ownership too much and want to choose only one firm to receive capital.

Garage Capital (GC) Revolutionary Ventures (RV) Investment amount: $1.0 million Ownership wanted: 20% Typical preferred shareholders rights Full ratchet antidilution clause Liquidation preference: 3X Full participation right for liquidation events Investment amount: $1.0 million Shares wanted: 300,000 Typical preferred shareholders rights No antidilution clause Liquidation preference: 2X Liquidation rights capped at 3X

a) Suppose that NewCo received funding from Garage Capital. Fill in the blank spaces for the new table describing the ownership structure. (2 points)

Shareholder Amount invested Number of shares % ownership John (CEO) X (_______) Y (_______)

Steve (Chief Nerd) X (_______) Y (_______)

Johns uncle $100,000 100,000

Angel investors $200,000 200,000

Employee stock option pool N/A 300,000

Garage Capital $1,000,000

Total

100%

b) What is the pre-money and post-money valuation of NewCo if it received funding from GC? (1 points

c) How much is Johns ownership worth on paper now? (1 point)

One year goes by. As projected, NewCo has successfully commercialized its product and achieved positive cash flow. One day, John got a call from another friend Mike who works at an investment bank. Mike says that a Fortune500 company is interested in buying NewCo for $10 million in CASH! The deal can be closed in matter of weeks.

d) How much of the $10 million will be distributed to GC if the deal gets closed? How about to John? (1 point)

e) Would John have been better off if NewCo took the money from Revolutionary Ventures? How much money would be distributed to John if the same transaction with the Fortune500 company occurred after receiving an investment from RV instead of GC? (1 point)

f) Another investment banker friend of John and Steve, Susan, suggests that NewCo could go public the following year if they didnt accept the offer from the Fortune500 company. She says that NewCo shares could be sold as high as $10 per share at IPO. How much would John be worth on paper if NewCo went IPO? Assuming GC to be the investor in NewCo, how would GC feel about the IPO option (as opposed to the sell-out option) if the managing partners at GC also believed in Susans projected share price? Note that once a company goes public, preferred shares get converted into common shares.