Hey there! My name is Ramiro and I am the Head of Legal at Samaipata. I co-ordinate all the legal workstreams of Samaipata’s investments and I also look after all our day-to-day legal matters, while giving a hand whenever needed! A smooth legal process is like music to my ears (and should be to yours too I hope!), so let me share our top tips on how you can do it! Let’s go.
Most articles on this topic focus on just the first stages of a financing round (e.g. pitch decks, term sheet, etc.). While that stage is extremely important for founders, what about what happens next? Signing a term sheet is the first (and a critical) milestone, but there is still plenty of work to be done afterwards that can make the difference between a smooth and painful process.
Here are my top tips for founders on how to navigate the lesser known process of transforming a term sheet into a set of long form documents and some much valued money-in-the-bank.
1) Choose the right lawyer
Lawyers are like doctors: they each specialise in an area. The same way you don’t want a paediatrician to do open heart surgery, you should not rely on a traditional M&A lawyer to advise you on a VC deal. Even though VC deals have some common elements to regular M&A deals, there are still some nuances that mean those lawyers who are more familiar will make your life much easier.
Let’s get straight to the point - Lawyers who are unfamiliar with VC deals can be a roadblocker to the deal, generate unnecessary discussions on well understood or market standard terms and consequently, increase all parties’ transactions costs. Sounds painful, right?
Founders should be aware of this and make sure that they find a lawyer who has experience in VC deals, ideally in the stage you are fundraising. Even if they may be more expensive than other lawyers who may not be so specialised, we highly encourage founders to go with the VC specialised lawyers as in the long run, they will be much more efficient and save you (and everybody else’s) much blood, sweat and tears.
2) Take care of the process
Founders are at the centre of the financing process. The process happens because of them and they have to look after it.
They should make sure that the deal keeps its momentum and all the workstreams are progressing according to plan. These workstreams include, among other things, the review and exchange of comments to legal documents, due diligence information flow, the coordination with existing investors, etc.
The VC fund and the advisors can provide guidance, especially to first time founders, but the responsibility to take the deal across the finish line lies with the Founders. In our experience, whenever that is not the case (e.g. if lawyers take the lead), deals are often delayed and sometimes even derailed.
The best tip on managing a process well is to keep communication open with the investors as much as possible. For example, misunderstandings and commercial sticking points can be resolved much quicker over a 10 minute phone call than a thread of 10 emails going back and forth between lawyers. It is surprising how many bottlenecks and delays in the process come from simple misunderstandings!
3) Keep an eye on the timings
Founders (and VC funds, actually) want to finalise the negotiation process of the legal documents as soon as possible: it is burdensome, time consuming and not the most fun (except for maybe the lawyers!).
However, all parties should be aware that the negotiation process needs its due amount of time. Instead of trying to rush things carelessly (which mostly leads to a chaotic approach that causes delays), the parties should focus on minimising each interaction to what is reasonable (e.g. how long it takes the company to provide the due diligence documents, how long it takes to exchange each round of comments, etc.). Additionally, a Gantt chart setting out estimated timings for each interaction can be very helpful to set out reasonable timings and see where the process could be sped up, as well as to get everybody on the same page (you can definitely expect to see such a chart if Samaipata’s involved!).
4) Understand the DD needs of your investor
VC funds, as any other institutional investment player, need to be sure about what they are investing into for a number of reasons (yes, fiduciary duties is one of those reasons). This is done through a due diligence process.
The due diligence process can relate to a number of different things: commercial, legal, ESG, regulatory, financial, etc. Depending on each company, the due diligence may focus on just some of the areas and not necessarily all of them. For example, a very early stage Pre-seed company may be pre-revenue, so due diligence may just focus on legal and regulatory matters.
Most of the time, Founders can expect VC funds to conduct an initial commercial due diligence that forms the basis of a Term Sheet and once that is signed, the more technical due diligence (e.g. legal or financial) will be conducted.
5) Legal “MBA”
Typically, founders (especially first-time founders) have little to no knowledge of many of the legal concepts negotiated in the legal documents. But this is not necessarily bad, it is a great learning opportunity!
Although founders will always be advised by lawyers in the context of a financing round, it is vital for founders themselves to be familiar with the legal concepts in the legal documents, to understand their rationale and, to some extent, the mechanics behind them. At the end of the day, founders should be the ones negotiating the documents and to do so, they need to know if a regulation is reasonable or not, what consequences it will have down the road, etc.
On the actual legal concepts, there are plenty of resources on the topic out there: content produced by VC players, posts from law firms, template documents published by venture capital associations (such as the BVCA in the UK or the NVCA in the USA), books (such as Venture Deals), etc. We recommend that founders read some of these even before a process starts to familiarise themselves!
However, be aware of the source of the information used. While the legal concepts are mostly consistent between jurisdictions, their particularities and regulations may vary greatly from country to country. That is why founders should focus on understanding the rationale of legal concepts.
6) Understand why agreements exist
Agreements are not drafted to reflect the ideal scenario where all the parties get along and are 100% aligned - and that is a very good thing.
Agreements are meant to last and so they have to cover a wide range of scenarios and ensure that the interests of all the parties are protected. This is why, despite sparkling relationships at the time the documents are drafted, agreements include provisions for less than ideal scenarios where the parties may not be so committed or the company may not be going through its best time.
Remember that no one wants to face a tough situation but if and when the time comes, it’s in everyone’s interest that the rules of the game are defined upfront.
Bonus Tip! Build strong foundations
The legal process from term sheet to money-in-the-bank is a wonderful occasion for founders to build strong foundations for many reasons.
Venture capital deals are very special in the sense that, unlike M&A deals, all the parties are business partners the moment after closing. You can think of a VC deal like a marriage, you will be united with a special one (the VC) but you first have to negotiate a prenuptial agreement. For this reason, all the parties should negotiate fairly (knowing what the key points are for each other and understanding their needs) and keep building the best relationship possible while doing it. The way the parties negotiate in the early days really sets the tone for the rest of the relationship and of course, we all want to start off on the best possible foot ahead of the long journey.
Additionally, the legal documents of early stage rounds could potentially be used as the foundation for subsequent financing rounds. If such documents are strong and sufficiently detailed, future investors will be able to fit their needs into that document by simply amending it. Of course, the benefit is that future rounds could be faster, more time efficient and cheaper. At Samaipata, we have always strived to follow this route and create strong early stage legal documents and our experience has been very positive in subsequent rounds.
At Samaipata, we are always looking for ways to improve. Do not hesitate to send us your thoughts. We strive to partner with early-stage founders and to support them in taking their business to the next level. Check out more ways in which we can help here or for all our other content here.
And as always, if you’re a European digital business founder looking for Seed funding, please send us your deck here or subscribe to our Quarterly updates here.