Summary
- A term sheet sets the financing terms early and is usually non-binding, but confidentiality, exclusivity and governing law clauses can take legal effect.
- The financing agreement, such as a share purchase agreement, subscription agreement, SAFE or debt documents, creates the binding obligations to complete the deal.
- Due diligence requires you to supply articles of association, shareholder agreements, IP agreements and contracts, and conditions precedent must be met before completion.
- This guide explains the key legal documents startups need when bringing on investors in the UK.
- LegalVision’s business lawyers specialise in advising clients on startup investment and capital raising.
Tips for Businesses
Organise your due diligence pack before approaching investors: articles of association, the share register, shareholder agreements, IP assignments and key contracts. Check SEIS or EIS eligibility early. Read term sheet confidentiality and exclusivity clauses closely, because those bind you even when the rest does not.
Bringing investors into a UK startup runs through three core legal documents: a term sheet, a financing agreement and the due diligence pack you hand over along the way. The term sheet sets the deal terms and is mostly non-binding, though confidentiality and exclusivity clauses can bind you. The financing agreement, such as a share purchase agreement, subscription agreement or SAFE, creates the actual legal obligations. Equity fundraising sits under the Companies Act 2006, with the Financial Conduct Authority regulating public offers and crowdfunding. After signing, conditions precedent must be met before completion, and any security or new share issue is registered at Companies House. This article will outline the essential legal documents you need when bringing on investors in the UK.
The Term Sheet
A term sheet, also called heads of term, is negotiated relatively early in the financing process and sets out the key terms governing the financing arrangements. The purpose of a term sheet is to focus the parties’ minds so they can negotiate the finer points, all of which will comprise the final transaction agreement.
The exact terms that the terms sheets set out depend on whether you are raising equity (shares) or debt financing (such as loans and bonds). As you will see in the table below, some standard terms overlap for both debt and equity. Notably, the terms in bold tend to have legal effect in the context of a term sheet.
| Debt Financing | Equity Financing |
| Common terms include the: + loan amount; + interest payable; + terms of any conversion rights to swap debt for shares; + repayment schedule, including the redemption date; + specially negotiated loan covenants; events of default; + confidentiality clause; + exclusivity agreement; + party who pays costs; + dates at which the negotiations end if no deal is reached; and + governing law and jurisdiction clauses. | Common terms include the: + valuation amount; + investment amount and the number of shares issued in exchange; + special rights, if any, attached to the newly issued shares; + conditions parties must fill before signing the share purchase agreement; + confidentiality clause; + exclusivity agreement; + party who pays costs; + dates at which the negotiations end if no deal is reached; and + governing law and jurisdiction clauses. |
Investors’ Due Diligence
Due diligence is the investigation an investor undertakes to ensure the target business is financially and legally sound. In other words, due diligence allows an investor to:
- evaluate the startup’s financial health;
- identify any potential risks or liabilities; and
- verify the accuracy the startup provides.
Investors will also seek information on your startup’s financial performance and forecast. While this information is not strictly contained in legal documents, the target usually has a legal obligation to supply factually accurate information. If you do not, investors may have a legal claim against you for misrepresentation and breach of warranty.
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The Financing Agreement
The financing agreement is the legally binding agreement that gives the financing legal force. An equity financing agreement may be called a share purchase agreement, subscription agreement, or simple agreement for future equity (SAFE). Debt financing agreements are generically called debt documents.
In all cases, these are the documents that, once signed, create legal obligations on the party to complete the financing. Debt financing agreements will be contained in the loan documentation and other documents like security agreements and trust deeds.
Transaction Formalities With Investors
After you execute the financing agreement, certain items must happen before the transaction completes. These include:
- obtaining shareholder resolutions approving the financing;
- obtaining regulatory approval, which is typical for regulated industries; and
- undergoing final solvency checks against your startup.
Because completion is conditional on these processes happening, financing agreements usually call these ‘conditions precedent’. These often require one or both parties to undertake certain legal formalities and produce various legal documents. For instance, convening a shareholder meeting requires:
- several board resolutions;
- board minutes;
- legal notice supplied to shareholders containing the resolution;
- minutes of the shareholder; and
- post-meeting particulars forwarded to the other party and Companies House.
In the context of debt financing, any security in the target’s assets will have legal effect only if it is registered at Companies House. This happens after the transaction has been completed.
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Key Takeaways
When raising startup finance in the UK, critical legal documents investors need include:
- a term sheet outlining the financing terms (though not usually legally binding);
- the financing agreement (such as share purchase agreements for equity financing or debt documents for debt financing), which create legal obligations; and
- various legal documents required as part of the due diligence process, including articles of association, shareholder agreements, IP agreements, and contracts.
Post-agreement formalities, called conditions precedents, involve obtaining shareholder resolutions, regulatory approvals, and undergoing solvency checks. These formalities require the production of additional legal documents such as board resolutions, minutes and legal notices.
If you need help with your startup’s key legal documents when bringing on investors, 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 and draft and review your documents. Call us today on 0808 196 8584 or visit our membership page.
Frequently Asked Questions
When is a term sheet legally binding?
A term sheet is mostly non-binding, but specific clauses can still bind you. Confidentiality, exclusivity, who pays costs and governing law provisions usually take legal effect. Marking the document “subject to contract” signals the rest is not binding until you sign the final agreement.
What do investors review during due diligence?
Investors review your articles of association, shareholder agreements, intellectual property agreements, supplier and customer contracts, and any current disputes. They also check financial performance and forecasts. You must supply accurate information, or investors may have a claim against you for misrepresentation or breach of warranty.
What is the difference between debt and equity financing for a startup?
Equity financing means selling shares, so investors take ownership and often special rights. Debt financing means borrowing, repaid with interest under loan documents, sometimes secured against assets. Some founders use convertible loan notes, which start as debt and then convert to shares at a later round.
What post-agreement formalities are involved in startup financing in the UK?
Post-agreement formalities, known as conditions precedents, include obtaining shareholder resolutions, regulatory approvals, and undergoing solvency checks. These processes require the production of additional legal documents, such as board resolutions, minutes, legal notices, and particulars, and may involve registering security at Companies House for debt financing.
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