- [Voiceover] Where I had left off in the last video,
we had talked about the scenario
where my buddies and I we came up with this idea
to sell socks online.
We went to a rich investor
we call an Angel investor who's usually kind of
a rich uncle type of figure who gets excited
by young guys innovating in the world.
We say "Hey, we need $5 million."
He says sure enough, I think the idea you have
by itself or maybe some kind of prototype
you might have made or something.
That's worth $5 million.
I'll give you another $5 million of cash
to get started, rent some space, hire some people
and for that since what you had was $5 million,
that's what you're bringing to the table.
I'm bringing $5 million cash to the table,
I essentially get half the company
and the way that works is it's not like
we each gave him half of our shares
instead since we are the board of the company,
we issue another million shares.
We doubled the share count and we give it to him.
This pre-money valuation's really, really important
because if we had agreed,
if we said this wasn't five million,
if we said that this is, I don't know.
Let's say if he is a hard negotiator,
he says "No, that's only worth a $1 million,"
and I'm going to give $5 million.
Let me ask you,
how many shares would we have to issue?
Think about it.
If he was a hard negotiator,
let me draw it down here
so I don't want to mess up the issue.
Because our idea I mean really is
a hard thing to estimate what an idea is worth.
He negotiates hard, at the end of the day we're desperate,
financial markets have collapsed
so we'll take money from whoever's willing
to give it to us
and we really want to quit our jobs.
He says that what we have right now,
our idea is only worth a $1 million.
He's going to give us $5 million.
How many shares do we have to give him?
This right here, this is a million shares.
That's what we started off with
so when he says that what we have right now
is worth a $1 million,
he's essentially saying that's it's worth
a dollar per share, a dollar per share
so my 200,000 shares are worth $200,000
according to his valuation.
Up here we said that what we had before
is worth $5 million in the previous video.
If what we had before is worth $5 million
and there were a million shares initially.
This was the million shares
then the pre-money valuation
or actually it's the valuation
either pre or post money would be $5 per share.
In the $5 per share world,
what we did was we issued another million shares
and sold them for $5 million
or we sell them for $5 per share
to get the $5 million
and so we ended up with a 50, 50 split of the company.
This is the Angel investor
and this is all of us down here.
All of this is equity.
No debt, no liabilities just yet.
Now in this reality if he's valuing what we have right now
at essentially $1 per share.
His is worth a $1 million, you have a million shares.
It's $1 per share.
In order for him to give $5 million,
he's essentially going to buy $5 million
worth of stock at $1 per share.
He's essentially going to need five million shares,
five million shares.
Notice in this situation up here
before when I have
200,000 shares,
well when I had 1/5 of $5 million,
that was five million.
When I had 1/5 of $5 million,
the value of my shares was $1 million.
Then when I have 1/10 of two million shares,
I still have 1/10 of $10 million of total asset
because now he threw in his $5 million.
My share is still worth $1 million of it.
I have a tenth of 10 million
as oppose to a fifth of five million.
In this situation, I used to have
a fifth of one million which would be $200,000.
Now I have 200,000 over,
how many total shares are there now?
There are now six million shares.
Now I have 1/60, is that right?
I have 200,000 and I have 200,000
over six million,
that's 6,000,000 so that cancels out.
I now own 1/30 of the company,
before I had 1/5 and were valuing it at six million
because I have a million here and five million here
times six million.
What's 1/30 of six million?
1/6 over 30
is equal to 1/5 of a million,
so this is still $200,000.
No matter what I do,
between the pre-money and the post-money valuation,
my per share value doesn't change any
and I want to show you that
but this matters a lot
because based on what this pre-money valuation is,
it tells us how many shares
or what percentage of the company
our Angel investor gets for investing his $5 million.
In this case he gets 5/6 of the company.
What is that?
Five times, that's like 80% of the company.
I think roughly and we are left with the other
no 1/6 is, right.
1/6 no, it's more than 80.
It's like 84%
and we're left with like 16% of the company.
It's a very different scenario
depending on what our pre-money valuation is
and of course the pre-money valuation
is just you just take the pre-money valuation
plus the amount of cash they're given
and that's the post-money valuation.
The amount of money you get,
pre-money and then post-money, you have the money in
and that's you get the $6 million valuation.
Fair enough, I think I've beaten this horse dead now.
I think you have a good sense of it
and let's say that we end up lucky.
The guy wasn't a hard negotiator
and we ended up with that first situation.
Let me redraw it.
Now, if I were to draw the assets
of this corporation,
the assets of this corporation at least at the time
of that guy's investment
where it's a very intangible asset.
We call it the idea, it now has a value $5 million
and we have some cash,
we have five million in cash
and then if we do the shares,
so we do that in another box.
There you go, there are the shares
and of that share
we'll have two million shares outstanding,
two million shares.
I have one million to the Angel investor,
he has 50% of the shares
and just because I like to keep track of my slice.
There's 200,000 shares that go to Sal.
Fair enough.
Now I mean obviously the whole point of this
wasn't just a negotiate and raise money
and quit our jobs.
The whole point of this was to start a business.
Let's say we take this $5 million,
we start hiring people and really our first step
is to build out our website
and just have a working site going.
Let's say we burn through $4 million of that
and we build a site.
Let's say,
we only have a $1 million left.
This is maybe six months in the future
we all quit our jobs, we got some fancy loft like
office space.
We got a foosball table and we also built a website,
we hired some graphic designers and things.
We've burned through most of our cash
and were starting to get a little bit worried
because we haven't made a profit yet
but we have a neat website,
we have a neat website.
When we went to the Angel investors,
we just had an idea, a business plan
and we just have, hopefully we had our charisma
and we were able to sell the guy on the idea,
he thought we're going to be the next
dominant sock player in the world
but now we actually built something.
We took his money and as promised,
we built a nice website and now we need to raise
more money one, because we've hired 50 people
and this $1 million isn't going to last us too long
and that would be a shame to run out of cash
just when we're getting off the ground.
We now actually have a real website and offices
and all of that and we want to raise some money
because we want to put up some AdWords on Google
so people know about our site.
We want to spend a couple million dollars
for Super Bowl ads so people know
that they can get socks online now.
We have to raise more money
and now at this stage, we would go back
to the venture capital community
but we wouldn't go to the Angels.
The Angels are the guys who like the big picture
who want just to throw some money into an early idea.
It's usually a relatively small amount,
actually $5 million would be a large amount
for an Angel.
We want to go to real professional VCs now
and what we would do is we would go to a seed VC.
Seed VCs are kind of the first round
and each round is every time you have to go back
to the till to raise money,
that's kind of a round of financing
but Seed Investors, so there's a lot of words for it
but seed investors are usually VC investors
who are actual professionals at what they do.
They're actually managing other people's money
and we'll do another video on how they raise
that money and it's very related
to how private equity confirms
and hedge funds also raise their money.
They are usually managing other people's money
while an Angel investor is usually,
he's just sitting on top of a big pile of money
and likes to play with it.
They're managing other people's money
and they intend to have some fancy NBAs
that they just hired who'll make models
and do projections and negotiate a little bit harder
with you when you're actually trying to
get a value on your business
but we have to go to these guys.
They have some value, I mean they all connect us
with other dudes
and they have experience starting businesses.
They can introduce us to other people
who've done similar things
and all the rest help us network
and help us manage the business.
We go to a venture capitalist
and we get the door closed a lot of times
but that's what one venture capitalist,
one seed venture capitalist finally comes to us.
The terminology can be a little ambiguous here
but we'll call it our Series A financing,
Series A.
Sometimes it will be called your seed financing
but we'll call it Series A
because we want to formalize it.
Just so you know, the A is
because it's our first real formal round of financing.
In our second round which I'll do
probably in the next video, it would be Series B
and then Series C and then Series D.
Every time we run out of cash,
we want to go back to the till.
We've already done the Series A,
now we want to do a Series B
and a Series C and so forth and so on
and eventually we'll hopefully get to
some type of an IPO which I'll talk about
in the next video because I just realized
I'm out of time again.