The genesis of the term "cram down" or "burn out" or "wash out" in early stage finance was the dilutive effect of the Series A round valuation and deal terms … including antidilution protection, warrant coverage, liquidation preferences as a multiple of cost, diluting the common shareholders (typically the founder and the players in the friends and family round) from a significant to a trivial position in terms of their percentage ownership of the company. The justification for that brutal dilution is, first, that the company needs the money and no one else is willing to put it in, including the common shareholders; secondly, the common are invited to participate in the round in order to protect their percentage interests and, if they didn't "play," they will "pay" by suffering the dilution; and, finally, that the fault, if there was fault, can be laid at the feet of the founder and other managers for an indifferent performance in running the business, which in turn occasioned the "down round."
There are many investor-favorable terms associated with down-rounds that seek to improve the venture capitalists potential returns and reduce their risk exposure. Two examples of the common terms are below:
1. Increased Liquidation Preferences
Liquidation preferences are a common feature of convertible preferred stock financings in development stage companies that enable investors to receive a negotiated amount prior to and in preference to the holders of junior securities (whether preferred or common stock) in the event of a liquidation, merger, consolidation, change of control, or other liquidity event.
In a down round market, many venture capitalists demand enhanced liquidation preferences (i.e., multiples of the original investment amount, in some cases even three or four times the original investment amount) as the price for consummating a new financing.
High-multiple liquidation preferences sometimes consume the entire proceeds of a liquidity event (other than an IPO) before other investors, employees, and founders of the company receive any payments on their stock.
2. Participating Preferred Stock
Holders of a participating preferred stock are entitled to participate in the distribution of the remaining proceeds of a liquidity event on a pro rata basis with the holders of common stock after all liquidation preference entitlements of the holders of the preferred stock have been satisfied.>
In effect, a shareholder who owns participating preferred stock enjoys the upside of converting to common stock upon a liquidation event without having to actually convert and give up the right to a liquidation preference payment. Investors, of course, seek participating preferred stock as a means to increase their expected returns.
While investigating these terms we wanted to look at a company that had a recent down-round to see if these terms conformed to the two characteristics mentioned above. Looking at Jiwire and their recent Series D-1 issuance we noticed the price per share went from $1.59 Series C-1 to $0.15 Series D-1 which signaled the down-round. Further, the liquidation preference is Senior at 2X which does infact conform to the increase in liquidation preference. The stock type is also participating with common stock and there is no cap. We have provided the profile from VC Experts Intelligence database below for a more in-depth analysis. You can also download the PDF version that includes each round of financing with valuations and price per share for both common and preferred stock.
|Date||Amount||Valuation||Est. Fully Diluted Shares||Preferred Price Per Share|
|Company Information||Key Management|
|• Address: 150 Post Street
• Geographic Region: Silicon Valley
• Industry: IT Services, Telecommunications
• SIC Codes: 7375 - Information Retrieval Services
• NAICS Codes: 519130 - Internet Publishing and
Broadcasting and Web Search Portals
• Legal Counsel: Coblentz Patch Duffy & Bass LLP
• Company Website: http://www.jiwire.com
|• Fordyce, Michael - CEO, Director
• Capitolo, Gregory - CFO
• Moragne, John - Director
• Albinson, Christopher - Director
• Lenet, Scott - Director
• Horowitz, David - Director
• Ruxin, Marc - Director
• McKenzie, Kevin - Founder, Director
• Staas, David - President
• Rose, Todd - SVP, Business Development
• Archibald, Greg - SVP, Sales
• Blyukher, Leonid - VP, Engineering
• Dixon, Mark - VP, Product
|• DFJ Frontier
• Comcast Ventures
• Trident Capital
• Panorama Capital Inc
• Undisclosed Firm
• Norwest Venture Partners
• Draper Fisher Jurvetson
|• One True Media, Inc.
• TurnHere, Inc.
• iMemories, Inc.
• StockTwits, Inc.
• LifeMed Media, Inc.
• PureWave Networks, Inc.
• SodaHead, Inc.
• Dotomi, Inc.
• Schedulicity, Inc.
• NextBio, Inc.
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