Deal Terms and Their Impact on Returns, Part 2

Posted By Justin Byers, Lead Business Intelligence Analyst on October 14, 2009

Last week we discussed the impact that the Deal Terms have on Returns, and how tweaking some of them might help in negotiating a new round of capital. This is something that could be applied to both sides of the table. We previously showed how the Return would react when the Participation Cap is changed from 0 to 3×. This week we are going to look at a different term, the Liquidation Multiple, and see how it can affect the return using the scenario and terms below.

Example

There is already a Series A Preferred round in place for $2 MM, and now there is a proposed Series B Preferred round for $5 MM using the terms below. What if there was a change in the Liquidation Multiple of the proposed Series B Preferred below from 1x to 2x? What would that look like if the company took a $70 MM exit in 2 years?

The Terms for the Series A Preferred were:

Investment Date	03/01/2007
Liquidation Preference for the Current Round	N/A
Round of Financing	Series A
Round Direction	N/A
Multiple of the Liquidation Preference:	1x
Type of Preferred Stock	Participating
Capped Participating Preferred	NO
Anti-Dilution Protection	Weighted Average
Redemption at Investor’s Option	No
Pay-to-Play Provisions	No
Cumulative Dividends	Yes
What was the Dividend Rate?	8
Per Share Price	$1
Total Amount Invested in Round	$2 MM

Proposed Terms for the Series B Preferred:

Proposed Investment Date	10/15/2009
Liquidation Preference for the Current Round	Senior
Round of Financing	Series B
Round Direction	Up Round
Multiple of the Liquidation Preference.	1x
Type of Preferred Stock	Participating
Capped Participating Preferred	NO
Anti-Dilution Protection	Weighted Average
Redemption at Investor’s Option	No
Pay-to-Play Provisions	No
Cumulative Dividends	Yes
What was the Dividend Rate?	8
Per Share Price	$2
Amount to be Raised	$ 5 MM

Example Company Cap Table may look something like:

Description	Holder	Shares Issued	Amount Invested	Warrants & Options Vested	Dividends Accrued	Common Stock Equivalents	% of Company Equity	% of Equity Class
Common Stock	Founders	3,000,000	$30,000			3,000,000	30.91%	75.00%
Series A Preferred…	Investor 1	1,000,000	$1,000,000		373,333	1,373,333	14.15%	50.00%
Series A Preferred…	Investor A	1,000,000	$1,000,000		373,333	1,373,333	14.15%	50.00%
Common Stock	Investor A	1,000,000	$100,000			1,000,000	10.30%	25.00%
Employee Options	Employees	50,000	$10,000	50,000		50,000	0.52%	100.00%
Series B Preferred…	Investor B	1,250,000	$2,500,000		204,444	1,454,444	14.99%	50.00%
Series B Preferred…	Investor 1	1,250,000	$2,500,000		204,444	1,454,444	14.99%	50.00%
Totals:		8,550,000	$7,140,000	50,000	1,155,554	9,705,554	100%

Distributions at a $70 MM Trade Sale in 2 years, using a 1x Liquidation Multiple for the Series B Preferred:

Distributions of Proceeds by Investor (Along a Range of Assumed Exit Values)

Distributions of Proceeds by Class of Stock (Along a Range of Assumed Exit Values)

Distributions at a $70 MM Trade Sale in 2 years, using a 2x Liquidation Multiple for the Series B Preferred:

Distributions of Proceeds by Investor (Along a Range of Assumed Exit Values)

Distributions of Proceeds by Class of Stock (Along a Range of Assumed Exit Values)

The reports contained in this edition of the PEDC Data Center buzz come from the soon to be released Portfolio Analysis Tool. For more information about the Private Equity Data Center, please contact us at 646-290-9254.

Comments

This is great work...!!! When you see the graveyard of botched up M&A deals due to lack of a "Realistic Strategy", this Deal Terms Analysis deserves an applaud for creating such a master piece. "Deal terms and their impact on Returns" is done very well here and I appreciate the technical knowledge shown here. Howevr, Winston Churchill once said: "The best war Plans are good until the war begins" While robust and diligent Deal Terms analysis is the foundation of the M&A success, the SYNERGISTIC INTEGRATION provides the lasting value for the investors. Besides the financial analysis, I also deal with the operational $$$ impact due to the integration techniques developed by my company "Strictly Acquisition". Seems like a great opportunity to work together. Tony Desai (Strictly Acquisition) reply privately at Tony@strictlyacquisition.com
By Tony Desai on October 15, 2009

The Dividends are calculated as accrued on a daily basis and shown as a share amount not a $ amount.
By VC Experts on October 15, 2009

How is the Series B accrued dividend calculated? Seems to be low given two years.
By Brett woodard on October 15, 2009

Looking for a management annual budgetting tool. In setting up an investment banking entity, what resource can you direct me to that has information/forms etc. applicable to this industry for the annual budget and business plan exercise that will provide management with the tools to, on a quarterly basis, determine whether or not bankers hire for such advisory business are performing up to what should be reasonably expected of them, regardless of the start-up nature of the enterprise? Let me know. Thank you.
By Martin A. Schultz on October 15, 2009

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