The kind folks over at The Funded have created a template early stage term sheet that they believe will help make it easier for VCs and entrepreneurs to close Series A rounds with lower legal fees. This is very much a noble cause and I support the idea. Reducing friction and costs associated with a fund raise = great idea.
I’m not a lawyer (and as always I advise you to get a good one if you are negotiating with VCs), but if you can get a VC to agree to this term sheet at a valuation and $’s raised that you like I think you ought to accept it! This is a pretty darn entrepreneur friendly term sheet and you’d be feeling pretty good if you got a VC to sign it.
However, I’m pretty sure most VCs will push back on at least a few things, such as their preferred stock voting as converted instead of as a single class, the single trigger vesting upon acquisition (meaning the entrepreneur gets all their stock 100% vested if the company is sold), no redemption rights, some VCs will want full participation and finally I don’t see an exclusivity period in this term sheet. I’m not sure any VC that signs a term sheet without an exclusivity period really knows what he or she is doing. And they are probably going to have to ask you to pay for their legal fees (oh – you thought the term sheet was the expensive legal part of a venture capital round? It actually gets expensive when you are drafting the stock purchase agreement, the investor’s rights agreement, etc.)
Of course, if you need to raise a Series B round THAT investor may try to get different terms. And, if you use this term sheet and have issues further down the line remember that I warned you to get a lawyer to help you…
A guess the real question is, will there ever be a fund raise where the entrepreneur is going to be able to risk not having good (read: expensive) legal advice? Will it ever actually be possible to reduce the importance of sound legal advice when negotiating with VCs? A few years ago the NVCA published standard legal documents for venture capital investments. So far as I know, all decent venture capital firms base their investment documents off of these standard templates. But did this actually reduce the cost of legal advice on the typical venture capital investment? Has anyone actually looked at the average cost of company counsel pre-NVCA standard docs being published and post? I have not been playing this game long enough to know if this initiative actually saved anyone legal fees. My bet (and I have absolutely no data to back this up) is that entrepreneurs are paying about the same in legal fees today on a Series A deal as they did a year before the NVCA published their docs. So, even if The Funded or some other more standardized term sheet takes off I’m willing to be it will ALWAYS be a competitive advantage to pay up and get good legal advice on a VC transaction. You just don’t want to mess anything up when you first establish your capital structure…
One more thing: expect to pay around $25k to your company counsel and $25k to the investor’s on your Series A round.
August 28th, 2009 at 5:16 pm
Good post. We're working on some standard, freely available docs here in Canada too, but the issues you raise are legitimate. I'm working on a sub $1M angel round now and its a shame to see the legal fees involved. I guess the hope is that for a seed round, you (ie. the investor) can skip some of the usual protections because its clear that a new round with new documents will be coming in the very near future.
August 28th, 2009 at 7:59 pm
Seed investors can set the wrong precedent if not careful. But it does seem to be a shame if 5% of proceeds go to legal fees. Good luck with those Canadian standard docs.
August 31st, 2009 at 2:33 am
I believe you are correct that there is no data to show whether the NVCA docs affected legal fees. My guess is that before the great recession, legal fees for Series A and other rounds rose steadily year after year and that since the great recession they have gone down. I suspect that the NVCA docs did not affect fees at all. If you really want to keep your legal costs down, talk to your attorney before he or she starts working on your docs. Most attorneys who work with early stage companies will cut you a good deal if (1) they believe they are establishing a long term relationship, (2) they believe you have a half way decent chance of success, (3) they believe you will eventually need sophisticated legal services for which they will be able to charge standard rates, and (4) that you will be willing and able to pay these rates at that time. One final point, use an attorney who routinely works with early stage companies and vc funded companies. If you pick the fellow whose bread and butter is hostile takeovers, guess what will happen. To a man with a hammer, everything is a nail.
September 1st, 2009 at 7:21 pm
Dave, thanks for the great comment and the view from an experienced startup lawyer.
November 24th, 2009 at 3:13 pm
[...] to have good representation. I guess legal fees will always be part of a fund raise. I know I’ve complained about legal fees before, and will likely continue to do so… Posted in Fundable, V Said | Leave a [...]