VC Accounting - all you need you know
Companies raising venture capital require professional books and specialized financial advice. Because Kruze Consulting only works with funded startups, we know what numbers and advice you and your investors need.
Startups with VC funding need processes and systems to regularly report on the company’s financial position. Kruze produces Monthly Financials, Burn Rate Analysis, Cash Runway Analysis, Budget to Actuals and Variance Reports that are perfect for venture capital partners and board meetings. Startup founders who have raised venture capital must have the strategic financial skills to carefully manage burn, growth, headcount and more. And founders need to be ready to raise the next round of capital when the time comes.
Kruze Consulting’s clients have raised over half a billion dollars in venture capital funding in the past 12 months alone, so we know what it takes to be ready for the next round. From the first day of our White Glove Onboarding Experience, we work to deliver accurate financial statements and to begin creating a due diligence folder where, together, we can retain important information that you’ll need during the next venture capital round’s due diligence. Startups should have rock solid financials and their diligence materials prepped before a VC meeting ever occurs. Fundraising moves incredibly fast and if you appear unprepared to the VC partner, it will affect your valuation and total capital raised. Work with Kruze, be prepared. Read our downloadable VC due diligence checklist here!
To get the professional bookkeeping and accounting services you need to effectively fundraise, you can rely on Finance as a Service (FaaS) from Kruze Consulting. Our FaaS programs provide you with an integrated financial team that can help your startup report on your company’s financial position and communicate that information to your investors. We have the experience your company needs to produce accurate financial statements and guide you through the due diligence process. Fundraising is a complex process and Kruze can help you be prepared!
Oftentimes, startup founders think of venture capital as the first way to finance their companies. VC funding is indeed a great way to finance your company; however, other financing options are available. Also, as your business grows, your financing needs will change. Let’s explore other ways to finance your startup besides venture capital.
Not every company follows these stages exactly - in fact, many skip the rounds before the Series A. But here are the most common stages of venture capital financed startup companies.
|Friends & Family / Angel||$100k - $1M||SAFE or Convertible Note|
|Pre-Seed||$100k - $1M||SAFE or Convertible Note|
|Seed||$1M - $10M||SAFE or Convertible Note, sometimes Preferred Stock|
|Seed Extension||$500k - $5M||SAFE or Convertible Note|
|Series A||$10M - $30M||Preferred Stock|
|Series B||$25M - $75M||Preferred Stock|
|Series C||$50M - $150M||Preferred Stock|
|Later Stage Private Rounds||$100M+||Preferred Stock|
The data is compiled from Crunchbase, and is based on actual rounds raised in the US from Jan 2021 to and including September 2021. Venture capital and seed round sizes have gotten bigger in 2021 driven by the hot venture funding market.
Again, not every company will need pre-seed funding or do a seed extension. But if you are on the VC-backed company progression, you will most likely have a Series A.
Convertible notes often referred to as “converts,” are one of the most important securities used to fund early-stage startups.
While their popularity has declined some since the introduction of SAFEs, they continue to be one of the most common types of investments raised by seed-stage companies and are often used during Series A, Series B, etc. extension rounds.
Learn more about convertible notes or convertible debt.
SAFE notes, or a simple agreement for future equity is really just a simplified version of convertible notes.
Preferred stock or preferred equity is a share class. Venture capitalists like to invest in preferred stock because it comes with many attractive rights and privileges vs. common stock. And those benefits make them willing to pay up and pay a higher valuation for the preferred stock.
Benefits of Preferred Stock:
Preferred Stock vs. Common Stock:
Common stock is typically the share class that the founders and employees have in a startup. When the company gets incorporated, the first share class that’s issued is common. Typically, the founders get a significant percentage and carve out a stock option pool which the employees get. They also determine the par value or the price it is worth on paper. This is usually like 1/100th of a share. Common stock is worthless at first because you haven’t built anything yet. However, that is the perfect time for founders to buy their shares and for early-stage employees to exercise their shares.Common stock goes on your balance sheet and in your equity session. Common stock is always cheaper than preferred stock. It’s what the founders get, it’s what the employees get, and it’s what stock options come in. So it is an excellent way for people to have ownership in the startup.
Common Stock Simplified:
Having a well-known VC firm lead your funding round offers a lot of advantages. Top VC firms have extensive contacts throughout the venture capital ecosystem, and they’re able to encourage other firms to join in your round. Top VC firms typically can write larger checks, and they are invaluable sources of operational information for startups, since they have been through this process repeatedly.
Not every startup has a perfect, straight up and to the right growth curve. In fact, your startup may have some bumps along the way - and if those bumps align when it’s time to raise your next round, you may need to take on what is called a “bridge loan.”
This type of “loan” typically comes from a startups’ existing venture capital investors. So this sort of financing is only available to VC-backed companies that already have deep-pocketed VC investors.
Financing of this sort for a venture capital backed company will either be a convertible note or a SAFE note. Convertible notes and SAFE notes will have an equity conversion feature, so are not a “priced” round - instead, there will be some terms that favor the VCs who provide the bridge. Usually this will be in the form of a conversion cap. Remember, this is a financing for a company that is in trouble - so the terms are not going to be that great for the startup or the founders. Read more about bridge loans here.
Cram down rounds essentially “compress” all the ownership positions of previous investors, founders, angels, and other owners of a startup. In a down round, startups offer additional shares at a lower price than the shares had sold for in a previous financing round. A cram down round is a down round in which the new financing terms may severely dilute the ownership positions of any investors that don’t participate in the cram down round.
General partners (GPs) are the people who run venture capital funds, and limited partners (LPs) are the investors who provide the funds for startup investments. And yes, GPs do invest in other venture capital funds. They have detailed knowledge of the VC landscape and are able to evaluate other opportunities. They also have often worked with other VC firms in the past and know that they can work well together. Finally, venture capital investing has the potential to generate high returns.
Two and twenty is the standard fee structure that venture capital firms charge their investors. The “two” stands for the 2% management fee that’s applied against the fund’s value each year, generally for the first five years. That covers salaries, administration, and other costs to run the fund. The “twenty” applies to the percentage of profit sharing, called the “carry,” for the fund. Once the fund distributes capital back to all the investors, the fund keeps 20% of the profit earned by the fund. The remaining 80% is distributed to the investors.
Currently (in July 2022) we are seening a large increase in requests for startup financials from venture capitalists. VCs are looking both at historical information and future projections. While this has always been part of the due diligence process, as the funding market has gotten tighter venture capital firms are digging more deeply to determine how capital was spent, and how startups plan to use capital in the future. Startup founders and CEOs need to make sure financials are in good shape, and be prepared to present them to VCs.
Structured term sheets included that offer preferential terms to VC investors, like superior preferences, liquidity rights, or dividend or cash payment components. In the current market (August 2022), venture capital has tightened up, and startups looking for funding may find that they need money, but the startup valuation is higher than it should be. Rather than accept a down round at a lower valuation, the startups might accept a more structured term sheet to preserve their current valuation.
A capital call is the process that VC funds use to request that fund investors contribute their fund commitments. The VC fund’s general partners (GPs) make a capital call when the fund needs more money to make new investments. The fund’s investors (called limited partners or LPs) have agreed to invest in the venture capital fund, and the total amount that the LP agrees to provide is called “committed capital.” Normally LPs pay only a portion of their committed capital at the beginning of the agreement, called the “initial drawdown”. The amount the LPs have provided to the fund is called “paid-in capital,” and the amount remaining is called “uncalled capital.”
Investors in VC funds tend to be institutional investors, like endowments, foundations, and pension funds. Normally those types of investors keep their funds in vehicles that offer a better yield than simple savings accounts, such as stocks or bonds. That means that when a VC fund issues a capital call, those investors typically have to sell other securities to meet their capital call obligation. And if the market is down, they may have to sell at a lower price than they would like.
There are normally two types of stock at a startup: primary and secondary shares. Primary shares are purchased directly from the startup company, and the company gets the funds from the sale. Secondary shares are those held by existing shareholders, like employees, former employees, or investors. When those people sell their shares, they get the money from the stock sale, not the startup company.
Read some of our expert commentary on the VCs and the venture capital market.
What is Pay to Play in Venture Capital?
Posted on Sun, 13 November 2022
Pay to play in venture capital typically only gets talked about when times start getting tougher and, currently, times are definitely getting a little tougher. Pay to play provisions are trending upward now as startup founders seek additional financing for startups.
Listen to our interviews with leading venture capitalists and investors.
Courtney McCrea, co-founder and managing partner of Recast Capital, discusses how Recast Capital helps link investors to emerging managers in venture.Read more
Marcelino Pantoja from Measurement discusses launching the first venture capital index fund that brings in investors at the beginning of Series A funding, allowing smaller investors, endowments, and foundations to access these investment opportunities.Read more
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Venture capitalists look for specific accounting metrics when evaluating startups. Every VC has their own, unique set of metrics that they like to see - and most industries also have industry specific metrics as well. However, here are some of the most common accounting metrics VCs will analyze.