I feel like you should name and shame, to some degree. Ask the VC for a reference to another portfolio company who had this arrangement. Or, cold email their other founders and ask if they
have this arrangement. Email any other investors you have to ask whether this is ok. My guess is that the investor knows they are being greedy, and they know that their reputation would get hurt if others knew they were doing this. If it's not a shady action, then I think nobody will fault you for asking around.
I don't necessarily think the VC has bad intentions. But, it sounds like they are trying to change the terms of an existing agreement. That, to me, seems unethical. Talking about these shady actions publicly tends to cause the community to self-police a lot. Perhaps another investor will inform this VC that they make money now, but hurt deal flow later, by taking actions like this.
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One other thought: you could say something like "the company lawyer says this is not a normal arrangement and wants specific paperwork due to SEC deal maker rules. Can you have your lawyer send us the proposed agreement?" My guess is that they will drop it then they realize it will cost $10k in legal fees to do this, and it might even be illegal to do contingency fees without being a registered deal maker with the SEC.
Why call it "name and shame" and not just "name"? Be honest about the behavior and let people judge for themselves whether the behavior is shameful. If an action is above-board, the actor should not mind being named.
I'm having a little trouble seeing the "injustice". It's probably not wise to "name and shame" over a bad term sheet (your standard recourse with that is just to walk away), but it's hard to see a moral controversy here.
Maybe "name and shame" is a lousy way to describe it. But, I think it makes sense to talk about the offer more openly with people in the same startup community.
As a successful startup, there will be future rounds of funding. Any follow-on investor will eventually find out about problems on a cap table. They will probably fight to reverse it before an investment, or worse - it will sink the deal and the company. If OP's VC is a novice, maybe they don't know about liquidation preference. If they are not new, then perhaps the community should know about such divergent investment terms.
I agree about talking to a lawyer. But, in my experience, lawyers can find a way to make things work - and they won't stop a deal because of non-standard round terms. The non-standard terms hurt the company as they try to bring on additional investors. Any experienced founder or investor can provide guidance about how trying to "reinvent the wheel" for fundraising will cause problems down the line.
I think he was commenting on the generational trend. There is naturally going to be a shift when two billion new users enter a media landscape that was previously only occupied by a few professional firms. In addition, I think it would be hard for an intellectually honest person to deny that in the current age of click bait news that agencies of all stripes are running articles with less corroborating evidence than they would have in the past so as to be the first ones to the scoop. Unfortunately, Russian facebook trolls have set the new burden of proof for online kangaroo courts, and it is not much.
No, but people's ways of thinking are influenced by how the world worked throughout their lives, with a lasting influence from when they were young.
Public shaming as an immediate reaction is fairly recent in the short history of the internet. The technology supported it easily in the 90s (or even late 80s using newsgroups), but it didn't become a common practice right away. Retweeting and hashtags seem to have turbocharged public shaming.
The social norms of my generation (49 yo, in California) required that one try to settle business disputes directly between the parties before resorting to public shaming. I still abide by that norm, even though I recognize that many people think differently. Which way is ultimately better for society isn't clear yet.
Apologies for the meta commentary, but I just want to say that I'm glad these kinds of questions still get asked and can reach the front page of HN. Ask HN and Show HN were the two big things that attracted me to come here.
1. If the investor is a former rainmaker banker who will go above & beyond in the transaction, effort that would normally cost you $mm's, she might be justified. She could also have factored that "value add" into a lower valuation rather than in a separate right.
2. Ascribe a monetary value to the term and adjust other areas of the financing (valuation, control rights, etc) accordingly. There is nothing unethical about issuing unusual terms as long as all parties are informed and it is done transparently.
I am not looking to name or shame. I'd love to just understand the experience of others within the community and get more understanding of everyone's view on this request.
To be fair, until this point the VC in question have been good to work with so it's not the usual nightmare investor rant. I was just shocked at the request from a preference shareholder that I thought would have real incentive to do this, at the same time I don't want to damage a relationship. I get covering costs, some kind of bonus incentive with a fixed fee, just not what is essentially increasing their equity holding.
Any experience or examples would really help me get more of an understanding outside of my own direct network.
It would be really useful if the responses offering firm advice on this thread could indicate whether they'd had experience successfully raising VC in the past. There are a lot of opinions about how VC should work on this forum, but the question here is pretty specific. They're not asking whether HN in general thinks this is OK.
To be clear, is this VC already on your cap table or are they just a potential investor in the next round that won’t be happening because of the acquisition?
The only clause I've seen which is similar was from a crowd-funding firm who had some administration fees around the collection and transfer of the funds to the company. It was rather nominal and was fair given the work they'd done and the number of investors they worked with on our behalf.
I've never heard of that. Typically, the acquired firm hires an investment bank to handle the sale. The VC is already highly incentived to do what they can to help due to their equity holding, for example using their network to make intros to possible acquirers.
I guess it depends, as the incentive structure differs. The VC is likely trying to squeeze some extra fees out for a different role he's fulfilling.
If I own 20% of a business worth $50m as a VC, and I run a $10m fund, then I will make 20% carry on the $10m exit. That's $2m in my personal pocket, pre-tax.
If I can facilitate a deal through a highly personal contact (i.e. close friend) where the company is sold to BigCo for $50m, and I can also charge 2% of the acquisition value to all investors (i.e. in line with what an investment bank or broker charges) then I pocket another $1m. So now I made $3m.
There is nothing inherently unethical about wearing two caps if you actually put a deal together -- whether that is raising capital (equity or debt) or facilitating something. Though in this case there MIGHT be a conflict of interest. But taking small percentage commissions is very common in business on certain transactions.
If an investor is already invested in my company, then the expectation is that they are already trying to help me fundraise from future investors and helping me to realize exit with potential acquirers. So I shouldn't have to pay extra.
Obviously there is likely more to this story, but on the average this feels perverted.
If this is the rising star in your investment portfolio, you're totally right.
But if it's a sinking ship then the personal relationship might be worth more to the fund manager than trying to save it by making a small acquisition.
Honestly, like you said it all depends on the context and we're not hearing the full story.
I also wouldn't be surprised to see this more in Europe, where most of the VC funds invest government money (money from the EIB, local government funds, etc)
Details of the transaction were not given. But investors benefit in proportion to their equity holdings, but their efforts may not be in proportion to their equity holding. Is this a small equity holder who is putting in an outsized effort to bring this exit while other investors are free riding?
Atleast, based on the experiences of Rand Fishkin (of Moz.com fame ) as recorded in his autobiographical book [1] "Lost and Founder: A Painfully Honest Field Guide to the Startup World". In it, he elaborates on his experience with working with VCs at different stages and what is normal and what is not. It should be required reading for anyone working with or approaching VCs.
His Arguments: Since VCs already profit from your acquisition, they are part of the team. They are stakeholders just as you are. The main reason they are allowed on board, is so that they can provide advice on how to lead the company. So no fees for advice or such.
Also, another important aspect he points out. Sometimes, what is good for you and your company is at odds with what's good for a VC. Thats because VCs expect enormous growth from the successful companies to offset the loss of investment in the startups that don't pan out. A startup with a more modest year on year growth does not cut it from them. Yet that might be the best strategy for you and your startup.
It's been some time since I read it, so I am a bit rusty. He enunciates all this much better.
Maybe they wished they had preferred shares? There are better vehicles for this, worked out far in advance of the liquidity/change of control. You shouldn't be surprised by the actions or requests of a shareholder during an acquisition.
Does your shareholder agreement include a "drag along" clause? What percentage of shareholders are required to vote in favor of the acquisition? I would check to make sure they can't screw up the vote if you don't take their (a bit worrying) offer.
If it’s an ugly situation, VCs can play hardball. For instance, if another investor is squeezing them (or squeezed them in a prior round) this can be their way of getting back at them. It’s one reason to be very careful who you give veto power to.
Is this VC also an investment bank or Private Equity firm? Those businesses are much more likely to tack on fees.
* The VC has already invested in our co.
* A term sheet has been put forward for acquisition of our co.
* They want a fee to help close the sale but it is a % rather than a $ sum.
* VC have been good to date, no complaints.
* I have also invested small amounts in co's I am passionate about. Always helping with intro's / tech advise within my area of expertise, often putting in many days of work. I do this because I like the founders, am passionate, curious about their product and always end up learning lots this way. I would never dream of asking for payment unless hit with a direct expense, expecting any payback to come at liquidity and a hopefully good feedback if anyone else asks about me.
Still trying to guage if my personal code working with startups is out of line with industry in general. I don't have significant VC experience and appreciate that there is some value add here.
If they're asking for a cut to shop and help close the deal then they're playing banker. That's the kind of thing bankers do. It would blow my fucking mind if they wanted a cut to shop their own exit. If that's the case you should be profoundly distrustful. Either way lawyer lawyer lawyer.
Unless, as someone mentioned above, they invested just a little bit and this deal will be making fortunes for others AND they are putting huge efforts into the deal process.
In this case they are acting as a banker who happens to have a stake. I don’t like it but if you compensate them based on uplift from the proffered term sheet then that might be palatable.
But if they are trying to stall the deal unless they get paid then charitably they may be saying this is a premature and under market price and they are only happy, if the founders want out, to get their return through the top up. Uncharitably they see they can stop the deal and have negotiating power and are screening everything until they get paid.
Overall a deal needs everyone to smile to get done. If they make you a lot more money over the offer then it’s ok to make them happy - as long as all shareholders agree.
If they just need a kicker to make everyone else happy then you might need to grimace and pay, and I imagine sign an NDA. That’s not a great way to do deals but it is an exit.
(VC - and we never charge the companies anything)
This is unreasonable and I would be surprised if it's permitted by their agreement with their customers (umm, I mean "limited partners"). Not that you could find that out.
Note that their customers are already paying them 2% of the commitment every year to pay their expenses. So it's already unreasonable that most VCs use the capital invested to pay their own legal costs (that's supposed to come out of the 2%!). Having them transfer additional funds they pay you back to themselves borders on fraud (the LPs are committing money on the promise that it will be invested in your growth).
If you have another VC option I suggest you take it -- this may be a sign of problems to come.
If you have no alternative...well you have no alternative.
I don't necessarily think the VC has bad intentions. But, it sounds like they are trying to change the terms of an existing agreement. That, to me, seems unethical. Talking about these shady actions publicly tends to cause the community to self-police a lot. Perhaps another investor will inform this VC that they make money now, but hurt deal flow later, by taking actions like this.
--
One other thought: you could say something like "the company lawyer says this is not a normal arrangement and wants specific paperwork due to SEC deal maker rules. Can you have your lawyer send us the proposed agreement?" My guess is that they will drop it then they realize it will cost $10k in legal fees to do this, and it might even be illegal to do contingency fees without being a registered deal maker with the SEC.