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When negotiating convertible notes, parties typically focus on the terms of conversion upon an equity financing, most notably the discount and valuation cap.  This is understandable inasmuch as the not-so-hidden secret of convertible notes is that no one wants the notes to ever get paid.  The investors are not seeking interest on their investment.  The goal is for the company to attract venture capital investors in the near future, do a priced round and then to have the notes convert into that round at a discount.

Not enough attention, however, is paid to what happens upon maturity, assuming a qualified financing, non-qualified financing or corporate transaction has not occurred that would result in conversion prior to maturity.  As a general matter, three possible scenarios could occur upon maturity of a convertible note: conversion into common, repayment of the note and extension of the maturity date. 

A recent case in Delaware involves a dispute between a company and its convertible note investors over the noteholders’ rights upon maturity.  The case serves as a cautionary tale to investors and companies alike as to the importance during the negotiation process of paying close attention to what happens upon maturity. At the risk of getting tedious, the background details are worth reviewing.Continue Reading Beyond the Discount: Why Maturity Terms Matter in Convertible Notes

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I’m often asked by clients whether startups should have a separate stockholders’ agreement among the founders.  The answer largely depends on whether they have or will have certain other startup documents in place. 

First, some background on stockholders’ agreements.  These are contracts entered into by owners of privately held companies to manage the following governance and ownership issues:

  • Board Composition:  Every corporate statute provides that the business affairs of a corporation are to be managed by a board of directors, which sets policy, makes major decisions and appoints officers to whom the day-to-day management of the company is delegated.  So it makes sense to determine in advance the size of the board, who the directors will be and how those directors could be removed and replaced.  Without an agreement, the default standard would be majority rule, meaning that one or more stockholders with a majority of the outstanding shares would be able to elect the entire board.  A stockholders’ agreement ensures board participation in the manner envisioned by the founders.

Continue Reading Stockholders’ Agreements for Startups: When to Sign, When to Skip

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FTX

“Never in my career have I seen such a complete failure of corporate controls and such a complete absence of trustworthy financial information as occurred here.” Such was the lament of John Ray, the legendary restructuring executive tasked with the unenviable assignment of serving as the caretaker CEO of bankrupt FTX Trading Ltd.  As the criminal and civil cases by the DOJ, SEC and CFTC against FTX founder and former CEO Sam Bankman-Fried play out in the courts, what does the “complete failure of corporate controls” at FTX teach us about corporate governance, unchecked founder control and the importance of proper oversight?Continue Reading FTX, Sam Bankman-Fried and the Risk of Unchecked Founder Control

It’s no shocker that the Coronavirus pandemic has slowed down venture capital investment dramatically, with 2020 now on pace to be well below the high levels of the past couple of years.  According to Pitchbook, VC deal flow through June 28 fell to just 4,675 funding rounds as compared with 6,357 in the first…