299 Glossary technology, company profi le, and the competitive landscape. It also describes future fi nancial data. CAGR (compound annual growth rate) : Year over year growth rate calcu- lated on an investment using a base amount. Call Option : Owner’s right to buy a security at a given price by a specifi c time period. Capital (or Assets) Under Management : Amount of capital available to a fund manager to invest. Capital Call : Approach to investors executed by venture capital fi rms when it has decided where to invest. The money usually has already been prom- ised to the fund, but the capital call is the formal act of transferring the money. Capital Gains : Difference between an asset’s purchase price and its selling price when the selling price is greater than the purchase price. Capitalization Table : Recaps the total amount of the different securities issued by a fi rm; it usually includes the amount of the fi nancial resources raised from each source and the securities distributed. Capitalize : Booking expenditures as assets rather than expenses. Captive Funds : Venture capital fi rm owned by a bigger fi nancial institution. Carried Interest : Portion of any gains realized by the fund without contribu- tion to capital. Carried interest payments are widespread in the venture capital industry as an important economic incentive for venture capital fund managers. Cash Position : Amount of cash available to a company at any given moment. Claw Back : Obligation consisting of a promise made by the general partners that they will not receive a share greater than the fund’s distributions. When the partners violate this rule, they have to return excess amount to the fund’s limited partners. Closed-end Fund : Fund whose risk capital includes a fi xed number of out- standing shares that are offered during an initial subscription period. After closing the subscription period, the shares are exchanged between investors in a regulated market. Closing : Investment event occurring after the required legal documents are signed between the parties. 300 Glossary Co-investment : Syndication of a private equity fi nancing operation or an invest- ment realized by individuals next to a private equity fund in a fi nancing round. Collar Agreement : Consists of conventional adjustments of the number of shares offered during a stock-for-stock exchange to account for price fl uctua- tions before the completion of the deal. Committed Capital : Total amount of capital committed to a private equity fund. Committed Funds or Raised Funds : Capital pledged by investors equal to the maximum cash that may be requested or drawn down by the private equity managers. The difference between this amount and the invested funds: most partnerships will initially invest only between 80 and 95% of commit- ted funds, it may be necessary early in the investment to deduct the annual management fee used to cover the operation costs of a fund, and payback to investors usually begins before the fi nal draw down of commitments has taken place. Common Stock : Security representing the base unit ownership of a company. In a public company, the stock is traded between investors on various public markets. The stocks entitle their owners to vote on the appointment of direc- tors and other important events. Common stock owners receive dividends and an increase of the stock price creating capital gains. Common stocks do not include any performance guarantee and, in the event that a corporation is liquidated, their owners will be satisfi ed only after the repayment of secured and unsecured debts and of bonds and preferred stock, and only when the fi nancial resources are available. Company Buyback : Repurchasing company shares by the original owners of the company from the venture capital fi rm. Consolidation (leveraged rollup) : Investment strategy in which a leveraged buyout fi rm acquires companies in the same or complementary sectors to become the dominant player in the relative industry. Conversion Ratio : Number of shares of stock into which a convertible security may be converted. Convertible Security : Bond, debenture, or preferred stock that can be exchanged with another type of security, usually common stock, at a predefi ned price. Corporate Charter : Document outlining when a corporation is founded in order to set objectives and the goals of the corporation; it also includes the complete statement of what the corporation can and cannot do during its activity. 301 Glossary Corporate Resolution : Offi cial document reporting specifi c decisions taken by the corporation’s Board of Directors. Corporate Venturing : Venture capital provided by in-house investment funds of large corporations to further their own strategic interests. Corporation : Legal, taxable entity acknowledged by a state law; owners of the corporation are named stockholders or shareholders. Covenant : Protective clause included in an agreement. Cumulative Dividends : Accrued at a fi xed rate until a predefi ned moment. Venture-backed companies use cumulative dividends because it allows them to conserve cash when the cash availability of the corporate is increased. Cumulative Preferred Stock : Stock that contains the provision that if one or more dividend payments are omitted, the omitted dividends must be paid before the company pays dividends to the holders of common stocks. Deal Flow : Number of potential investments that a fund analyzes during a given period of time. Depreciation : Expense booked to reduce the value of a tangible or intangible asset; if there is no cash expense, the free cash fl ow increases but reduces the value of the company income. Dilution : Reduction in the shareholders ’ percentage ownership of a company caused by the issuance of new shares. Dilution Protection : Provision that changes the conversion ratio when there is a stock dividend or extraordinary distribution to avoid the dilution effect; it is usually applied to convertible securities. Director : Person appointed by shareholders to the Board of Directors. Directors select the president, vice president, and all other operating offi cers and have authority in the most important decisions regarding the corporate activity. Disbursement : Investments realized by funds in the companies included in their investment portfolio. Disclosure Document : Describes the risk factors associated with an investment. Distressed Debt : Corporate bonds of companies that have declared bankruptcy or will in the near future. Distribution : Disbursement of realized cash or stock to the limited partners of a venture capital fund at the moment of fund termination. 302 Glossary Diversifi cation : Dividing investments among different types of securities and companies operating in different industries and sectors. Dividend : Payments defi ned by the Board of Directors to be distributed among the shares outstanding. If there are preferred shares, it is usually a fi xed amount; if there are common shares the dividend depends on the perfor- mances and the cash situation of the company and can be omitted in case of bad performance or when the directors determine to withhold earnings to invest in the development of the business. Down Round : Issuance of shares at a later date and a lower price than previous investment rounds. Drag-along Rights : Majority shareholder, right that obligate the minority share- holders to sell their shares when the majority wishes to execute the selling of the participation. Dual Income Taxation (DIT) : Taxation mechanism used to enhance equity issuing through a tax rate reduction in proportion to the amount of equity. Due Diligence : Process executed by potential investors to analyze and valuate the desirability, value, and potential of an investment opportunity. Early Stage : Life cycle phase of a company that has completed its seed stage and reports minimal revenues with no positive earnings or cash fl ows. EBITDA (earnings before interest, taxes, depreciation, and amortization) : Measure of cash fl ow calculated as revenue — expenses without considering tax, interest, depreciation, and amortization. EBITDA indicates the cash fl ow of a company because the exclusion of interest, taxes, depreciation, and amor- tization allows the analysis of the amount of money that a company creates. Economies of Scale : Economic principle that states as the volume of produc- tion increases, the unit cost of producing decreases. Elevator Pitch : Presentation of an entrepreneur’s idea, business model, com- pany solution, marketing strategy, and competition delivered to potential investors. This presentation should not take more than a few minutes or the duration of an elevator ride. Employee Stock Option Plan (ESOP) : Plan organized by a company reserving a certain number of shares for purchase and issuance to key employees. Such shares serve as an incentive for employees to build a long-term value for the company. Employee Stock Ownership Plan : Trust established by a company to pur- chase stock on behalf of its employees. 303 Glossary Equity Kicker : Option assigned to a private equity company allowing it to pur- chase shares at a discounted price. Evergreen Promise : Made by a company that agrees to pay an employee’s sal- ary for a number of years the day after he is employed or 10 years after. Exercise Price : Price at which an option or a warrant can be exercised. Exit Strategy : Method available to private equity funds to liquidate their invest- ments and achieve the maximum possible return. The method chosen depends on exit climates such as market conditions and industry trends and specifi c characteristics of the deal and the investor. Exiting Climates : Conditions that infl uence the viability and attractiveness of various exit strategies. Exits : Way in which private equity fi rms obtain a return on their investment. Private equity returns generally consist of capital gain realized with the sale or fl otation of investments. Exit methods include a trade sale, fl otation on a stock exchange, a share repurchase by the company or its management or a refi nancing of the business, and a secondary purchase of the company to another private equity. Factoring : Procedure in which a fi rm can sell its accounts receivable invoices to a factoring fi rm, which pays a percentage of the invoices immediately, and the remainder (minus a service fee) when the accounts receivable are actu- ally paid off by the fi rm’s customers. Finder : Person who specializes in arranging transactions. Flipping : Strategy of buying shares during an IPO and selling them immediately to gain a profi t. Flotation : When a fi rm’s shares start trading on a formal stock exchange its price is subject to fl otation as per the dynamics between offer and demand of the market. Follow-on Funding : Investment realized by a private equity fi rm that has already invested in a particular company in the past and then provides addi- tional funding at a later stage. Founders ’ Shares : Shares owned by company founders. Free Cash Flow : Cash fl ow of a company available to service the activity of the fi rm. Fully Diluted Earnings Per Share : Earnings per share calculated as if all out- standing convertible securities and warrants have been exercised. 304 Glossary Fully Diluted Outstanding Shares : Number of shares representing the total company ownership including common shares and current conversion, exer- cised value of preferred shares, options, warrants, and other convertible securities. Fund Age : Age of a fund (expressed in years) from its fi rst takedown to the time an IRR is calculated. Fund Focus : Area in which a venture capital fund is specialized. Fund of Funds : Fund that specializes in distributing its investments among a selec- tion of private equity funds. These types of funds are specialized investors and have existing relationships with fi rms. Fund Size : Total amount of capital committed by the investors of a venture cap- ital fund. GAAP (generally accepted accounting principles) : Common group of accounting principles, standards, and procedures accumulated from the combination of standards set by public authorities and accepted accounting standards. Gatekeeper : Specialists advising institutional investors in their private equity allocation decisions. GDRs (global depositary receipts) : Receipts for shares from a foreign com- pany; these shares are traded in capital markets around the world. General Partner (GP) : Partner in a limited partnership that is responsible for all management decisions of the partnership. General Partner Contribution : Amount of capital that the fund manager con- tributes to its own fund similar to a limited partner. This is the way that lim- ited partners choose to ensure that their interests are aligned with those of the general partner. Golden Handcuffs : Provisions that incentivize employees to stay with a com- pany. One type of golden handcuffs includes employee stock options that are assigned several years after that the employee has worked for the company. Golden Parachute : Provides employees, usually upper management, a large payout upon the occurrence of certain control transactions such as a certain percentage share purchase by an outside entity or when there is a tender offer for a certain percentage of a company’s shares. Hedge of Hedging : Reducing the fl uctuation of the price by taking a position in futures equal and opposite to an existing or anticipated cash position. This 305 Glossary practice can also include shorting a security similar to one in which investor has a long position. Holding Company : Corporation that owns the control of other companies through the participation (usually majority participation) to their risk capital. Holding Period : Duration of the investment realized by an investor. It begins on the date of the deal closing and ends on the date of exit from the investment. Hurdle Rate : Internal rate of return that a fund must achieve before its general partners, or managers, can receive an increased interest in the management of the fund. If the expected rate of return of an investment is below the hur- dle rate, the investment is not closed. Incubator : Investor specializing in business concepts or new technology fi nanc- ing and development. An incubator usually provides physical space, legal ser- vices, managerial advice, and/or technical needs. Initial Public Offering (IPO) : Process of sale or distribution of a corporate stock to the public for the fi rst time. IPOs are often an opportunity for the existing investors as well as for venture capitalists to realize important eco- nomic returns on their original investment. Institutional Investors : Organizations specializing in professional investments: insurance companies, depository institutions, pension funds, investment companies, mutual funds, and endowment funds. Intellectual Property : Intangible assets such as patents, copyrights, trade- marks, and brand name. Investment Firm : Financial institution regulated by EU laws (i.e., Banking Directive) and committed to giving money through loans, by investing in equity, and selling payment services. The investment fi rm cannot collect money from deposits (i.e., like a bank), and it is supervised at different levels. IRA Rollover : Reinvestment of money received as a lump sum distribution from a retirement plan. Reinvestment may consist of the entire lump sum or a portion. IRR (internal rate of return) : How venture capital funds measure their per- formance. Technically, an IRR is a discount rate that is the rate at which the present value of a series of investments is equal to the present value of the returns on those investments. Issue Price : Price per share paid for a series of stocks at the issuing date. This value is used for cumulative dividends, liquidation preference, and conver- sion ratios. 306 Glossary Issued Shares : Amount of shares that a corporation has sold. Issuer : Organization issuing or proposing to issue a security. J-Curve Effect : Represents the returns generated by a private equity fund during the holding period of the investment. Following the usual dynamics of this type of investment, the private equity fund will initially receive a negative return and, when the fi rst liquidations are realized, the fund returns start to rise. Key Employees : Professional managers hired by the founder to run the company. Later Stage : Fund investment phase that involves investors in the fi nancing of the expansion of a growing company. Lead Investor : Member of a pool of private equity investors with the biggest participation in the deal. Usually in charge of the operation and in the man- agement and control of the overall deal. Leveraged Buyout (LBO) : Occurs when an investor acquires the controlling interest in a corporate equity through a complex investment operation fi nanced with a combination of equity and borrowed funds. The acquiring group uses the target company’s assets as collateral for the loans subscribed. Repayment of the loans is realized using the cash fl ow generated by the acquired company. Limited Partner : Investor participating in a limited partnership without taking part in the management of the partnership. A limited partner has limited lia- bility and, usually, has priority over the general partners during liquidation of the partnership. Limited Partner Claw Back : Clause usually inserted in private equity partner- ship agreements that protects the general partner against future claims if he becomes the subject of a lawsuit. A fund’s limited partners pay for any legal judgment imposed upon the limited partnership or the general partner. Limited Partnerships (LPs) : Organization established between a general part- ner, who manages a fund, and limited partners, who invest money but with limited liability and without being involved in the day-to-day management activity of the fund. Usually, the general partner receives a management fee and a percentage of the profi ts or of the carried interest. The limited partners receive income, capital gains, and tax benefi ts. Limited Partnership Agreement (LPA) : Agreement, written and signed in a contract, between the limited partners and the general partners to regulate both duties and rights and the private equity activity managed by the general partners. 307 Glossary Liquidation : Activity of converting securities into cash or the sale of the com- pany assets to pay off debts. In a corporation liquidation, investors holding common shares are satisfi ed only after repayment of the claims raised by secured and unsecured creditors, bonds owners, and preferred shares holders. Liquidation Preference : In a corporate liquidation it represents the amount per share that a preferred stockholder receives prior to the distribution of the amount per share to holders of common stock. It is usually defi ned as a multiple of the issue price, and there may be multiple types of liquidation preferences as different groups of investors buy shares in different series. Liquidity Event : Occurs when venture capitalists realize a gain or loss by exit- ing their investment. The most common exits are IPOs, buy backs, trade sales, and secondary buyouts. Lock-up Period : Period of time stockholders agree to waive their right to sell their shares. This clause is used when investment banks underwrite IPOs to ensure their support during market negotiation. Shareholders usually involved in lock-up are management teams, and directors of the company as well as strategic partners and large investors. Lump Sum : One-time payment of money as opposed to a series of payments made over time. Management Buyout (MBO) : Financing from private equity companies to enable current operating management to acquire or buy the majority of the company they manage. Management Fee : Compensation paid by the fund to the general partner or the investment advisor based on the management activity of a venture fund. Management Team : Group of people who manage the activities of a venture capital fund. Mandatory Redemption : An agreement between the investor and the com- pany fi nanced that gives the investor the right to require the corporation to repurchase some or all of his shares at a defi ned price and at a certain future time. It can occur automatically or may require a vote of the preferred stock- holders with redemption rights. Market Capitalization : Total value of all outstanding shares. It is computed by multiplying the number of shares by the price per share current in the public market. Merchant Banking : Focuses on giving advice about fi nancing, merger and acquisition, and equity investments in corporations. 308 Glossary Merger : Combining two or more companies into one larger corporate. Mezzanine Financing : Corporate fi nancing immediately prior to a company’s IPO. Investors taking part in this fi nancing activity have lower risk of loss than the investors who invested in an earlier round. Mutual Fund (also open-end fund): Allows investors to subscribe as many shares as they require. As money fl ows in, the fund grows. Open-end funds sometimes exclude new investors but, at the same time, the existing inves- tors continue to increase their investment in the fund. When an investor wants to sell his participation, he usually sells his shares back to the fund Narrow-Based Weighted Average Ratchet : Prevents the anti-dilution of the participations in a corporation. It reduces the price per share of the pre- ferred stock of investor 1 if the issuance of new preferred shares to investor 2 are priced lower than the price investor 1 originally paid. NASDAQ : Market provides participating brokers and dealers with price quota- tions on securities traded over the counter by the automatic process of infor- mation management. NAV (net asset value) : Value of all investments in the fund divided by the num- ber of outstanding shares of the fund. NDA (non-disclosure agreement) : Agreement signed by two or more parties to protect the privacy of their activities and ideas when disclosing them to each other. Net Financing Cost (also cost of carry) : Difference between the cost of fi nanc- ing the purchase of an asset and the asset’s cash yield. With positive net fi nanc- ing cost the yield earned is greater than the fi nancing cost; negative carry happens when the fi nancing cost exceeds the yield earned. Net Income : Net earnings of a corporation after deducting all costs faced by the company during the execution of its business such as production costs, employees’ salaries, depreciation, interest expense, and taxes. Net Present Value (NPV) : Method of valuation that uses the actual value of future cash infl ows subtracting future cash outfl ows. New Issue : Stock or bond that is offered to the public for the fi rst time. NewCo : Newly organized company used in LBOs. Non-Compete Clause : Agreement signed by employees and management that states they will not work for competitors or establish a new competitor com- pany for a defi ned period of time after termination of employment. [...]... agency responsible for protecting investors; maintaining fair, orderly, and efficient markets; and facilitating capital information The SEC checks up on participants in the securities market and it is concerned primarily with promoting the disclosure of important market-related information, maintaining fair dealing, and protecting against fraud Seed Money: First capital investment in a start-up company It... and signed between investors and a private equity company for the duration of the private equity investment 310 Glossary Pay to Play: An existing investor’s right to participate in the next investment stage PIV (pooled investment vehicle): Legal entity that collects different investor capital and manages it following a specific investment strategy Placement Agent: Company specializing in locating investors... of venture capital investment decision making Financial Management, 23 References 321 Fruhan, W E (1979) Financial strategy — Studies in the creation, transfer and destruction of shareholder value Homewood: Irwin Gardella, L A (2000) Selecting and structuring investments: The venture capitalist’s perspective Charlottesville, VA: Reading in Venture Capital, Association for Investment Management and. .. participation in private equity is realized between buyers and sellers outside of the marketplace Glossary 311 Private Investment in Public Equities (PIPES): Investment realized in a public company by a private equity fund Private Placement: Sale of a security directly to a limited number of investors Private Placement Memorandum (also offering memorandum): Official document explaining the terms and characteristics... specialization in the private equity industry confers competitive advantage Journal of Corporate Finance, 13 Csikszentmihalyi, M (1991) Creativity: Flow and the psychology of discovery and invention New York: HarperCollins Cumming, D (2008) Contracts and exits in venture capital finance Review of Financial Studies, 21(5), 1947–1982 Cumming, D., Siegel, D., & Wright, M (2007) Private equity, leveraged buyouts and. .. Lybrand Corporate Finance (1996) The economic impact of venture capital in Europe September EVCA – European Venture Capital Association (various issues).Yearbook EVCA (1999) Private equity fund structures in europe Zaventem: Internal publication EVCA (2001) EVCA Mid Year Survey of Pan-European private equity and venture capital Press release, Helsinki, 17th October EVCA (2001) Guide Lines www.evca.com,... companies; SPACs): A corporation without any assets or business It is usually organized to go public and then acquire existing businesses Small Business Investment Company (SBIC): Special vehicle used to invest in private equity and regulated by a special US law (Small Business Investment Act, 1958) SBIC is a perfect joint venture between private and public investors with fiscal advantages Special Purpose Vehicle... Predicting new venture survival: An analysis of anatomy of a start-up cases from Inc Magazine Journal of Business Venturing, 14 Geisst, R C (1995) Investment banking in the financial system Prentice Hall, London: Englewood Cliffs German Association of Biotechnology Industries (1998) Valuation of Biotech Companies, Berlin Gervasoni, A., & Sattin, F L (2000) Private equity and venture capital Guerrini e... IPOs, acquisitions, and the use of convertible securities in venture capital Journal of Financial Economics, 81, 649–679 Hellmann, T F., Lindsey, L., & Puri, M (2007) Building relationships early: Banks in venture capital Sauder School of Business Working Paper Hellwig, M (1991) Banking financial intermediation and corporate finance In A Giovannini & C Mayer (Eds.), European financial integration Cambridge,... buyouts and governance Journal of Corporate Finance, 13 References 319 Cumming, D (2002) Contracts and exits in venture capital finance University of Alberta School of Business working paper Cumming, D (2004).The determinants of venture capital portfolio size: Empirical evidence Journal of Business, 35 Cumming, D., & Walz, U (2004) Private equity returns and disclosure around the world, Mimeo Available . accounting principles, standards, and procedures accumulated from the combination of standards set by public authorities and accepted accounting standards. Gatekeeper : Specialists advising institutional. giving advice about fi nancing, merger and acquisition, and equity investments in corporations. 308 Glossary Merger : Combining two or more companies into one larger corporate. Mezzanine. agreed and signed between investors and a private equity company for the duration of the private equity investment. 310 Glossary Pay to Play : An existing investor’s right to participate in