To successfully secure and negotiate venture capital financing it is critical to appear knowledgeable and informed throughout the process. One of the most important aspects is familiarity with the terminology employed.

The following list provides a good base:

• Book Value: Calculated from a company’s balance sheet data. It is the sum of current and fixed assets less debt, other liabilities and the liquidation value of any preferred stock. This value is divided by the number of common shares to give the book value per common share.
• Cost of Capital: The cost to the business of the capital required to fund its operations. Debt providers generally demand a lower rate of return due to their senior liquidation position. Equity providers take more risk and therefore expect higher returns. The aggregate of the percentage of financing obtained from each source multiplied by the corresponding cost provides the weighted average cost of capital (WACC).
• EBITDA: “Earnings Before Interest, Tax, Depreciation and Amortization”. Often used as a proxy measurement for operating cash flow before financing charges. Excluding non-cash expenses, financing charges, and taxes, provides a good idea of the amount of money the company’s operations are generating.
• Internal Rate of Return (IRR): IRR is a specific discount rate that, when applied to all cash outflows and inflows of an investment, make the sum of these discounted values equal to the present value of the investment. It is a typical measure employed by VCs to evaluate performance. Projected returns must meet a hurdle IRR before an investment is considered.
• Liquidity Event: This is an event that allows a VC to terminate its involvement in the business and realize the gain or loss on its investment. Common exit strategies include, trade sales, management buy outs, secondary buyouts by another VC firm and IPO’s.
• Pre- and Post-Money Valuations: A pre-money valuation is the company value prior to the completion of a financing round. This number is calculated by the VC and will drive negotiations in terms of ownership required for capital provided. The post-money valuation is the value of the company after the capital injection.
• Preferred Shares: Stock class with preferential rights over common shares, such as first right to dividend or capital payments. VC investors prefer such holdings and may further seek Cumulative Preferred Stock, where accumulated unpaid dividends are paid before any common stock dividends.
• Return on Investment (ROI): The profit generated by an investment or project divided by the funds invested. Unlike the IRR calculation, ROI does not take into account the timing of cash flows.
• Risk Premium: This is the additional level of return that an investor requires in order to be compensated for a greater level of risk. For a company raising finance, the perceived business risk will directly impact cost of capital.
• Working Capital: Sum of the company’s current assets, including cash, liquid investments, inventory and receivables, less its current liabilities. A good measure of the firm’s liquidity, which is often critical in early-stage ventures.

Entering into a venture capital agreement should be approached as a partnership arrangement and a successful relationship is only possible if you fully understand your partner’s terminology.