Trendsetters Inc

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TRENDSETTERS INC. Term sheet Negotiations|
Entrepreneurship and Venture Capital|
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Introduction:
Trendsetter Inc. was formed by Wendy Borg and Jason Kushdog, the CEO and the COO respectively, in March 2000, to deliver innovative warehouse and distribution management software program for clothing retailers. The “founders” started the firm after quitting their respective jobs and decided to pool in their savings in the firm. The software produced by the firm would contain a demand forecasting module that would be capable of performing tasks for the fashion industry with the same impact that the spreadsheet had done for accounting. Initially the firm started out its operations with the savings of both the owners, but each of them knew that they would not last very long with limited capital at their disposal.  The software would require a lot of money to develop and they also knew that they would need a partner in the development stage. At this point, they knew that they had to approach Venture Capitalists that would be willing to believe in the potential of their product and invest in their firm. They had approached a few firms through high level contacts established in their previous jobs. After making as many as 7 presentations, they received 2 offers from the firms that they most wanted, Alpha Ventures and mega Funds. There was just one small hindrance though, neither of them had any experience in dealing and evaluating offers from venture Capitalist firms. Alpha, although interested, were skeptical of the firm’s ability to get a five star client like Waldo, on board at an early stage. As a result, they valued them lesser than other Venture Capitalists as they were not convinced of their ability to generate $500,000 in revenues in the first year of operations. One thing that both the owners of the firm knew was that even though the initial valuation of both the VCs was not very different, they would need to be careful in analyzing the term sheets so as to see which one of them was making a firm and better offer for the founders. Basic Valuation:

Alpha had given an initial valuation of the company as $7.35 million and they had agreed upon an initial investment of $5 million. They had priced the shares at $1.05. The post money valuation of the offer stood at $12.35 million. This makes a total of 7M shares of which 4M are

common and 3M are option pool shares. They also had Escrow shares provision of 501,253 which are to be released if the Company has not achieved the fiscal year 2000 revenues of $500000. Without the escrow shares, they had prepared a term sheet which would see outstanding shares of 11761905 shares in the market. In the scenario of the escrow shares being released, it would amount to an increase in % share to the investors with an equal percentage decrease for the owners and these escrow shares for a further capital of 470195.35 as these would be priced at $0.95. The offer term sheet from Mega worked a little differently as they valued Trendsetters a little lower than Alpha, at $4.5 million but were investing the same amount of $5 million into the firm. There was no concept of Escrow shares in the Mega offer, but there were 929889 shares in the form of previously granted options. They value their share price initially at $1 per share and hence the capital from the shares would be a firm lock of $5 million. The post money valuation of the firm according to Mega was $9.5 million. From a very layman point of view, it was very obvious for a start-up firm that there was a better investment from Alpha ventures as their Post money valuation would suggest. But, it was always better to go a little deeper into the term sheets of both companies to find out the better term offer in more than one aspect:

1. Give a detailed analysis of Alpha and Mega Term sheet offers with details on the following. Follow the guidelines given in class: a. Valuation (both pre-money and post-money)
b....
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