united-states, funding, investment, venture-capitalQuestion primarily to those, who have had past experience with companies that received Series A funding or to those who funded them.
Investor needs to protect his funding:
Entrepreneurs may want to steal the invested funds.
Entrepreneurs might be honest yet might not be doing what was expected or might not be doing enough to grow the business.
Entrepreneur needs to protect his assets too:
Investors might want to take control over entire company.
Investors might be looking to secure their share without investing agreed amount of money in case investment is split into multiple payments.
Investors might be looking to walk out in the middle of the plan without investing enough.
I’m sure the above problems have been resolved thousands of times. How do parties typically resolve those issues?
Most of your concerns are allayed by incorporating the business. Incorporation creates the legal fiction that the business is a “person” in its own right and thereby owns all of its assets; ownership and control of the resulting corporation is divided into shares.
###Risks to the investor###
The investor will usually undertake significant due diligence on the entrepreneur to gain comfort that he is an honest, trustworthy and reliable person in which to invest. Of course, things can still go wrong, but this exercise should help to minimise the most substantial risks.
Entrepreneurs may want to steal the invested funds.
What you’re describing is a criminal offence. If an investor puts money into a corporation, then that money belongs to the corporation and not the entrepreneur. If the entrepreneur embezzles the invested funds, he commits a criminal offence.
Embezzlement and theft are deterred by the threat of the perpetrator being arrested, convicted and punished (coupled with the fatal reputational damage that would ensue); furthermore, the victim could recover their losses from the perpetrator (if he has enough assets) or possibly even third parties who are in receipt of the stolen money.
Entrepreneurs might be honest yet might not be doing what was expected or might not be doing enough to grow the business.
The investment agreement will usually stipulate that the investor has the right to appoint a director (perhaps himself) to the board in order to oversee the business’s strategic direction and monitor/control what it does with its assets. If the investor has more than the requisite proportion (usually 50%) of voting shares, then they could always exercise their control to replace directors in order to remove a completely incompetent entrepreneur (although finding a replacement who shares the vision might be difficult).
###Risks to the entrepreneur###
The entrepreneur would do well to speak to other people with whom the investor has worked in the past and find out what they are like as a business partner. He should also obtain counsel from a competent commercial lawyer, who will know how best to protect against common problems.
Investors might want to take control over entire company.
The entrepreneur almost always retains some share of ownership. Even if that is not a controlling share, the law intervenes to protect minority interests: thus just as an entrepreneur cannot steal invested funds from a corporation, nor can majority shareholders deprive minority interests of their rights. For example, if a director acts only in the interests of a major shareholder to the detriment of any minorities, he could be in breach of fiduciary duty (incurring significant personal liabilities).
The investment/shareholder agreement may also stipulate further protections for the entrepreneur, any breach of which would give rise to claims in the law of contract.
Investors might be looking to secure their share without investing agreed amount of money in case investment is split into multiple payments.
The terms of the investment agreement would usually stipulate what would happen in such a scenario. It would not be unusual for an investor to receive only shares pro rata to the investment that they have actually delivered up to that point, although the valuation (methodology) to be used for future tranches might be agreed in advance. Alternative solutions exist and the choice of structure is often motivated by tax concerns, so it is impossible to give general advice in the abstract.
Investors might be looking to walk out in the middle of the plan without investing enough.
Ditto.
Great question.
In one word, review.
By the time you get to closing a round of investment, I can honestly say that you'll know your investors very well. They'll also know you fairly well.
Starting with your investor concerns -
Entrepreneurs may want to just steal what was received.
Entrepreneurs might be honest yet might not be doing what was expected or might not be doing enough to grow the business.
Dealing with both of these - investors often use convertible debt (see other post) to protect against these types of problems. Any investors into pre-valuation startups are likely to favor structures where money is released over time, where an investor can withdraw their future contributions if they feel it's not being used responsibly.
Regarding the entrepreneurial concerns -
Investors might want to take control over entire company.
Investors might be looking to secure their share without investing agreed amount of money in case investment is split into multiple payments.
Investors might be looking to walk out in the middle of the plan without investing enough.
This is just the reality of a startup situation. It is an entrepreneur's responsibility to build value where there may have been little or no value to begin with. Therefore it is the responsibility of the entrepreneur to engage in transactions which they believe to be favorable for their position.
The sad reality - investors are always selfish and always are looking after themselves - they are human.</em> They may be nice, and care about your well being, but just remember to engage in contracts that are beneficial for you, because you are the only one (as an executive, founder etc.) who can look after your best interest. Best of luck to you in the shark tank.</p> ## Answer 572 - posted by: [JezC](https://stackexchange.com/users/87431/jezc) on 2014-08-31 - score: 2 Trust building, and defensive measures. In my experience, the first-time founder is at a massive disadvantage in these negotiations. The investor usually has dozens of similar deals in play. The founder - this is probably the first of this type of deal, and may be the largest single financial transaction they've ever done. Get a good negotiator on your team, who's playing on your side. That's usually a lawyer, IME. Their job is to reduce your risk. Investors sometimes believe that the early stage innovator is not the person to take the company global. They will want to gear up, at some point. And they'll probably want to do that with a CEO they know and trust to do that. So, build trust that you execute, that you do what you say, and that you are the safe pair of hands. Flaky behaviour - failing to hand over financial plans when agreed, missing delivery deadlines, missing sales targets, unpredictable displays of emotion - all raise doubt. So you have to learn to be brutally realistic and an effective manager. On the founder's side, you have to develop trust in the investors. This may be more or less difficult when facing a representative of a group of investors. If the group is conflicted, the representative may be useless to the business. You should be getting more out of the investors than just money; advice, connections, and support are typical benefits of a good investor. They will have been through the development of a business many times. That investor experience means that a founder should be able to interview the leaders of other businesses - a reference. If you can't get good references... watch out. IME, you'll be introduced to other teams in the portfolio, to get or give advice; but that may just be the investors that I've seen in play (YCombinator, Lord Young, Index Ventures, etc). The process is remarkably similar to strategic arms limitation talks and the consequences are very similar. Trust and validate. Trust that the other party is doing what they say they're doing, and run validation checks to make sure that observable elements of trust are in place. Exactly how this is done is partly jurisdictional. I've worked in the USA and in the UK. The legal agreements, and the processes of trust building, are different, IME. The basics of the dance are the same, though. You should be in a state where each of you is happy and welcomes the phone call of the other, at unexpected moments - because it will be good, supportive news or an intriguing issue that neither of you could have anticipated. If you dread hearing from the other party, that's a bad place to be in, for both of you. I should emphasise that I have not personally received Series A funding. I've been in the senior team or a C level exec when negotiating for Series A, and I've worked directly for founders that have had Series A funding. My personal experience has been in the seed and early rounds. ## Answer 582 - posted by: [Tommy Otzen](https://stackexchange.com/users/4026382/tommy-otzen) on 2014-09-01 - score: 1 From my own experience, I know investors often take a percentage of the ownership. The size of percentage depends on a few variables: - The amount of money being invested - Which phase the company is in. The earlier and more risky, the higher percentage. - The estimated value of the company, at the given time when the investment is made. - The potential payout of the investment. From what I have seen, investors wanted something between 15-40 percent of the ownership. In the case of 15 percent, the investment was quit low. Often you'll agree on a process for paying back the investment, depending on the potential for break-even and start making a profit, it could be 7-12 years. What could happen in the mean time, is the need for expansion and further investment, which would change the time, for paying back the investor. If your company have a huge success and grow a lot in value, the investor could sell his part to secure his investment. They also often want to be members of your board, to have some influence over their investment. That's why investors often only invest i areas where they got experience, so they can give extra advice. Beside the capital they invest in your company, they will often also add a lot of value in sort of network and expert advice. Don't just go for investors with money, but also some who cares and understand your vision. Anyway, most investors won't just agree to invest money, they want to make the road for success, using all there assets. Hope that helped! --- All content is licensed under [CC BY-SA 3.0](https://creativecommons.org/licenses/by-sa/3.0/).