🏛️ Entrepreneurial finance (Matthew Rhodes-Kropf)

[hyunjimoon]

W3
applying what i learned on designing options ent.finance class_otter.txt, link

BEC_ent_finance.pdf
Nanda16_Financing entrepreneurial experimentation.pdf

with emphasis on

• Break financing into stages (where investor has right to abandon)
• Tied to milestones that enable value-inflection if the milestone is achieved

Level	Name	Question	civa example
1	Computational theory	- What are the inputs and outputs to the computation? - What is its goal? - What is the logic by which it is carried out?	Inputs: Initial investment amounts ($2 million and $10 million), probabilities of success at each stage (20% for Stage 1, 50% for Stage 2), potential financial outcomes ($100 million if successful), ownership stakes of founder and venture capitalists. Outputs: Expected values at each investment stage (EV0 = 6, EV after Stage 1 = 40), investment decisions (whether to proceed to the next stage), returns on investment for each VC (VC1 achieves 10x return, VC2 achieves 2x return), internal rates of return (IRRs of 58% for VC1 and 26% for VC2), changes in ownership stakes over time. Goal: To model and evaluate sequential investment decisions in a venture capital scenario to optimize financial returns for investors and the founder while accounting for risks and uncertainties. Logic: Utilizes probability theory and decision tree analysis to compute expected values at each decision point. It considers success and failure probabilities, investment costs, potential returns, and changes in ownership stakes due to dilution. The model helps in making informed decisions about proceeding with additional investments based on calculated expected values.
2	Representation and algorithm	- How is information represented? - How is information processed to achieve the computational goal?	Representation: Information is represented using a probabilistic programming model in Gen (a Julia-based probabilistic programming language). civa.jl Variables io1 and io2 represent the outcomes of Bernoulli trials for success or failure at each investment stage. The code snippet uses @gen to define a generative function EV(), where io1 and io2 are stochastic nodes representing investment outcomes. Processing: The model employs Sequential Monte Carlo (SMC) algorithms to simulate multiple possible investment outcome sequences (traces). By sampling from the probabilistic model, it estimates expected values and probabilities of different investment paths. This simulation helps in understanding the distribution of potential returns and risks, thereby aiding in optimizing investment strategies under uncertainty. The algorithm processes the information by conditioning on previous outcomes (io1) to determine probabilities for subsequent stages (io2).
3	Hardware implementation	- How is the computation realized in physical or biological hardware?	The computation is realized on a computer system using the Gen probabilistic programming platform implemented in the Julia programming language. The algorithms are executed on standard computational hardware such as CPUs (and potentially GPUs for parallel processing). The physical hardware performs the necessary calculations and simulations for the Sequential Monte Carlo methods, enabling efficient sampling and inference over the probabilistic models defined. The use of high-level programming constructs in Julia allows for flexible and efficient computation on modern computer architectures.

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Angie's situation mirrors that of an entrepreneur in several ways:

1. She's seeking to "invest" (time and resources) in a novel idea that combines multiple fields.
2. She's breaking down her research into stages (conference abstract, then full paper) to validate interest and potential impact.
3. She's seeking support from "investors" (mentors like Scott and Vikash) to proceed with her research.
4. There's high uncertainty about the outcome, but also potential for high impact if successful.
5. She's trying to design an initial "experiment" (the conference abstract) that will generate maximum information with minimal resource investment.

Aspect	Entrepreneur	Angie (Entrepreneurial Scholar)
Investors	Venture Capitalists	Scott and Vikash
Option	Product/Market Fit	Research Viability/Impact
Stage 1	MVP/Initial Traction	Complex Adaptive Systems Conference Abstract (Oct 5th), schedule
Stage 2	Scale/Growth	Full Paper (December)
Failure Probability	High (varies by sector)	High (novel research area)
Initial Investment	Seed Funding	Time and support for conference abstract
Follow-on Investment	Series A, B, etc.	Support for full paper development
Value Inflection	Proof of concept, revenue growth	Conference acceptance, peer feedback, potential collaboration
Information Generated	Customer traction, product viability	Research interest, potential impact, cross-disciplinary relevance
Experiment Cost	Varies (lower in software, higher in biotech)	Time, resources for initial research and abstract preparation
Learning Efficacy	Varies by sector	Depends on feedback from conference and potential collaborators
Key Challenge	Market uncertainty	Integrating multiple fields (decision theory, probabilistic programming, entrepreneurship)
Potential Upside	Financial returns, market disruption	Novel framework for entrepreneurial decision-making, first-mover advantage in research area
Risk Mitigation	Staged financing, testing in parallel (upto 11) before signing deals, pivoting	Seeking feedback from multiple mentors, scoping research to conference presentation first

The key differences are in the nature of the "product" (academic research vs. business venture) and the type of "return" sought (academic impact and collaboration vs. financial returns). However, the underlying principles of experimentation, staged development, and seeking validation from key stakeholders are very similar.

[hyunjimoon]

guest lecture by antoinette schoar

🫡example of aligning instrument

• Preferred equity's right to convert to commons incentivizes both investor and founder.

The holders of Preferred Stock shall have the right to convert any or all shares of Preferred Stock, at the option of the holder, at any time, into shares of Common Stock. One share of Preferred Stock shall initially be convertible into one share of Common Stock (see anti-dilution provisions)

For founders, the conversion feature of preferred stock incentivizes them to grow the company value well beyond the liquidation preference amount. This encourages founders to aim for high growth and valuation, as they only benefit once the company value exceeds the liquidation preference threshold.
For investors, the conversion feature allows them to participate fully in the upside potential if the company is highly successful. By converting to common stock when the company value is high, investors can potentially earn returns far beyond their original liquidation preference.

🙅‍♀️example of misaligned situation

• SAFE without value cap (investor don't put effort on founder's network)

[hyunjimoon]

Party	Company Value $0 - $4M	Company Value $4M - $9M	Company Value Above $9M
Founder 👨‍💼	🎟️ Call option (sleeping) No value yet, but future potential	🎟️ Call option (waking up) Starting to gain value	🎟️ Call option (wide awake) Gaining significant value
Investor 💼	🛡️ Put option (active) Guaranteed up to $4M	🛡️ Put option (fully used) Capped at $4M	🛡️ Put option (fully used) + 🎟️ Call option (active)

Key Concepts:

• 🎟️ Call option: Right to benefit when company value goes up
  • Sleeping: Not valuable yet
  • Waking up: Starting to be valuable
  • Wide awake: Very valuable
• 🛡️ Put option: Protection against loss, guarantees a minimum return

[hyunjimoon]

💰15.431 ent.finance_john.chory.txt

Aspect	Strategy	Benefit	Direct Quote
Pace	Slow down the process	Creates alternatives, gives time for better decision-making	"...to slow down the process, which is not your instinct."
Number of VCs	Talk to multiple VCs	Provides market insights, creates competition	"If you talk to seven different VCs and they were all coming in around this then I would say, then I can give you, give you an answer."
Information sharing	Be mysterious, don't reveal all information	Maintains negotiating leverage	"So you need to be mysterious. Say you are focused on them now. VCs know they're not supposed to ask but they ask which other VCs you're talking to anyway."
Conversation approach	Tailor conversations to different VCs	Explores various funding options	"You should be having multiple of those conversations with multiple different VCs, and you can have, you can have a different conversation."
Proposal strategy	Give a range for funding and equity	Sets anchor, shows preparedness	"we need to raise 6m to 8m and we're prepared to give up 20% to 25% of company."
Questioning	Ask tough questions about the VC's fund	Shows leadership, gains valuable information	"How much, how much money is left in your fund? What funder you want? How much money is left?"
Overall stance	Be confident, show leadership	Positions founder as an equal partner	"So it's okay for you to ask tough questions. I actually think it, you know, being difficult. Let's you know, you're showing your leadership. You're showing your sort of confidence."

[hyunjimoon]

[hyunjimoon]

case study on artificial leg developing company

• take future valuation and discount rate into account

[hyunjimoon]

Nov.5

case study :Avid Radiopharmaceuticals: The Venture Debt Question
Abstract
The CEO of a promising biotech company must decide how to respond to the macro-economic slump of late 2008. He had planned to pursue an aggressive schedule, moving the firm's Alzheimer's and Parkinson's disease imaging compounds through clinical trials and into the market. This involved expanding the firm's facilities and headcount, and he planned to fund this by taking venture debt. Although clinical trial data is extremely encouraging, questions about raising his next venture round and the overall environment has made him question the wisdom of this plan. This case provides students an opportunity to explore the true cost of venture debt and when it is best used to achieve the goals of all parties—venture capitalists, entrepreneurs, and venture lenders.
Keywords
Financial Crisis; Entrepreneurship; Borrowing and Debt; Venture Capital; Financial Management; Investment; Health Testing and Trials; Expansion; Biotechnology Industry; Pharmaceutical Industry

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• now (less risk) vs later (more data then higher valuation)