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Funding rounds can be both exciting and complex. As a founder, entering a funding round with a draft investment agreement ready for use is a great idea. The drafting process can help you solidify your expectations and navigate the investment process confidently. This agreement will outline the terms and conditions of the investment. It will stipulate the roles and responsibilities of you and your investors. This article will explain tips for founders considering drafting an investment agreement so you can set a strong foundation for successful partnerships with your investors.
1. Plan Key Terms
Every investment agreement must include critical terms such as:
- the equity stake you will provide investors;
- the investment amount you will receive in exchange; and
- your investors’ rights.
You should carefully consider these terms before drafting your agreement.
To begin to shape your agreement, think about aspects such as:
- your startup’s goals and objectives;
- how much funding you require to fulfil those goals and objectives;
- how you plan to use the funds;
- what you will expect from investors; and
- what you can provide your investors in return.
When you have a clear idea of your startup’s needs and expectations, you can begin to put pen to paper and draft an investment agreement.
2. Carefully Consider How Much Equity You Can Provide
Funding rounds often involve seeking equity investment from funders such as angel investors and venture capitalists. If you are seeking an investment in exchange for equity, you will need to consider how much equity you are willing and able to provide. You should enter every funding round with a clear idea of the percentage of ownership you are willing to offer potential investors. Explicitly state the stake investors will receive within the investment agreement.
You can include anti-dilution provisions in the agreement to prevent an investor’s stake from diluting with each funding round. These provisions ensure an investor’s stake retains its value if you issue new shares at a lower price. You will need to balance the inclusion of anti-dilution provisions with your interests carefully. This is because they can impact you and your startup’s existing shareholders’ level of ownership.
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3. Determine Investors’ Rights
Potential investors will have particular expectations of your draft agreement. Start by identifying the essential rights investors typically expect to have in an investment agreement. These may include:
- voting rights;
- decision-making abilities;
- access to financial information; and
- rights to exit the startup.
You should clearly define their rights within the investment agreement. While doing this, you should balance protecting investors’ interests and preserving your startup’s flexibility and autonomy.
4. Enable Transparency
Investors will expect you to provide timely and accurate financial information about your startup’s performance. Within the agreement, you can enable transparency by specifying the frequency of sharing financial reports and any restrictions on disclosing sensitive information.
5. Consider Exit Rights
Investors will already be thinking about their exit strategy before they invest. Both angel investors and venture capitalists will look for investment opportunities that will enable them to generate significant returns on their investments. They will want to include exit provisions within the agreement that allow them to exit the startup under certain circumstances. You should consider these rights. Also, address them in your draft investment agreement. Be sure to include all conditions that might apply to their exit.
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6. Seek Legal Advice
An investment agreement is a legally binding document that will impact you and your investors. Should either party breach its terms, there is a risk of legal consequences. For these reasons, seeking expert legal advice is a great idea. A lawyer can advise you on what to include in your investment agreement or draft one on your behalf. They can also ensure that your agreement complies with relevant laws and regulations.
Key Takeaways
Essential tips for founders drafting investment agreements include the following:
- planning key terms before drafting;
- considering how much equity you can provide in exchange for investment;
- determining investors’ rights, striking a balance between their rights and your own;
- enabling transparency by setting the frequency and format of financial reporting;
- considering investors’ exit strategies; and
- seeking legal advice.
Drafting an investment agreement can be critical for founders entering funding rounds. You can create a strong foundation for successful partnerships with investors by carefully:
- planning key terms;
- considering equity allocation;
- determining investors’ rights;
- enabling transparency; and
- addressing exit provisions.
An investment agreement is one of the key legal documents you will encounter during your startup venture. It is an investment contract, so it has legal implications and can be complex. This means that seeking legal advice is a good idea. Doing so can ease your drafting process, protect your interests, and mitigate the risk of legal disputes.
If you require legal advice about drafting an investment agreement, our experienced startup lawyers can assist as part of our LegalVision membership. For a low monthly fee, you will have unlimited access to lawyers to answer your questions, as well as draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.
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