Daniel Behar
Daniel Behar

4 Legal Issues Startups need to Consider before fundraising

Fundraising is critical to the establishment of startups. No matter how disruptive and revolutionary the innovation, if your start-up doesn’t have a clear fundraising strategy it may go down the drain.

Finding an investor is a very competitive and not simple process, especially in Israel, the “Start-up Nation”, where ideas for start-ups flow like water, and anyone may wake up one morning and think they have an idea for a venture that no one else has thought of before.

Tech Angels, Venture Capital firms (VCs) are the most prominent players in high-tech investing. Their model is simple: here is the funding, and in return, we want to receive a certain percentage of the company’s shares and to have certain rights in the company, such as: appointing a board member. Others will demand a veto when it comes to important decisions such as nominating a new CEO or CTO, or when it comes to an IPO.

The risk that venture capital funds take is great, as the vast majority of companies fail to recoup their investment. In Israel, for example, according to unofficial data, around 96% of startups fail. However, once a startup succeeds, it will regain the VC investment and much more beyond that, covering its losses.

Once you have reached the desired moment, and a VC or some private investor, decided to invest in your venture, along with all the happiness and joy the founders are feeling right now, you must sit down together and set guidelines for effective negotiations with the investor.

What the reasonable requirements and the red flags that could significantly harm your rights and holdings in the company in the future.

How should you prepare before entering into negotiations for a share purchase agreement?

When a startup is in its early stages its bargaining power is likely to be small, experienced VCs and investors have templates of agreements and terms and conditions, they are bringing to every negotiation, which saves them a lot of time and money, but allows a relatively small room for maneuver for the startups on the other hand.

However, you must formulate some guidelines and red flags, which will guide you when you come to any negotiations with an investor, as follows:

  1. Create a capital table and a shareholders register – One of the most important things to negotiate with is an orderly register and a capital table, which will describe in detail how many shares each shareholder holds, how many options are allocated to each employee, shareholder director, and each future right for the allotment of a share. In addition, the capital table will describe the value of the company on a fully diluted basis.
  2. Company valuation – It is difficult to estimate the value of the company, especially in its early stages, however, you must come to the negotiation with a valuation made by professional business evaluators to conduct effective negotiations, as the investment must be made per the company value. The fund will also come with its valuation, and usually in the end the final valuation will be determined during the negotiation.
  3. Make sure all shareholders and employees waive intellectual property for the company – One of the most important things for both the company and the investor is to make sure that every employee, director, or shareholder waives their intellectual property rights in the company, such as inventions, patents, and trademarks, to prevent future claims and lawsuits and to protect the rights of the company and its investors.
  4. Make sure the conditions set by the investor do not significantly restrict the entry of a future investor – Start-up and company must always prepare for additional investors, so the company must go through all investment documents thoroughly, and make sure they will not cause investors to refrain from investing in the company,

Admittedly, the bargaining power of startups especially in their early stages is weak, but the company still has to enter the negotiations with some basic guidelines and principles, which will allow it to better negotiate and protect its rights. In any case, it is highly recommended to consult an experienced lawyer, who brings to the table a legal point of view, who will explain to you the full meaning of each clause and will make sure that the negotiation will be quick and effective.

The author is a specialist in corporate litigation, the Co-Managing Partner at GBK – International Law Office, and the President of the corporate and intellectual property law committee in the Israel Bar Association.

About the Author
My name is Daniel Behar and I'm Co-Managing Partner at GBK - International Law Office In Isreal, which its practice areas are: Hi-Tech, Commercial, Corporate, Litigation, Real Estate, Intellectual Property, insolvency, and more. I also served as deputy chairman of the Property and Real Estate Forum of the Bar Association, Chairman of the Intellectual Property - Commercial Property Committee of the Bar Association, Chairman of the Municipal Taxation Committee of the Bar Association, Chairman of the Cooperative Associations Committee of the Bar Association in Israel.
Related Topics
Related Posts