A Glossary Of Useful Terms

Master Essential Terms And Concepts For Effective Founder-Funder Communication In Startup Investments

A Glossary Of Useful Terms

Parties

Startup: A private company in the early stages of development.
Founder: The creator and, therefore, owner of a company or organization.
Accelerator: A workshop that helps grow your company and introduces you to investors in exchange for equity. Examples include Techstars, ERA, and Y Combinator.
Incubator: An organization, platform, or team of experienced professionals that helps entrepreneurs grow their businesses during their early stages. Incubator programs often provide mentoring, guidance, co-working space, and, sometimes, funding.
Venture capital (VC): A type of funding provided to startups and small businesses to help them grow and succeed, typically structured as cash in exchange for a percentage ownership. Venture capital usually comes from high-net-worth individuals, investment funds, and other financial institutions like family offices.
Private equity: Composed of funds and investors that invest in private companies. Venture capital is a subset of private equity for the earliest-stage companies.
Accredited investor: A classification given to a person or legal entity that fulfills requirements set by the U.S. Securities and Exchange Commission (SEC) regarding income, net worth, size of assets, and work experience. Accredited investors can buy and invest in unregistered securities not available to the general public, including real estate syndications, private equity, and hedge funds.
Non-accredited investor: An investor who does not meet the SEC’s income or net worth requirements. They can only make SEC-regulated investments, such as publicly traded stocks and bonds.
Investment fund: This is a typical structure in which general partners (GPs) raise money from limited partners (LPs) and invest on their behalf.
Family office: A family that invests their wealth.
Fund of funds: A venture capital fund invests in a portfolio of shares of other funds instead of investing directly into companies, stocks, or bonds.
High net worth individual (“HNW”): Someone who holds financial assets with a value exceeding $1 million. “Ultra” high net worth typically refers to individuals with over $30 million in assets.
Corporate venture capital: The investment of corporate funds into startup companies with strategic value to the corporation, hoping they will earn significant returns as the companies grow. Examples include Dell, Samsung, Mastercard, and Google.
Equity crowdfunding platform: Funding a project or venture through small amounts of money from many non-accredited and accredited investors, usually through the Internet. Examples include
Republic, StartEngine, and WeFunder.
Angel investors: Individuals investing their capital, experience, and time in early-stage companies. They choose their investments instead of giving their money to a venture capital fund where money is invested on their behalf.
Friends and family: Typically, the first round of financing to launch a company involves funds from the founder’s friends and family, who are likely to be willing to invest on an interest-free basis.
Revenue-based financing: Revenue-based financing, also known as royalty-based financing, is a method of raising capital for a business from investors who receive a percentage of the enterprise’s ongoing gross revenues in exchange for the money they invested. In a revenue-based financing investment, investors receive a regular share of the business’s income until a predetermined amount has been paid. Typically, this predetermined amount is a multiple of the principal investment and usually ranges between three to five times the original amount invested.
General partner (GP): the person who raises and manages venture funds, sets and makes investment decisions, and helps their portfolio companies exit because they have a fiduciary responsibility to their LPs.
Limited partner (LP): An LP is typically a high-net-worth (HNW) individual who invests money in a venture fund but has no management authority in the company. They are passive investors with limited liabilities up to the value of their investment.
Broker-dealers: Firms, banks, or individuals that buy and sell securities (stocks and bonds). Sometimes, they act as brokers, helping their clients buy or sell securities; as dealers, they sell securities for more than they pay.
SEC: The Securities and Exchange Commission is a large independent agency of the U.S. federal government created following the stock market crash in the 1920s to protect investors and the national banking system. It is the central regulatory system in the U.S. securities market, overseeing the capital market and regulating the buying and selling of stocks and bonds to protect investors against fraud.

Ecosystem Terms

Early-stage vs. Late-stage: Early-stage investments (pre-seed, seed, and Series A) fund the initial stages of business development, such as helping founders start the business, developing and marketing products, and establishing manufacturing and increasing sales. Late-stage is typically considered Series C and beyond or “Growth Stage” when the company has proven its success in the market. Late-stage investing goes to companies that have moved past the initial startup phase of development and have a strong market position.
Pre-seed vs. Seed-stage vs. Series A: When a company raises a pre-seed round, they are usually pre-product and pre-revenue, meaning they have a product idea and need funding to create that product. The seed stage is either post-product or post-revenue, but predictable monthly revenue (MRR) isn’t significant. Series A comes after the Seed Stage and is typically given to companies who have found product-market fit and are hitting an inflection point in their development.
Bridge round: When a startup needs to raise money between rounds (for example, between their Seed and Series A rounds), they will raise a bridge round.
Stock option pool: Shares of stock set aside for private company employees. It incentivizes talented employees to work for startups because employees will be compensated with stock if the company goes public (IPO) or is sold.
Demo Day: Graduation day for accelerators where founders pitch to investors.
Liquidity event: The moment investors get their money back, typically through an acquisition or IPO.
Acquisition: A corporation purchases all or most of another company’s shares to gain control of the entity, such as Amazon acquiring Whole Foods or Google acquiring Waze. An acquisition may occur to develop intellectual property, achieve economies of scale, enter a foreign market, or for various other reasons.
Initial public offering (IPO): This is the first time a private company issues stock to the public, with the primary objective of raising money for growth.

Investment Terms

Term sheet: Investors provide founders with a term sheet summarizing the basic terms and conditions for investing. It provides a simple and inexpensive template for lawyers to follow when creating more detailed deal documents between founders and investors.
Round dynamics: The people or entities who invested in the funding round. A round has strong dynamics when there are strong and notable investors participating.
Liquidation preference: This guarantees the return of an investor’s capital before any distributions are made to common shareholders, which typically includes the company’s founders and owners. For example, a 2X liquidation preference would mean the investor gets to take out double their original investment before common shareholders get to retract any money.
Valuation cap: The ceiling on the valuation for convertible notes and SAFEs (debt that converts into equity at a predetermined time). It ensures that an investor doesn’t miss out on appreciation between the sale of convertible notes and qualified financing – they will receive equity at the lower price of A) the valuation cap or B) the pre-money valuation of the next equity round.
Pre-money vs. Post-money valuation: Pre-money valuation refers to the value of a company before an investment round. Post-money valuation refers to how much the company is worth after receiving investments. For example, if you raise $1M on a $4M pre-money, the valuation is $5M post-money.
Discount rate: The discount to the valuation an investor will receive in the subsequent financing round. This rewards investors for bearing the risk of investing early.
Convertible note: This unique form of debt became popular in the 2010s. It converts into equity at a predetermined time, usually in conjunction with a future financing round. The investor effectively loans money to a startup with the expectation that they will receive equity in the company at a discounted price per share when the company raises its next round of financing.
SAFE (Simple Agreement for Future Equity): Y Combinator invented the SAFE in 2013 to provide a standardized legal template for founders to reduce the number of required negotiations with investors. However, it lacks comprehensive founder and investor protections, so some investors won’t touch it.
Preferred vs. Common equity: Typically, in the US, a company’s founders hold common equity, including voting rights. Investors hold preferred equity, which does not include voting rights and limits an investor’s control over the company’s future. However, preferred shares get preferential treatment in a liquidity event. Ordinary shareholders will not be paid until after debt holders, creditors, and preferred shareholders.
Priced (or Equity) round: This is the traditional approach to raising funds, in which an investor and founder negotiate an exact valuation of the company and the amount of ownership an investor will receive for investing.
Capitalization (“Cap”) table: A list of founders, investors, and employees and their ownership percentages. This table can be used to record who needs to sign off on major company decisions and who owns common vs. preferred stock.
Dilution: The reduction in current shareholders’ ownership in a company when it issues new shares of stock.
Ownership percentage represents each owner’s stake in a company.
Pro-Rata Rights: An investment agreement that protects against investor dilution. It allows investors to maintain their initial equity stake as the company raises more capital by giving them the right to participate (if they choose) in future funding rounds.
Non-Disclosure Agreement (“NDA”): A contract between two parties restricting the sharing of information disclosed in the agreement. Companies can use NDAs to protect confidential information, ensure their ideas are not stolen, and protect trade secrets. They are more common for strategic or late-stage investors.

Diligence Terms

MVP (“Minimum Viable Product”): An early version of a product with just enough features to be used by the customer, allowing the customer to provide feedback to the founder. Examples include wireframes, mockups, demo videos, and sketches.
MRR (“Monthly Recurring Revenue”): A number used for forecasting future revenue calculated by multiplying the number of paying users by the average revenue per user. For example, if you have 10 subscribers paying $1,000 per month, your MRR is $10,000. Note: Revenue must be contractually recurring, typically seen in 1+ year contracts like software sales. One-time purchases such as clothing and beauty products would not be included.
Burn rate: The rate at which a company spends its supply of cash over time before generating its income. It also refers to the time before a company runs out of money. Investors love to see founders who accurately understand their burn rate.
P&L: A profit and loss statement summarizes a company’s revenues and expenses over a given period of time. It is used to track performance every month. Investors typically ask to see historical and forecasted monthly P&L for 2-5 years.
CapEx (“Capital Expenditures”) is a company’s spending on the purchase or repair of fixed assets, such as buildings and equipment. Typically, hardware or real estate companies are capital-intensive, whereas software is not.
Balance Sheet: One of the 3 main financial statements, a balance sheet records a company’s assets, liabilities, and shareholders’ equity on a single day, depicting a snapshot of a particular point in time. Investors typically request the most recent month-end or year-end balance sheet to review.
Daily Active Users (“DAUs”): The total number of unique users per day. This is used to measure the engagement and growth of a product or app.