1. DEAL STRUCTURES FOR EARLY STAGE FINANCING September 27, 2011 Anthony Millin Lerch, Early & Brewer, Chtd. www.lerchearly.com

2. Common Stock – Founders, and Friends and Family Round Convertible Note – Friends and Family, and Angel Round Preferred Stock Overview © Lerch, Early & Brewer 2011

3. Common Stock A security that represents an equity ownership interest in a corporation. Is the first form of stock issued upon creating a new company. Stock purchase agreement or subscription agreement. Issued to the founders, and often to friends and family investors Conveys some basic rights to the holder. The right to vote (although there could be a class of non-voting common stock). The right to share in dividend distributions (profits) and the proceeds of a sale of a company (appreciation). Right to the assets of the company upon liquidation, after distributions to the holders of debt and preferred equity. © Lerch, Early & Brewer 2011

4. A Convertible Note A convertible note is a debt instrument, with interest that usually accrues. Frequently issued to angel investors, and is sometimes used in a friends & family round. Is convertible into a company’s preferred stock: Automatically, at the time the company closes on its first preferred round of financing that meets a minimum dollar threshold, or if no such round occurs, at an agreed upon time prior to maturity. Upon a vote of a majority of the convertible note holders. If there is no automatic conversion, and no election to convert is made, the convertible note is repayable along with accrued, but unpaid interest upon its maturity. © Lerch, Early & Brewer 2011

5. Benefits Of A Convertible Note Structure Relatively simple legal structure, and enables a lower transaction cost. Note Purchase Agreement and Promissory Note Provides the investor with priority status over common and preferred shareholders with respect to the assets of the company. Bypasses the need for the parties to agree on the current value of the company. © Lerch, Early & Brewer 2011

6. A Convertible Note With A “CAP” The cap ensures that if the issuing company is very successful, the convertible note investors still will own a material percentage of the company Offers protection in situations when there is: A significant jump in the value of the company for the first preferred round, and a considerable amount of capital is raised. Investor will usually have the option to convert at either: A negotiated discount (i.e., 20%) to the first preferred round The agreed-upon valuation cap. Investor is compensated for investing during a period when market risk, execution risk, technology/product risk and financing risk are usually the highest. © Lerch, Early & Brewer 2011

7. EXAMPLE A company with 1 million shares of common stock outstanding Issued a $500,000 convertible note, with a conversion discount of 20% and a conversion cap of $6 million. The start-up was able to raise $15 million at a pre-money valuation of $45 million in its first preferred round of financing. © Lerch, Early & Brewer 2011

8. Preferred Stock Is a security that represents an equity ownership interest in a corporation. Comes with a set of rights and preferences (priorities) over the commons stock related to the assets and profits of a company. Comes with a set of protective provisions that limit actions that can be taken by the Company without preferred shareholder approval. The first preferred round is called Series A Preferred, the second preferred round is called Series B Preferred, followed by Series C Preferred, etc. Typically issued on pre-money fully diluted basis. Agreements include: Stock Purchase Agreement Investor Rights Agreement Right of First Refusal and Co-Sale Agreement Voting Agreement Amended and Restated COI © Lerch, Early & Brewer 2011

9. Price Per Share on a Fully Diluted Pre-Money Basis Pre-Money - value of your business before taking into account the new money to be invested. Fully Diluted- accounts for the total number of shares that would be outstanding if all possible sources of conversion, such as stock options, convertible notes and warrants were exercised. Enables investor to avoid having its shares diluted later on when these instruments convert, often at a price lower than the price paid by investor. © Lerch, Early & Brewer 2011

10. Shares Currently Issued And Outstanding Vs. On A Fully Diluted-basis Shares outstanding: 3 million; Stock Option Plan: 500,000; Investment Amount: $ 3.5 million; Pre-money valuation: $ 7 million ; Post-money valuation: $10.5 million. © Lerch, Early & Brewer 2011

11. The Liquidation Preference A mechanism by which the investor seeks to recoup its original investment or a multiple thereof, plus any declared and unpaid dividends, before there are any distributions to the common stockholders. Usually is defined to occur upon a liquidation, dissolution or winding up of the company, a merger, or a sale of the company or its assets. Example - $3.5 million dollar investment: © Lerch, Early & Brewer 2011

12. Participating vs. Non-Participating Preferred © Lerch, Early & Brewer 2011

13. Dividends – No-Coupon vs. Cumulative vs. Non-Cumulative 13 © Lerch, Early & Brewer 2011

14. Rights, Preferences, Protections Conversion Rights – The investor’s right to convert to common stock, at its option, or automatically upon the vote of a majority of preferred stockholders or a qualified IPO - based on a ratio (initially 1 for 1, as then adjusted). Preemptive Right– The investor’s pro rata right, based on percentage equity ownership, to participate in subsequent financings. If the investor owns 20% of Company before the subsequent financing, it typically has the right to take at least 20% of the subsequent financing. Registration Rights – The investor’s right to force the company, after a period of time, to register the investor’s shares and offer them publicly, or to include them as part of a registration and public offering made by the Company or a Management Stockholder. Redemption Rights – The investor’s right to require the company redeem its shares at a point in the future (i.e. 5 years) normally at the greater of the purchase price or the FMV (which can be determined by a formula, the Board, or an independent appraisal of the business).

15. Rights, Preferences, Protections Voting Rights – Right of the preferred shareholder to vote with the holders of common shares (except as limited by law), on as converted basis, in addition to specific voting rights granted to the preferred shareholders. Preferred shareholders typically have the right to vote as a separate class for one or more directors as well as with respect to Protective Provisions. Rights of First Refusal / Co-Sale Rights - In the event a common shareholder has a bona fide offer to buy its common stock, the preferred shareholders have a pro rata right to either acquire those shares on the same terms, or to sell their shares, on an as converted basis, as part of such sale of the common shares. Drag Along Rights - The right of a pre-requisite number (i.e. majority) of the shareholders, who agree on a proposed sale of the company or its assets to require the remaining shareholders to participate in the transaction. Information Rights – Right to financial and other information relating to the company, such as quarterly and annual income statements, balance sheets, cash flow statements. Information could also include budgets and budget reconciliations, a dashboard of key metrics as well as notices of material litigation. © Lerch, Early & Brewer 2011

16. Rights, Preferences, Protections Protective Provisions - Require the approval of a majority, or supermajority, of preferred shareholders before an action is taken by the company. There are a number of protective provisions. Examples include: Amending the Certificate of Incorporation and Bylaws. A repurchase or redemption of shares of stock. A material change in the nature of the company’s business. A change the size of the Board. The issuance of new, superior securities. The liquidation, dissolution, and winding up of the Company. © Lerch, Early & Brewer 2011

17. Speaker Anthony Millin is an attorney who works with start-up and emerging growth businesses on equity and debt financings, recapitalizations, and mergers and acquisitions. His practice also includes formation of entities; structuring employee stock option and restricted stock plans, and other compensation arrangements; corporate governance; and strategic partnerships and joint ventures. www.lerchearly.com/team/anthony-l-millin (301) 657-0746. almillin@lerchearly.com © Lerch, Early & Brewer 2011

18. For more information Lerch, Early & Brewer, Chtd. 3 Bethesda Metro Center, Suite 460 Bethesda, MD 20814 (301) 986-1300 www.lerchearly.com Thank you for your participation © Lerch, Early & Brewer 2011