One definition of venture capital (“VC”) is defined as “a type of equity financing that addresses the funding needs of entrepreneurial companies that for reasons of size, assets, and stage of development cannot seek capital from more traditional sources, such as public markets and banks.” (https://www.sba.gov/content/venture-capital, Sept. 2nd 2015) For companies that are pre-revenue or too early to obtain loans or go public, venture capital is a viable option depending on your industry, potential for growth and the amount of money you want to raise. However, venture capital is NOT for every business. Most venture capitalists seek significant control of your business from a management standpoint, such as a seat or more on your Board, and some will only look at high growth industries like tech and biotech to invest into, expecting high returns and to exit the business in less than 10 years.
Below is a slideshare presentation I put together on the basic 9 VC deal terms you should know. Clearly this is not an exhaustive list as the attachments alone to VC investor agreements can be several pages long. But this should give you a general idea of what to expect from a VC deal.
NOTE: I will be discussing this subject in detail during my “Power Raisers” weekly conference call this Monday (Sept. 21st) at 11 am EST. Visit the News & Events section of my website for more information.
- 9 VENTURE CAPITAL DEAL TERMS TO KNOW Presented by: Kendrick Law Practice, Private Equity Attorneys Dar’shun Kendrick, Esq./MBA
- REMEMBER TO JOIN US WEEKLY…. To view past recordings and to see the upcoming schedule, visit http://www.kendricklaw. net/news-events for more information.
- ABOUT ATTORNEY KENDRICK & KLP 2 B.A.s (communications/political science)- Oglethorpe University J.D./law degree- University of GA School of Law M.B.A.- Kennesaw State Oldest of 2 entrepreneurs Life long learner We work with companies seeking to raise $250,000 or more in private equity funds.
- DISCLAIMERS These are not ALL the terms you will see in a VC deal. Deal structures vary from deal to deal. Consult your legal counsel for more information. AND We do NOT find companies funding or investors.That violates securities law.We work with companies to complete their legal compliance associated with raising capital.
- WHAT IS “VENTURE CAPITAL”? Is it money provided to seed, early money, or emerging companies. A company would need venture capital if they are too small for an IPO (initial public offering) and haven’t gotten to the point where they could secure a bank loan (lack of financials or history, etc.) Venture Capital Firms are private equity firms that provide “venture capital financing.” In exchange, they usually want substantial control of the business operations. In addition, you will find they demand a high rate of return typically in less than 5 years.
- TERM SHEET VS. STOCK PURCHASE AGREEMENT Term sheets create no obligation for theVC term to invest; the preliminary terms of the deal are outlined so that legal counsel can put in final Stock Purchase Agreement Vs. Stock Purchase Agreement is where the terms discussed will come into play. Once this is signed, the VC is obligated to abide by the terms in the agreement.
- TERM 1:TYPE OF SECURITY VC firms usually prefer a convertible preferred stock. “Convertible” because the stocks convert to common stock upon a triggering event, such as an IPO, and “preferred” because it gives theVC firms advantages over common stockholders.
- TERM 2: PRICING AND VALUATION This includes the heart of the deal:The money! The amount theVC will invest and number of shares issued to theVC of the company’s fully diluted stock ownership. Valuation = Price per share x no. of shares available for purchase. This will usually be outlined in the term sheet.
- TERM 3: FULL DISCLOSURE VC companies will want extremely detailed agreements and disclosure schedules that include covenants (“agreement to do something”) and restrictive covenants “agreement not to do something”) as well as warranties and representations about the company.
- TERM 4: LIQUIDATION AND DIVIDEND VC firms will include a term that entitles them to a predetermined amount of the company is ever liquidated. Because their stock is “preferred”, dividends must be issued to the VC firms before dividends can be issued to common stock holders.
- TERM 5: ANTIDILUTION CLAUSES VC firms want to protect the percentage of ownership in the business against future ownerships.Therefore, most VC stock purchase agreements will have anti-dilution clauses to make sure they retain the same percentage of ownership throughout subsequent rounds of financing.
- TERMS 6 & 7:VOTING & PREEMPTIVE RIGHTS Since their stock is “preferred”, VC firms will have significant voting rights, including but not limited to, voting for a seat on the company’s Board of Directors. Additionally, preemptive rights give the VC firms the right to purchase more stock in future rounds of financing.
- TERMS 8 & 9: MANAGEMENT NON-COMPETES & NON-DISCLOSURE AGREEMENTS VC firms want to make sure that the founds and management of the business they are investing in won’t steal trade secrets and ideas to start another business and so they required Non- competes from the company. A Non-Disclosure (NDA) term will be added to make sure confidential company information is not shared by the founders or management of the issuer/company.
- SO WHAT ARE YOU WAITING FOR? Book a FREE 15 minute services consultation HERE Sign Up for Our Enewsletter HERE Let’s talk about strategic partnerships HERE
I am Dar’shun Kendrick, Private Equity Attorney and Owner of Kendrick Law Practice, helping businesses raise capital the LEGAL way. We work with “for profit” companies seeking to raise $250,000 or more through private equity that have a line item budgeted for legal services. I have 2 B.A.s from Oglethorpe University, a law degree from the University of Georgia and an M.B.A. from Kennesaw State University. NOTE: I will be discussing this subject in detail during my “Power Raisers” weekly conference call this Monday (Sept. 21st) at 11 am EST. Visit the News & Events section of my website for more information.
We are ONLY authorized to practice law in Georgia and therefore any legal advice in this blog only pertains to Georgia based businesses. Please visit us online to sign up for a time to discuss services or for our famous 10 point Business Legal Consultation for 1 hour.