As I watched 24 last night, I kept thinking to myself “Why the fuck does Jack have his cell phone ringer on – hasn’t he ever heard of vibrate?” immediately after his cell phone rang but right before he got shot at because the bad guys now knew where he was. I had a parallel thought this morning – “Why do we make all this term sheet stuff so long, verbose, and tedious.” The answer – word processers. If we had to type all this crap on a typewriter (or write it out by hand) it’d be a lot shorter. In both cases, technology is working against us. But – then again, we wouldn’t have blogs (and I can hear a few of you (and I know who you are) saying “and that would be a bad thing because?”)
While there is a lot to negotiate in a term sheet (as you can see from the series of posts on term sheets that Jason and I have written), a term sheet is simply a step on the way to an actual deal. Term sheets are often either non-binding (or mostly non-binding), and most investors will load them up with conditions precedent to financing. Entrepreneurs glance over these – usually because they are in the back sections of the term sheet and are typically pretty innocuous, but they occasionally have additional “back door outs” for the investor that the entrepreneur should watch out for, if only to better understand the current mindset of the investor proposing the investment.
A typical conditions precedent to financing clause looks as follows:
“Conditions Precedent to Financing: Except for the provisions contained herein entitled “Legal Fees and Expenses”, “No Shop Agreement”, and “Governing Law” which are explicitly agreed by the Investors and the Company to be binding upon execution of this term sheet, this summary of terms is not intended as a legally binding commitment by the Investors, and any obligation on the part of the Investors is subject to the following conditions precedent: 1. Completion of legal documentation satisfactory to the prospective Investors; 2. Satisfactory completion of due diligence by the prospective Investors; 3. Delivery of a customary management rights letter to Investors; and 4. Submission of detailed budget for the following twelve months, acceptable to Investors.”
Notice that the investor will try to make a few things binding – specifically (a) that his legal fees get paid whether or not a deal happens, (b) that the company can’t shop the deal once the term sheet is signed, and (c) that the governing law be set to a specific domicile – while explicitly stating “there are a bunch things that still have to happen before this deal is done and I can back out for any reason.”
There are a few conditions to watch out for since they usually signal something non-obvious on the part of the investor. They are:
1. “Approval by Investors’ partnerships” – this is super secret VC code for “this deal has not been approved by the investors who issued this term sheet. Therefore, even if you love the terms of the deal, you still may not have a deal.
2. “Rights offering to be completed by Company” – this indicates that the investors want the company to offer all previous investors in the company the ability to participate in the currently contemplated financing. This is not necessarily a bad thing – in fact in most cases this serves to protect all parties from liability – but does add time and expense to the deal.
3. “Employment Agreements signed by founders as acceptable to investors” – beware what the full terms are before signing the agreement. As an entrepreneur, when faced with this, it’s probably wise to understand (and negotiate) the form of employment agreement early in the process. While you’ll want to try to do this before you sign a term sheet and accept a no-shop, most VCs will wave you off and say “don’t worry about it – we’ll come up with something that works for everyone.” Our suggestion – at the minimum, make sure you understand the key terms (such as compensation and what happens on termination).
There are plenty of other wacky conditionals – if you can dream it, it has probably been done. Just make sure to look carefully at this paragraph and remember that just because you’ve signed a term sheet, you don’t have a deal.
Fred Wilson calls it one of the members of the Internet Axis of Evil. You know it as spam. Several of our companies (Return Path and Postini) are hard at work every day eliminating it from our inboxes.
Matt Blumberg, the CEO of Return Path made a pre-announcement on his blog today about Return Path’s acquisition of the Bonded Sender Program from IronPort. While this is huge weapon in Return Path’s arsenal, it’s also another big step forward in the war on spam. Rather than repeat what Matt said, I’ll simply refer you to his excellent post on why this matters and how it works.
I live in the mountains outside of Boulder. Once a year, every spring, for the last 10 years (since I moved here in 1995), I get snowed in for one to four days (the four day snow in included complete loss of power for three days, no water (since everything in our house is electric), no heat (electric), and no fridge / freezer (fortunately we had tons of snow to serve as our natural icebox.)
It started snowing late Saturday night and finished early Monday morning. When it was done, I had 30 inches at my house, DIA shut down all afternoon Sunday and I cancelled my trip for the week to hunker down and – in the words of REO Speedwagon – I’ve been Ridin’ The Storm Out.
My dogs love the snow. Since it’s now 50 degrees outside and the snow is receding, you don’t get the full early morning view (I didn’t have my camera act together – but trust me – it was massive.)
The view from my bedroom window gives you a better feel for the magnitude of it (after a bunch had melted from the mountains already – including anything on a brick surface.)
It’ll be 60 degrees tomorrow and I expect all the white stuff will be gone and replaced with mud.
I’m not a golfer, but I can appreciate an amazing play / shot / race in any sport. Fred Wilson had a beautiful picture of Tiger Woods up on his site today and then I bumped into Joseph Jaffe’s homemade Nike commercial of a beautiful putt from Tiger (I think on the 16th hole).
We got 30 inches of snow at my house last night so I’m off to the treadmill room to just do it for a while.
As a runner, I love a good running book. The Greatest – the biography of Haile Gebrselassie – a man who dominated distance running for a decade – was extremely inspiring. It balanced the racing with the personal story of Haile, along with a great overview of the Ethiopian running scene and the opportunities and challenges facing the country. In addition to being a champion athlete, Haile has become a very successful Ethiopian businessman and the vignettes about his businesses, why he does them (when he clearly doesn’t have to), and how he is focused on continuing to help Ethiopia evolve as a country was powerful. Heroic running, riveting race stories, good Ethiopian history, the passing of the torch of a champion to the next generation, and a guy that everyone would like – what more could you want from a running biography?
While lots of VCs posture during term sheet negotiations by saying “that is non-negotiable”, terms rarely are (as you’ve likely inferred from previous posts on term sheets be me and Jason.) Occasionally, a term will actually be non-negotiable. In all the VC deals we’ve ever seen, the preferred has the right – at any time – to convert its stake into common. Following is the standard language:
“Conversion: The holders of the Series A Preferred shall have the right to convert the Series A Preferred, at any time, into shares of Common Stock. The initial conversion rate shall be 1:1, subject to adjustment as provided below.”
This allows the buyer of preferred to convert to common should he determine on a liquidation that he is better off getting paid on a pro rata common basis rather than accepting the liquidation preference and participating amount. It can also be used in certain extreme circumstances whereby the preferred wants to control a vote of the common on a certain issue. Do note, however, that once converted, there is no provision for “re-converting” back to preferred.
A more interesting term is the automatic conversion, especially since it has several components that are negotiable.
“Automatic Conversion: All of the Series A Preferred shall be automatically converted into Common Stock, at the then applicable conversion price, upon the closing of a firmly underwritten public offering of shares of Common Stock of the Company at a per share price not less than [three] times the Original Purchase Price (as adjusted for stock splits, dividends and the like) per share and for a total offering of not less than [$15] million (before deduction of underwriters commissions and expenses) (a “Qualified IPO”). All, or a portion of, each share of the Series A Preferred shall be automatically converted into Common Stock, at the then applicable conversion price in the event that the holders of at least a majority of the outstanding Series A Preferred consent to such conversion.”
In an IPO of a venture-backed company, the investment bankers will want to see everyone convert into common stock at the time of the IPO (it is extremely rare for a venture backed company to go public with multiple classes of stock – it happens – but it’s rare). The thresholds of the automatic conversion are critical to negotiate – as the entrepreneur; you want them lower to insure more flexibility while your investors will want them higher to give them more control over the timing and terms of an IPO.
Regardless of the actual thresholds, one thing of crucial importance is to never allow investors to negotiate different automatic conversion terms for different series of preferred stock. There are many horror stories of companies on the brink of going public and having one class of preferred stockholders that have a threshold above what the proposed offering would consummate and therefore these stockholders have an effective veto right on the offering. We strongly recommend that – at each financing – you equalize the automatic conversion threshold among all series of stock.
If you love dogs, strong women, Colorado, hockey, ranches, complicated yet lifelike characters, and beautiful writing, Sight Hound is a must read. I haven’t read Pam Houston’s other books, but they are also highly acclaimed. It’s a little tough getting your bearings since each chapter is told in first person from a different character’s point of view, including several dogs and a cat, but once you put it together it’s a fast ski ride down a huge snow covered mountain on a warm spring day.
I’ve recently become obsessed with the notion that all my data should be integrated in one place and be able to be entered from one place. Of course, this isn’t true, but as my compute infrastructure gets smarter, this will become a lot easier.
I’ve got three types of data: (1) the stuff I want the world to see, (2) the stuff I want certain people to see, and (3) the stuff that is just for me. Logically, my blog (or “my website” – doh) should be the entry point for everything that I create that fits in category #1.
On my main page, the right sidebar has a new item in it: Page Two. This is my page for screwing around with integrating all the various web services available from sites that I current use to create stuff I want the world to see. The first one I’ve integrated is Judy’s Book. My good friend Andy Sack is the CEO – he and I have done several companies together, including Abuzz which was bought by New York Times Digital. Judy’s Book is Andy’s newest venture and he’s starting to shift in beta mode, so take a look.
Integrating the two most relevant categories in Judy’s Book – “Latest Posts” and “Friends” was trivial – it took less then 5 minutes once I’d set the Page 2 page up. For now, I’ll use Page 2 as a sandbox so as to not clutter up my main page. Eventually, I’ll figure out a more logical page layout / menu system for the site that incorporates all of this data.
I’ve got another month before I have to send flowers, chocolate, and my other special mothers day stuff, but an email from my mom today prompted me to write an apology to all mothers everywhere.
I’ll attribute the condescending remark about me understanding Bob Garfield’s comments to your very long plane ride. Welcome home. We’ll call before we leave on our ” even longer than your” plane ride on Tuesday. So long, I don’t even want to think about it.
Love,
Your Phi Beta Kappa Mom (now where is that darn pin?)
Mom – I’m sorry – it was a careless throw away comment – think of it as a “metaphor” for “described in a way someone not in the media or technology industry could understand easily.” (yeah – I know you know that and are just giving me shit.) I know I need to come up with a new metaphor, especially now that Larry Summers has been crucified for his comments about women in the sciences. I should know better and be more “motherly correct.” (Note to the world – my mom is extremely smart, understands technology (and lots of other things), has taught me all kinds of stuff (including how to apologize quickly when I make a mistake), and is an amazing artist who has somehow genetically (ok – environmentally) transfered her love of art to me.)
Sorry Mom(s) (and no – I’m not sucking up to you to get out of mother’s day).