Getting ready for an equity raise? Read this if you want to save time and money on legal fees.

I am working with a handful of companies expecting to raise an equity round in the next couple months. In some cases, it will be a company’s first real fundraise, with prior investment coming through a bridge round (notes, SAFES, etc). In other cases, it will be a Seed-2 or A round. Regardless, It is a nerve racking time for a founder/management team and with everything else on your mind, ensuring your company’s books and records are in order from a legal perspective is most likely not high on the to-do list to prepare for the financing, but it should be. Here are 3 easy steps you and your team should be taking weeks before you execute a term sheet to ensure you will cut down on deal timeline and, most importantly, legal fees.

1) Start Populating your Dataroom

Often times your lawyers will have records relating to incorporation, stock grants, board consents, etc. but there are non-legal categories of information which your lead investor’s counsel will absolutely request in the course of their diligence which you or your team members will be better equipped to provide (as opposed to your lawyers), like, for example, commercial agreements with customers, financials, schedule of IP assets and descriptions of third-party source code that the company has incorporated in its products, etc.  A member of the team should be taking the time to organize, gather and populate the dataroom before the term sheet is signed so when the diligence request comes in from investor’s counsel, all you have to do is send the invitation. Leaving this task in the hands of your lawyer becomes inefficient and time consuming. So do yourself a favor, open up a dropbox account (a now totally accepted venue for investors and their counsel) and take control of creating/populating your dataroom. Not doing so will be costly.   

2) Start Collecting Information for Disclosure Schedules

One of the key tasks of a junior associate in connection with a financing is guiding the disclosure schedule process. Often they invite a kick-off call with the client early in the transaction process whereby the associate spends the time (and your company’s money) to hold your hand and give you instruction on how to populate the disclosures in response to the reps and warranties in the stock purchase agreement. Here is a secret - you can save yourself the pain of that call by going to NVCA’s (National Venture Capital Association) website, download the form Stock Purchase Agreement (for free) and read through the reps and warranties (Section 2 of the form Stock Purchase Agreement) in close detail before the term sheet is even signed. To the extent you have an exception to a rep or the rep calls for you to disclose certain information, jot that disclosure down (informally is fine) on a piece of paper. 9 times out of 10 the reps that make it into the Purchase Agreement in your deal will look very similar, if not identical, as the reps and warranties are rarely negotiated heavily in the context of an early stage equity financing. Hand that list of disclosures over to your lawyer and they will be impressed. More importantly, you’ve just saved yourself a 2 hour call (at least) with a junior associate after the deal is in full swing. Woohoo!

3) Start Cozyin’ up with your Cap Table

Arguably the most important step you can take to save yourself a big headache heading into your financing is knowing your current cap table inside and out. It is your chance to start your relationship off on the right foot with your lead investor and helps you and your lawyers with organizing for the diligence process and preparing for drafting deal documents, as well as your counsel’s opinion (which will mostly require your lawyers to opine on the number of securities you have issued up until the financing). So go down each cell in your cap table well before your financing, ensure everyone that has received equity is on there and that anyone who is on there is being shown as receiving the right amount. Sounds simple enough but I can’t tell you how many times lawyers are left with this job. And trust me, it can get costly.

Getting ready for your seed round? Don’t let your lawyers use these forms…

There is no question, over the past 10+ years, the trend in the industry has pushed companies and investors away from a more robust “Series A” round as a form of initial equity financing to a leaner “Series Seed” round. We almost take for granted now that a company can access much smaller (yet meaningful) amounts of capital, much earlier than they would have been able to, from established institutional investors willing to commit time and energy to a company and its vision. Over the course of that same period, the tech community became comfortable leaning a lighter set of customary legal rules, rights and obligations for companies and investors to live by as they navigate together toward the Series A round. This reality was spearheaded by Fenwick & West through their initiative to open source a set of financing documents called “Series Seed Documents”. The first version of the documents were made available in 2010. They had some kinks but overall they were industry changing. In 3 fairly simple documents (a charter, stock purchase agreement and investors rights agreement), they were able to establish a market standard for how to paper Series Seed rounds. For companies this was a huge deal as they had, up until that time, been forced to rely on variations of the full suite of NVCA Series A documents (a charter, stock purchase agreement, investors rights agreement, voting agreement and ROFR/CoSale Agreement) with lengthy rights and legal concepts which very rarely (if ever) came into play given the company's stage.

In 2013, however, the Series Seed forms took a bad turn. Fenwick decided to combine the stock purchase agreement with the investors rights agreement in one agreement called the Stock Investment Agreement. So you might ask, why would it be a bad thing to limit the paper work further from 3 to 2 documents? Well, I’ll tell you why. After closing your initial Series Seed round, not all companies experience the trajectory that allows them to follow-on with an immediate Series A round 1-2 years later. Instead, a large majority of my clients (and other seed stage companies) end up opting to put together a follow-on “Series Seed-2” round, typically to take advantage of raising additional capital, at a slight uptick in valuation to the Series Seed round, while leveraging the same defined rights/obligations set forth in the Series Seed round. And it is at this moment, after hanging up the phone with their client, that the lawyer runs into technical drafting issues. Whereas, with the version 1 Fenwick documents, amending those forms to layer in the Series Seed-2 security sold in the follow-on round was seamless and required only a small handful of changes to the already approved documents, with the version 2 Fenwick documents, specifically, because of the combination of the stock purchase agreement with the investors rights agreement, lawyers were left with only clunky (and I mean CLUNKY) ways to layer in a Series Seed-2 security appropriately.

So what is the solution? Hopefully Fenwick will address this issue and revert back to help standardize an industry around their original forms composed of 3 documents. Otherwise, you should pressure your lawyers to rely on alternative forms which have the flexibility to account for that follow-on Series Seed-2 round (even if you don't end up utilizing it). Anything otherwise would be short sighted.