More than ever before, people are inspired by entrepreneurs. Shows like Shark Tank bring entrepreneurs straight into people’s living rooms. Across the globe millions of people watch entrepreneurs as they prepare to pitch their idea, negotiate deals, discuss valuations and look for investment from established entrepreneurs. But while the show is highly entertaining it is also educational.
However, there are many that get lost in the tangle of words used in these pitches. Words like equity, valuation, burn rate, EBITDA, customer acquisition cost, and all the references to convertible notes are all common topics of discussion but not often understood.
If you are planning to start a new business, seek investor funding, or become a part of the startup community, you need to know startup and investment terminology, since the concepts significantly impact, among others, startup valuation, investment rounds, and pitch presentation.
Whether you are getting ready for your initial investor pitch, tuning into Shark Tank to see and learn, or just trying to learn the jargon of entrepreneurship, this document describes the key startup and investment terms in a straightforward and pragmatic way.
Why Understanding Startup Terms Matters
Numerous entrepreneurs are so preoccupied with creating their product and growing their customer base that they don’t give enough consideration to ideas concerning money and investing. This oversight can be problematic when looking for investors.
Investors want to see that a founder understands the numbers. A founder who can’t explain valuation, revenues, margins and costs of customer acquisition will not beable to sell yourself to investors.
In addition, entrepreneurs who are familiar with business language can take better strategic decisions such as assessing investment proposals, controlling company’s performance and explaining their ideas to investors.
The more entrepreneurs understand these ideas, the more ready they are to develop and expand their businesses successfully.
Startup
A startup is a company formed to develop a unique product, service, or business model and bring it to market. Startup companies are founded to grow quickly. What distinguishes a startup from a small business is that startups aim to grow large.
Most startups seek to expand outside of their current locality and to reach growth in their business.
Example
For example, a neighborhood shop is a small, business. A technology platform that has been created to support millions of customers around the world would usually be a startup.
Founder
A founder is a person who takes the beginning step by founding a company and launching its initial vision, approaches, and running.
Founders are the ones who find a lot of opportunities, create what people use, bring people together and keep the business going.
Many startups have now multiple co-founders with different knowledge and skills in the company.
Equity
Equity is an ownership stake in a company.
Profit share when investors put in money, they are often given a percentage of equity.
For instance, if an entrepreneur held 100% of a business, he or she might choose to offload 20% equity to an investor such that the entrepreneur still holds an 80% stake.
Ownership is one of the most frequently mentioned words on Shark Tank-as the majority of investment transactions involve an investor receiving equity4.
Valuation
Valuation measurement of the value of a company.
Whatever entrepreneurs tell funders when pitching, investors determine the value of the company for instance according to the amount of money being requested and the percentage of equity that entrepreneurs are ready to give away.
Example
For instance, if a founder demands 50 lakh in return for a 10% stake, the company’s value would be 5 crore.
Valuation is fundamental for sharing ownership between founders and investors.
Pre-Money Valuation
Pre-money valuation is an estimate of a company’s value prior to an investment.
Investors refer to this number to decide the percentage of the company they would receive for their money.
Knowing about pre money valuation will make the more entrepreneur to negotiate for their funding deal.
Post-Money Valuation
Post-money valuation is the value of a company after an investment has been made.
Formula
Post-Money Valuation = Pre-Money Valuation + Investment Amount
When investors determine how much of the business they own they tend to think in terms of the post-money valuation.
Revenue
Revenue is the total monies generated through sales.
Revenus est souvent appelé la “ligne supérieur” parce qu’il apparaît dans la partie supérieur d’un rapport de revenus d’une entreprise.
Example
Sell 10 lakh worth of products in a month of business, the revenue of the business is 10 lakh.
Revenue shows how much activity there is in the business it does not tell you if the business is profit making.
Profit
The amount of money left over after deducting all expenses from the business income
Profit is one of the most common measures of vitality in the Business.
A business can make a vast amount of income but lose money if expenses are too high.
Gross Profit
Gross profit refers to the profit resulting from deducting the direct costs associated with productions of goods or services.
Formula
Gross Profit = Revenue – Cost of Goods Sold (COGS)
This figure enables firms determine the efficiency of their production.
Net Profit
(Profit) Net profit-net profit is the money left after all taxation, salaries, rent, expenses and costings have been taken away.
This is often referred to as the company’s “bottom line”
Net profit is another account of a company that investors analyze.
Burn Rate
Burn rate is an important indicator used to gauge a startup’s rate of cash depletion.
This term makes more sense for startups that are not making profit.
Example
If startup is burning 5 lakhs a month on no revenue, its monthly burn is 5 lakhs.
Investors watch burn rates whenever the company spends more than it generates, which places the company’s survival in jeopardy.
Runway
The runway is how long a startup can go before it’s out of money.
Formula
Runway = Available Cash Monthly Burn Rate
A startup with 6 million in cash and a 50K per month burn rate has a runway of 1 year.
Using Runway, founders can map fundraising drives, and learn about managing financial exposure.
Customer Acquisition Cost (CAC)
Customer acquisition cost (CAC): How much money does it take to bring in a new customer?
Formula
CAC = Marketing and Sales Expenses Number of New Customers
This helps companies determine the effectiveness of marketing.
The lower the cost to acquire a customer, the more profitable you are.
Lifetime Value (LTV)
LTV, or Lifetime Value, is the amount of money a customer contributes over the duration of their relationship.
A relatively high LTV(s) reflects an ability to retain profitable customers in the long term.
Investors tend to pit a company’s lifetime value against its customer acquisition costs.
EBITDA
EBITDA stands for Earnings Before Interest, Taxes, Depreciation, and Amortization.
It often assesses the performance of a business’s operation.
Every business I come across I think-What would the EBITDA be? Because asked to compare different types of businesses, I would interested to look at EBITDA equivalents and make a comparison.
Angel Investor
An angel investor is private person who invests his or her own money in the start-up companies.
Angel investors can bring their expertise and provide advice, guidance and mentorship along with funding.
A great number of startups begin by raising angel investment.
Venture Capital (VC)
Venture capital is investment provided by companies that focus on providing capital to high-growth start-up businesses.
Most venture capital firms will generally invest larger sums of money than angel investors and also expect substantial returns on their investment.
A number of the startups which have been successful on a global level have received funding from venture capitalists.
Seed Funding
Seed funding is the first major round of financing for a company’s
his first round of major investments.
Is typically allocated to development of products, market research, and acquiring early customers.
Seed Funding enables startup companies to validate their Business Model.
Series A Funding
Series A is the third round of funding after seed funding.
In stage 4 by this point has already been proven the demand and is beginning to acquire capital for growth.
Traction and growth potential are what investors look for.
Bootstrapping
Bootstrapping: Starting a company on a shoestring, using your own savings and income from the company.
A lot of successful businesses were once done on bootstrap as well.
Bootstrapping provides retained ownership and control.
Convertible Note
Convertible Note is a short-term debt that converts into equity, typically in conjunction with a future financing round.
It gives startups the opportunity to raise capital without having to put a valuation on the business.
Convertible notes are widely used for early rounds of fundraising.
Dilution
Dilution- This is when founders’ percentage ownership drops due to the introduction of new equity investors.
While dilution may diminish ownership, it can also enable a business to obtain growth capital.
Founders need to balance ownership retention versus funding needs.
Exit Strategy
An exit strategy: how the founders and investors intend to make money from the investment
Popular exit methods can be for example the acquisition or the periodic offer of a company’s equity in the stock market.
Many investors consider the exit possibility before investing.
IPO (Initial Public Offering)
An IPO takes place when any private company becomes public traded on the stock market.
Allowing the founders/investors to sell shares to the general public.
The vast majority of entrepreneurs see the IPO as a major milestone.
Acquisition
Acquisition: When a company acquires another company.
Mergers are the most typical exit routes for startups.
They have the potential to generate good financial benefits for both founders and investors.
Scalability
Scalability is the ability of a business to generate more revenue without significantly increasing its costs.
A scalable business is desirable as the investor can realize great growth without high output.
The capacity of tech companies to meet increased demand is often quite high:
Market Size
Market size is the total potential revenue opportunity of the category/industry that you are operating in.
Investors like big markets because they have more room for growth.
Typically, a start-up in a large market will get more people’s attention.
Traction
Traction is proof that people are excited about a product or service.
Some of these are increases in revenue, new customers, downloading your app, sign-ups or new deals.
Investor confidence is improved with stronger traction.
Pitch Deck
A pitch deck is a set of slides used to present a startup’s business model, vision, opportunity, projected financials, and the amount of funding needed.
Pitch decks are commonly utilized by entrepreneurs in meetings with investors or pitch competitions.
A compelling pitch deck greatly enhances your chances of raising funds.
Term Sheet
A term sheet is a document that sets out the key terms and conditions of a proposed investment.
It acts as a generic agreement that occurs prior to the actual formal documentation being drafted.
As a founder, I found the information about term sheets to be very Helpful to a founder trying to negotiate an investment.
Common Mistakes Entrepreneurs Make with Investment Terms
A lot of first-timer entrepreneurs pay too much atttention to the FUNDING AMOUNT, but ignored the ownership dilution. Others are too eager to set a high valuation but lack business success performance to support it.
There are certain entrepreneurs who do not get the concepts of CAC, LTV, burn rate and thus are not able to confidently answer questions from investors.
The best entrepreneurs view financial literacy as an essential skill to running a business, not a afterthought.
The more in depth you can be with this knowledge in terms of terms associated with the raw data, they better understanding of this information will help! Identifying these terms will not only maximize fundraising, but will help in business decision-making.
Conclusion
The language of startups is a different language and to be a successful entrepreneur, one must be fluent in the language of startups. Words and acronyms I was unfamiliar with equity, valuation, burn rate, CAC, LTV, venture capital, scalability seem intimidating but are just words that have to do with every element of building and investing in startups.
Entrepreneurs who comprehend these concepts will be more capable of talking to investors, looking at prospects, closing deals and managing the company.
Learning these concepts can put you a step ahead if you’re gearing up for Shark Tank, starting your first business or just looking into the realm of business.
Having knowledge to access is one of the most useful resources that every founder could have. The more knowhow you’ve got about business and investing the more confident founder you will be.
FAQs
What is equity in Shark Tank?
Equity is a tradeable share of a company. Investors are traded interests in companies for their cash46.
What do we mean by valuation?
Valuation is the process of estimating how much a business is worth based on revenue, growth, market potential, and profitability.
What is burn rate a definition of?
Burn rate is the rate at which a startup spends its available cash.
What is customer acquisition cost (CAC)?
CAC (cost of acquisition)-cost of bringing a new customer in through sales and marketing.
Are you wondering about seed funding?
The seed funding rounds, first critical investment round that support product creation, experimentation and business hypothesis validation.
Dilution-In startup terminology, what does it mean?
Dilution happens when percentage ownership of founders gets reduced after issuing shares to investors.
What’s the value proposition? Why do investors care about scalability?
The profits of scalable businesses increase proportionate to their revenues. Therefore, they achieve a faster revenue than un-scalable businesses.
What is a pitch deck?
A pitch deck is a presentation that provides an outline of a business plan These presentations are used to communicate information to investors, clients, or partners. A pitch deck refers to a presentation that describes a startup’s business model, market opportunity, financial plans and funding requirements to potential investors.
