Show Me The Money Corporate Finance for

Early/Growth Stage Companies F E B R U A RY 2 5 , 2 0 1 6

J E S S E A H U J A & A N D R E W H E N N I G A R

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Agenda q  Shareholder Loans

q  Debt vs. Equity Generally

q  Capital Structure Considerations

q  Employee Incentives (Shares vs. Options)

q  Regulatory Framework

q  Non-Institutional Financings

q  Institutional Private Equity

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Context – Why do we care?

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Successful startups use multiple types/sources of capital and manage their capital structure

Key questions:

Ø  What type of equities securities to issue?

Ø  To whom and in what amounts?

Ø  How much debt can the company attract?

Ø  How much debt can it support?

Ø  What mix of debt and equity should it assume?

Capital Structure Senior Secured Debt

Senior Unsecured Debt

Subordinated Debt

Hybrid Securities / Preferred Shares

Common Equity

Prio

rity

on li

quid

atio

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Stock options

Mezzanine

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Shareholders’ Loans Ø  Simple / common starting point when bootstrapping

Ø  Promissory Note

Ø  Secured vs. Unsecured

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Shareholders’ Loans: Advantages

Ø  Easier for shareholder/lender to recover $$

Ø  Rank equally with other unsecured creditors

Ø  If secured, rank ahead of unsecured creditors and other shareholders

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Shareholders’ Loans: Disadvantages

In some circumstances, it may be more tax efficient for shareholder/lender to receive dividends, rather than interest payments

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Debt vs. Equity: Debt

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Any obligation/liability = debt

Why distinguish between debt and equity?

Ø  Effect on tax status of payments

Ø  Interest is subject to limits (Criminal Code)

Ø  Investor rights in bankruptcy / insolvency

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DEBT EQUITY

Obligation to repay initial investment (principal) at some time in the future

Share in the future value of the enterprise (no specified right to return)

Fixed rate of return (Interest), legally enforceable independent of company’s success No enforcement right to payment of dividends

Ranks ahead of equity in the event of liquidation / windup (often secured) Subordinate to debt on liquidation / windup

Extensive terms and conditions in contract Fewer conditions (Articles, fiduciary duties of

directors and sometimes Shareholders’ Agreement)

Debt vs. Equity: Equity

Equity

Law: ownership interest in incorporated entity

Finance: total assets less total liabilities

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Debt vs. Equity: Equity Key characteristics of Equity:

Ø  Equity is subordinate to debt

Ø  Directors owe a fiduciary duty to Shareholders

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Capital Structure Considerations Ø  Identity of the investor

Ø  Preferred exit

Ø  Balance sheet treatment

Ø  Tax treatment

Ø  Dilution

Ø  Relationship to risk

Ø  Signal to potential investors

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Key considerations for both company and investor:

Employee Incentive: Shares

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100% Founders

Incorporation Exit

60-70% Investors

20% Employees

10-20% Founders

Employee Incentive: Shares

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Ø  Aligns interest of employees/officers/directors/shareholders

Ø  Maximum impact/resonance with employees

Ø  FMV of shares reportable as income

Ø  Shares can’t be issued for future work

Ø  Escrow arrangement or call option for probationary period

Employee Incentive: Options

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Ø  Most common mechanism for growth companies

Ø  Structure

•  Option Plan

•  Option Agreements

Ø  Typical term up to 5 years

Ø  Non-transferrable (some exceptions)

Ø  There is a cost to granting options

Regulatory Framework

B.C. Securities regulations apply to every issuance of securities from a company in B.C. or to an investor in B.C. – whether the issuer is public or private.

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Regulatory Framework Ø  Purpose: protection of investors

Ø  Applies to equity and debt instruments

Ø  Applies to new issuance (“distribution”) but also each subsequent transfer between shareholders (“trade”)

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Regulatory Framework

Basic premise: companies must issue securities with a prospectus and through a registered dealer, unless distribution/trade qualifies for an exemption.

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Non-Institutional Financings Ø  Friends and Family

Ø  Angels

Ø  “Retail” Investors

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Non-Institutional Financings Why we love Angels:

Ø  Mentorship

Ø  Connections

Ø  Credibility

Ø  $$

But…

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Non-Institutional Financings Beware the newly-minted Angel…

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Non-Institutional Financings Offering Memorandum:

Ø  Prospectus “light”

Ø  OM is itself a prospectus exemption

Ø  Often used even if not relying on OM exemption

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Institutional Private Equity (VC) Ø  Angels

•  Former entrepreneurs investing their own money •  Risk tolerance

Ø  Venture Capital Funds •  Professional investment intermediary investing others’ money •  Often with a narrow industry focus •  Larger investments •  Fixed exit timeline

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Venture Capital Structures

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Ø  Staging Investments Ø  Preferred vs. Common Shares

Ø  Retraction Rights and Put Options Ø  Redemption Rights

Ø  Dividends

Venture Capital Structures Ø  Anti-Dilution Provisions Ø  Conversion Rights

Ø  Liquidation Rights Ø  Pre-Emptive Rights

Ø  Co-Sale Rights and Right of First Refusal

Ø  Drag-Along Right

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SR&ED – Make Your Money Go Further

Presented by Jeff Christie, Partner, Boast Capital

OUTLINE

I.  Overview of the SR&ED Program II.  Benefits of Claiming SR&ED III.  Case Studies IV.  CRA’s Requirements V.  Do’s and Don’ts VI.  Q&A

I. OVERVIEW OF THE SR&ED PROGRAM

WHAT IS SR&ED?

APPLICABLE INDUSTRIES

QUALIFYING CRITERIA

Must meet three criteria to qualify for SR&ED:

1.  Technological Challenges 2.  Technological Uncertainty 3.  Technical Content or Iterations

ELIGIBILITY The CRA’s 5 questions: 1.  Was there a scientific or a technological uncertainty that could not

be removed by standard practice/engineering? 2.  Did the effort involve formulating a hypothesis specifically aimed at

reducing or eliminating the uncertainty? Continued…

ELIGIBILITY 3.  Was the adopted procedure consistent with the total discipline of

the scientific method, including formulating, testing, and modifying the hypothesis?

4.  Did the process result in a scientific or technological

advancement? 5.  Was a record of the hypothesis tested and results kept as the

work progressed?

II. SR&ED BENEFITS

WHO CAN CLAIM?

SMEs = defined as generating less than $500K taxable net income in the prior fiscal year.

SR&ED BENEFITS Return rates for SME CCPCs:

SR&ED BENEFITS Return rates for non-CCPCs:

III. CASE STUDIES

CASE STUDY 1

§  Software company with operations in Vancouver (CCPC)

§  7 developers (1 front-end, 6 back-end)

§  Salaries are $75K per year and ~58% of time is eligible

CASE STUDY 1

§  Front end development not typically eligible §  Eligible expenditure pool for salaries would be ~$261K ($75K x 58% x 6) §  Proxy overhead method and CCPC rates of return §  ≅$167K worth of refundable investment tax credits (ITCs)

CASE STUDY 2

§  Oil & Gas Technology company with operations in Calgary (CCPC, with $900K in taxable net income)

§  5 engineers §  Salaries are $82K per year and

~67% of time is eligible §  Have built and tested several

prototypes, cost $120K)

CASE STUDY 2

§  Eligible expenditure pool for salaries would be ~$275K ($82K x 67% x 5) §  Proxy overhead method and non-CCPC rates of return §  ≅$99K worth of investment tax credits (ITCs) from salaries

CASE STUDY 2

§  Eligible expenditure pool for materials would be ~$120K §  non-CCPC rates of return §  ≅$29K worth of investment tax credits (ITCs) from materials

CASE STUDY 2

§  Total Return is ~$127,800 in Investment Tax Credits.

§  Approximately 58% will be non-refundable Federal Credits (~$74K)

§  Approximately 42% will be refundable from Alberta (~$53K)

IV. CRA REQUIREMENTS

TECHNICAL DOCUMENTATION CRA requires that SR&ED documentation must: §  Have been documented at the time the work was completed §  Highlight technical obstacles or challenges §  Be dated

TIME TRACKING

FINANCIAL STATEMENTS

WHEN TO CLAIM?

18 Months Past Fiscal Year End § Current Claim = Within 6 mo §  Amended Claim = Within 7 to 18 mo

TURNAROUND TIMES

From receipt of a complete claim:

§ CCPC Current Claim – 4 months § CCPC Amended Claim – 8 months § Non-CCPC Claim – 12 months

CRA REVIEWS

CRA Review ≠ Tax Audit Multiple types of Reviews:

§ Desktop §  Financial §  Technical & Financial §  First Time Claimant Advisory Service (FTCAS)

IV. THE DO’S AND DON’TS

THE DO’s

Do: §  Pay yourself and staff §  Start time tracking and proper documentation

now §  Incorporate your company

THE DON’T’S

Don’t: §  Underestimate the importance of

documentation §  Focus on the business opportunity §  Leave SR&ED claims until the last minute

JEFF CHRISTIE PARTNER 403 589 2809 | jchristie@boastcapital.com BoastCapital.com | @BoastCapital | @ChristieLuge

Client-Centered. Responsive. Innovative.   At Michael, Evrensel & Pawar LLP (MEP Business Counsel), we approach the practice of business law differently. As a guiding principle, we are committed to provide the same

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  As a Canadian corporate and entertainment law firm with extensive international experience, our contemporary model is simple but far from common:

  World-Class Experience – Our team of highly experienced and award-winning lawyers – with training and experience from internationally recognized firms in London, New York, Toronto, Montreal, Beijing and Vancouver – provide world-class business and entertainment legal services to some of North America’s most notable companies.

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Presenter Bios

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Call to the Bar British Columbia, 2008 Areas of Expertise Mergers and Acquisitions Corporate Finance Corporate and Commercial Technology Start-up Companies Venture Capital / Private Equity Education B. Arts, Queen’s University, 2003 LLB, University of Ottawa, 2007

Jesse Ahuja (jahuja@meplaw.ca; (778) 329-9038) Senior Associate

Jesse Ahuja is a Senior Associate at MEP Business Counsel. Jesse’s practice focuses on mergers, acquisitions and dispositions, joint ventures, the formation and financing of private companies, strategic transactions and general commercial matters.

Jesse has a particular interest in the technology sector and is passionate about assisting tech companies through all stages of development: from incorporation, to financing, commercialization and exit.

Jesse has advised public and private corporate clients on mergers, asset and share acquisitions and divestitures, corporate restructurings, limited partnerships, general corporate matters and corporate governance. Jesse has also assisted issuers, agents and underwriters with public and private financing, including IPOs, short and long form prospectus offerings, private placements and rights offerings. He has advised public issuers on regulatory compliance matters, corporate governance and continuous disclosure obligations, including ongoing securities law compliance advice to TSX and TSX-V listed issuers.

Prior to joining MEP Business Counsel, Jesse practiced corporate and securities law in the Vancouver offices of Stikeman Elliott LLP.

Selected Representative Work •  Represented a group of investors led by Roger Hardy Capital Corporation in their successive acquisitions of all of the shares of each of Seattle-based Onlineshoes.com,

Vancouver-based SHOEme.ca and St. Louis-based Shoes.com. •  Represented Thunderbird Films Inc., a Vancouver-based film and television production company, in connection with its successive acquisitions of all of the shares of Great

Pacific Media Inc. and Soda Pictures Limited. •  Represented a Vancouver-based television production company in connection with the sale of a 49% equity interest to one of the world’s largest media and entertainment

companies. •  Acting as co-counsel to Asian Coast Development Ltd. in respect of the development of a destination casino in Vietnam including advising on multiple debt and equity

financings, management relationships, corporate governance, construction and regulatory matters. •  Advised a private equity fund in connection with a financing by way of convertible debentures in a private technology company. •  Advised an online retailer in connection with a cross-border asset-based lending facility collateralized against accounts receivable and inventory. •  Representing a cloud computing/custom software/mobile application development company in connection with a national cloud computing joint venture. •  Represent a media technology start-up (music; internet) in connection with corporate structuring, series A financing, and ongoing corporate and commercial matters. •  Represent a media technology start-up (film and television; internet) in connection with corporate structuring, series A financing, internet and mobile transactions,

confidentiality and non-competition agreements, services agreements and ongoing corporate and commercial matters. •  Represent an electronic payment (B2B and B2C) technology company in connection with structuring, financing and commercial matters.

@meplaw.ca

Jesse Ahuja

Presenter Bios

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Call to the Bar New York, 2007 British Columbia, 2012

Areas of Expertise Mergers and Acquisitions Corporate Finance Corporate and Commercial Technology Start-up Companies Venture Capital / Private Equity Education B. Comm, McGill University, 2003 J.D., University of Toronto, 2006

Andrew Hennigar (ahennigar@meplaw.ca; (604) 891-1184) Senior Associate

Andrew’s practice focuses on mergers & acquisitions, private equity and venture capital transactions, corporate finance (both public and private) and general corporate and commercial matters. Andrew represents a broad range of clients, including start-ups, growth stage companies and mature private and public companies. Andrew has experience in share and asset purchases, divestitures, equity offerings, spin-outs, restructuring transactions, shareholder matters, securities law and TSX/TSX-V compliance and corporate governance. Andrew has also represented purchasers of assets through both Canadian and US bankruptcy proceedings.

Prior to joining MEP Business Counsel, Andrew practiced in the securities group of the Vancouver office of Blake, Cassels & Graydon LLP and in the mergers & acquisitions group of the New York office of Paul, Weiss, Rifkind, Wharton & Garrison LLP.

Selected Representative Work §  Represented Shoes.com Technologies Inc. in its acquisitions of all of the outstanding shares of Shoes.com, Inc. from a subsidiary of Calares

Inc., and Richer Poorer, Inc. from its founders. §  Represented an Alberta-based construction management company in its acquisition of all of the outstanding shares of a Vancouver-based,

family owned construction management company. §  Represented Thunderbird Films Inc. in its acquisition of all of the shares of Atomic Cartoons Inc. §  Represented Viable Healthworks (Canada) Corp. in its acquisition of the AIM Health Group. §  Represented Cardiome Pharma Corp. in its cross border acquisition of Correvio LLC. §  Represented Webtech Wireless Inc. in the sale of its NextBus division to Cubic Transportation Services Inc. §  Represented LM Ericsson and the “Rockstar Consortium” in its acquisition of Nortel Networks’ patent portfolio. §  Represented LM Ericsson in its acquisition of the assets of Nortel’s CDMA and GSM businesses. §  Represented Webloyalty Holdings, Inc. in connection with the share for share merger with and into a subsidiary of Affinion Group Holdings,

Inc. §  Represented Shoes.com Technologies Inc. in its non-brokered private placement of common shares for gross proceeds of $45 million. §  Represented General Atlantic LLC in connection with its preferred equity investments in Peixe Urbano, Inc., Gilt Groupe, Inc., Red Ventures

LLC and others.

@meplaw.ca

Andrew Hennigar