Private Placement Memorandum (PPM)
The term ‘private placement memorandum’(PPM), also known as an offering memorandum or offering document, refers to the legal document that is provided to prospective investors when selling stock or other securities. The disclosures included in the PPM vary depending on the exemption from registration type, the target investors, and the complexity of the terms of the offering. The presentation of the PPM is more factual and concrete than a business plan and addresses external and internal risks facing the company. Well drafted PPMs balance disclosure requirements with marketing elements designed to seal the deal.
Pro Rata Rights
The term ‘pro-rata rights’ refers to a contractual provision that enables investors to maintain their equity stake and their voting power even when new shares are issued, without the obligation to invest in later rounds. It is typically given to early stage investors who are willing to start up at one of their riskiest points in time. If the investor declines their pro-rata rights and fails to invest in follow-on rounds, they will be diluted. Being able to maintain a consistent ownership percentage in a company can mean the difference between making thousands and millions of dollars for an investor, hence the importance to maintain and activate their pro-rata rights.
Before you sign a term sheet it is imperative that you understand the rights that your potential investors expect—do not agree to terms that you do not understand or have not discussed with your council.
Product-market fit describes the degree to which a product satisfies the needs of a target audience. Companies with a strong product-market fit (and little competition) often have high margins because they do not need to spend time or financial resources educating or convincing the target audience that they actually need their product or service. Product market fit is less about hypothetical numbers, and more about an in-depth and tangible understanding of your customers, where they congregate and how they feel about your product or service. Achieving product market fit is crucial to escape the valley of death.
Profit and Loss Statement
A profit and loss statement is a formal financial document that is used to show the revenues and expenses of a company during a particular period. Creditors and investors use the profit and loss statements of a company to evaluate its financial soundness and growth potential.
The term ‘profit margin’ refers to the percentage of profit that a company generates for each dollar of sales. Example: 20% profit margin means that the company generates $0.20 of profit for every dollar of products or services it sells. Software startups and SaaS startups typically have higher profit margins compared to businesses that sell physical products. Profit margins are used by creditors, and investors to determine a company’s financial health, management’s skill, and growth potential.
A projection is a type of estimate that is given to investors or potential financiers to explain the market opportunity, and revenue or growth potential that a startup has. Projections are typically based on the top-down or bottoms-up forecasting model, and are not intended to be used as KPIs.
There are five primary forms of projections including: sales projections, expense projections, balance sheet projections, income state projections, and cash flow projections.
Proof of Concept
The term ‘proof of concept’ refers to the process of determining the feasibility of an idea (in other words, the practical potential of a concept or theory)—it does not take into account the demand for such a product or service or the profitability of said product or service. Startups often undergo a few proof of concept exercises prior to launching out of stealth.
Protective provisions ‘protect’ an investor’s rights such as their ability to veto a decision or action that they do not agree with—e.g. the issuance of more stock, the liquidation of the company, or the acquisition of the company. Protective provisions mitigate risk for investors and help protect the interests of minority shareholders in the event that there is a disagreement regarding the best course of action for the company.
Before you sign a term sheet it is imperative that you understand the protective provisions that your potential investors expect—do not agree to terms that you do not understand or have not discussed with your council.
Prototyping is the action taken immediately following the proof of concept phase, where design teams transform an idea into a tangible item (whether physical or digital). Once the item is created, it is shown to individuals in the target market to gather feedback, so it can be refined. Prototyping is an iterative process of refinement and feedback. By prototyping, startups can avoid wasting time and resources building products or services that are not commercially viable.