Endeca Technologies is a software company that established by Steve Papa on September 4th 2001. In the case, the company is currently looking for a Series C round funding to reduce the expected pre-money valuation multiple times because of the NASDAQ had fallen. In the end, the company got a rough pre-money valuation of $25M. At this time, there are two different term sheets that each of them contains some pros and cons putting in front of Papa to let him choose. Overall, Papa should choose the first term sheet because the benefits in that term sheet are more than the second term sheet, and at the same time it has less cons.
Does Endeca look like a good investment at this time?
Overall, Endeca looks like a risky choice for investors to invest. Since Endeca is a technology software company, this industry is very competitive and intensive; everyday there are new firms emerge in this industry with new technologies and ideas. At the beginning, Endeca planed to make a Series C round funding in around November and Decemeber in 2000. However, because of the NASDAQ was falling, the CEO Papa realized that raising funding at that time was vey hard. Thus, Papa extended the funds from Series B to an extra six months. Papa’s action gave many other firms to have the chances to catch up and build up their technologies and management strategies. Thus after this six-months delay, Endeca needs to put in more effort to gain back its market status. What are the motivations for BVP and Venrock? Ampersand?
Bessemer Venture Partners and Venrock invested in the second round on Endeca. Because Papa had connections with Venrock, where he had served a summer internship while at HBS. Papa and Venrock built the good relationship at that time, thus Venrock is willing to invest in Endeca, which is his motivation to invest in the firm. Ampersand is a new potentially company that will invest in Endeca in Series C. This is a very diversified company and so far they didn’t invest in any technology company similar to Endeca yet. First, because Ampersand never invested in any firm in this industry yet, as a diversified investing firm, they are willing to take the chance to try new thing to invest on Endeca. Secondly, Ampersand has a long-standing connection to Endeca’s top management team, which is also Ampersand’s motivation to invest in Endeca.
How has the CEO handled the C round? Would you do anything different? The CEO Papa hasn’t handled the Series C round well due to many different reasons. First, as mentioned before, because at that time the NASDAQ was falling, in order to avoid the bad investment situation and wished the market will get better again, Papa stretched the Series B investment for an extra six months. However, this turned out to be a bad decision. The fact is that the market didn’t improve later and the company was having difficult to get the term sheet from investors. Secondly, even though fortunately Papa got two term sheets in the end, what he did wrong was that he made a verbal commitment to the insider-led and a potential client DGSCP says that one offer is better than the other one.
If in the end Papa choose the other offer, he might be risky on breaking his words in front of DGSCP and losing business with them. If I were responsible for handling the C round, I would definitely do things differently. First of all, I would not delay the Series C round investment. I think investment funds are extremely important on doing a business; it is always better to prepare for enough funding rather than need it but cannot get the money. In addition, I would not bring the insider-led and the potential client DGSCP into the deal to give any verbal commitment before I made my decision.
Provide a detailed discussion of the pros and cons of the two term sheets. Which is more favorable to Endeca? Evaluate the two term sheets both financially (in terms of value) and non-financially (other terms.) Which provides them with a higher probability of survival and success?
First Term Sheet
Many investors who invested before, easier for the transition
Barely dilutes Venrock
Original Price equals to Liquidation Preference
Made verbal commitment before
Potential client DGSCP involved
Lower price per share, $0.985/share
Second Term Sheet
Higher Price per share, $1.25/share
Bring in new investors, new opportunity
Lose Anger Series B investors and DGSCP in the C round
More complicated because of new investors
Ampersand doesn’t have much experience in investing this industry
Accrued dividends and redemption rights
As the chief representative for Endeca’s shareholders, which deal should recommend to the Board? Why?
As the chief representative for Endeca’s shareholders, I think Papa should choose the first term sheet. According to the analysis above, the first term sheet has more benefits over the second term sheet and less cons compared to the second term sheet. The only thing I concern about the first term sheet is the capital is less than the second term sheet. However, in reality the capital that the second term sheet provided is still far from what Papa initially wanted for Series C. Most importantly, because Papa made the verbal commitment with the potential DGSCP client that he would choose the first term sheet, consider the future cooperation and business that Papa would probably do with DGSCP, I think it is a wise choice to choose the first one at this point.