Venture Capital Terms

The following article represents a glossary of important terms in alphabetical order associated with the venture capital industry. 

Each term has been summarized in simple terms. To understand the terms with great clarity and confidence search for the across a variety of online and offline sources. 

 

Anti-Dilution Provisions: 

Partially protects investors in the event that preferred stock is diluted or sold at a lower price. The provision protects against any down round by adjusting the stock price at which the preferred stock converts into common stock. 

 

 

Board Representation: 

Outlines the composition or membership of a board of directors involved in all of the significant and strategic decision making of the business. 

 

Conditions for Closing: 

Any and all outstanding items that must be addressed prior to the closing of a specific deal. 

 

Confidentiality: 

The legal requirement that a company or person not any disclose details of a contract, term sheet or deal. 

 

Conversion Rights/Obligations: 

Represents a shareholder's ability to convert preferred stock shares into common stock shares. Conversion rights affect the calculation of other shareholder rights. Most of which are determined by using outstanding share on an as-converted basis. 

 

Co-Sale Agreement: 

Enables an investor to sell some or all of their shares in  company if a founder wants to sell his/her shares and has found a buyer. 

 

Dividend Provisions: 

Represent specifications on whether or not dividends may be accruing or non-accruing. Dividend provisions are typically attached to the preference and discretion of a board of directors.

 

Drag Along Rights: 

Ensures that when a company is sold, the acquirer can purchase 100% of the company. This provision prevents a small share holder from being able to block the sale of the company.

 

Employment Relationships: 

Provisions relating to compensation & severance of employees of the company. 

 

Exclusivity: 

A provision that prevents a company from searching or ‘shopping’ for a better deal.  

 

Expenses:

A requirement that a company pay the investor’s legal fees post closing. 

 

Expense Break Up Fees:

Establishing clear expectations about the frees related to break-up a potential deal. 

 

Expense Reimbursement for Board Members: 

The expectation that a company pay for the travel and lodging expenses to attend the scheduled board meetings. 

 

Information Rights: 

Requires that a company report clearly defined information about a company to its shareholders on a cyclical basis. 

 

Liquidation Preference: 

The preference of a stockholder or investor received at a liquidity event or sale of the stock. Liquidation preferences typically represent a multiple of the investment that the investor gets back before the preferred shares are converted into common stock. 

 

Non-Compete and Non-Solicitation: 

A legal provision that ensures any executive leader, manager or employee is unable to work for a company competitor for a specific period of time. 

 

Non-Disclosure: 

A legal provision preventing any involved party from disclosing any defined information about a deal, the business or a specific technology. 

 

Pari Passu: 

Requires that all shareholders be treated the same or with equal rights of payment or through the dividing of assets regardless of seniority. 

 

Pay to Play: 

A provision requiring that investors participate in any new round of financing to maintain their pre-emptive rights in present and future rounds of capital raising. 

 

Pre-Emptive Rights: 

The right of an investor to buy more of a company stock to maintain a determined percentage ownership when new stock is issued. 

 

Protective Provisions: 

A provision required that executive leaders receive consent for specific actions from the company's outstanding shareholders.  

 

Redemption Clause: 

A provision outlining specific events that will occur at a  future date, typically 5-7 years time, if a company has not been sold or filed for it's initial public offering. 

 

Registration Rights: 

The legal right of a shareholder, or a group of shareholders, to participate in the public offering of a company. 

 

Reserved Employee Shares: 

A provision that outlines the process for creating and managing the option poo allocated to employees. 

 

Right of First Refusal: 

A provision allowing current investors or shareholders of a company to buy stock being sold by other shareholders before any outside or third party can purchase the stock. 

 

Securities Purchase Agreement:

A provision requiring that any deal be consummated with a legal agreement based on NVCA (National Venture Capital Association) standard guidelines and documents. 

 

Security Type: 

A definition of the type of security being purchased or sold. Typical security types include; common stock, preferred stock, participating preferred stock, non-participating preferred stock or convertible notes. 

 

Stock Restriction & Vesting: 

Details the restrictions attached to a specific class of company stock and the options allowed to vest the stock. Typically stocks can be vested, or awarded to specific parties after a duration of time has passed. Once a stock option has become vested the shareholder can exercise certain rights related to the stock including purchasing or selling. If the individual chooses to purchase the stock, he/she is typically able to do so at a predetermined price indicated in the restrictions attached to the stock. 

 

Transfer of Rights: 

A provision that allows a shareholder the ability to transfer company shares into another entity.  

 

Voting Rights: 

Outlines the specific issues shareholders are permitted to vote on, and how many votes are required for a specific motion to pass and become approved for action.

 

Waterfall: 

A provision outlining the priority of payments due to classes of investors who are not pari passu. 

 

Capitalization Terminology

 

To build upon the Venture Capital terminology glossary, we have included a number of valuable terms associated with the capitalization of a business. 

 

Amount Being Invested/Capital: 

Represents the amount of cash being invested during a specific round of capital financing by investors. 

 

Earnings Per Share:

Represents the calculation of a return on investment baed on individual share price. The calculation can be different based on whether or not undiluted or fully diluted shares are included in in the formula. The formula equals (Net Income - Preferred Dividends) / (Weighted Average of the Common Shares Outstanding).

Dividends are subtracted because the calculation must include the earnings only common share holders. 

The weighted average of the common shares represents calculating the shares registered at the beginning of a period, and the shares registered at the end of a period. Amounts of shares will change during rounds of capital financing. 

 

Investor: 

Represents the name of legal entity holding an amount of security or stock in a company. 

 

Percent Owned at Round End: 

Represents the percentage of units, stock or shares owned by an investors at the end of a round of capital raising.

 

Percentage vs. Capitalization thinking: 

With early stage businesses, a majority of investors think in terms of percentages, however the percentages are in effect derived from the stock register, or capitalization table. 

 

Pre-Money Valuation: 

Represents the valuation of a company before the any new money is invested into the company. 

 

Price Per Unity (Shares): 

Represents the price per unit or share being paid for during a round of capital financing by an investor or venture group. 

 

Post-Money Valuation: 

Represents the valuation of a company after new money is invested based on the value of the investment being made into the company. 

 

Round: 

Represents an event during which which time capital investment is being raised for a company. The round will define the specific elements of a security or stock being offered including the period of the investment opportunity and the price per share. A round is often used to group investments together for greater efficiency and to maximize the possible amount being raised. 

 

Security: 

Represents how a security is defined; common stock, preferred stock, convertible note, etc..., and the conditions of the investment, which typically refer to the stage of financing for instance; Series A, B, C, etc... 

 

Size of Pie: 

Represents the nominal value of the total units, stock or shares based on the stock price of a specific round of financing. The formula equals Total Units divided by Unit Price. 

 

Total Owned/Allocated at Round End: 

Represents the total amount of shares owned by a company's group of investors at the endow a capital financing round. The calculation includes all existing and new stock. 

 

Undiluted/Fully Diluted: 

Undiluted represents the full ownership of stock, or shares of any form. Fully Diluted represents the total number of shares outstanding if all possible sources of conversion or ownership are exercised including; option pool shares, warrants, and convertible bonds. 

 

Units at Start: 

Represents the total amount to stock on the register, or issued, before a specific round of capital financing. 

 

Unites being Purchased/Granted: 

Represents the total amount of units or shares of a defined security being purchased or acquired during a specific round of capital raising by investors. 

 

For more information one the listed terms consider exploring investopedia.com and the National Venture Capital Association website. 

 

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