How to Land an Investment Deal that Works for You
Preparation is the key to successful negotiations with an investor.
The last stretch of an entrepreneur’s fundraising process can have the greatest influence on her experience leading her company. What do founders need to know to close the deal?
In partnership with Project Entrepreneur, a program by UBS, Hello Alice developed a step-by-step guide to help you Prepare to Negotiate Your Ideal Terms.
“Education is the foundation of a founder’s ability to negotiate,” says Jeeho Lee, partner at O’Melveny & Myers and the guide’s featured expert. “It’s essential to gain a clear understanding of the key terms to articulate what is important to you.”
Below, we break down some of the preparations every small business owner should make before negotiating investment terms. We’ve included a recording of a recent Ask-Me-Anything call in which Lee answered questions from the Hello Alice community. For an even more in-depth explanation of the negotiation process, you can also view our step-by-step guide.
Establish a Solid Foundation
Before you start any conversation about investment, you should double-check that your business fundamentals are in order.
First, make sure that you are incorporated as a legal business entity. Many investors, particularly venture capital firms, will expect you to be incorporated as a C-Corp in the state of Delaware. This business structure offers certain tax benefits and allows you to grant stock options, which are a common incentive offered to employees and advisers. If you’re not seeking to raise venture capital, then consider the Limited Liability Company (LLC) as a business structure since it helps you avoid double taxation.
You will also want to ensure control of your intellectual property. If you don’t have full control over any trademarks, domain names, patents, copyrights, and trade secrets, investors will quickly lose interest. After all, if you don’t have legal protection, nothing is stopping another business from copying your secret to success!
Finally, you’ll want to build your company’s legitimacy and credit. This involves filing all necessary and appropriate paperwork with the state, opening company bank accounts, entering into contractual relationships, investing upfront, and offering employees equity grants.
Learn About Your Financing Options
At the highest level, there are two types of financing: debt and equity.
Debt financing is a loan. Just as you might take out a mortgage to buy a house, your business can use debt to finance its operation. One pro of debt financing is that the lender retains no ownership stake in your company. As for cons, you might be required to provide collateral. You’ll also have to pay back the balance.
Equity financing hands over partial ownership of your company in return for financial support. The biggest upsides of equity financing are that you do not need to pay investors back. However, your company will no longer be solely yours. Investors will have a say in how your company is run, and they can be entitled to a portion of your future profits.
Each type of funding is suited to certain purposes, and many entrepreneurs use a mix of debt and equity to finance their businesses. Our full guide walks you through the pros and cons of key financing options, such as convertible bridge notes, SAFE notes, and preferred stock financing.
Understand Your Cap Table
An airtight capitalization table, or cap table, is an essential part of any investment negotiation. This document lists all securities (stock, options, warrants, etc.) and outlines who owns what part of your company. Your cap table is a tool that helps you quickly evaluate the outcomes of various hypothetical deals. What are the implications of different valuations or round sizes? Do you have enough shares in your option pool? It’s important to keep your cap table up to date so that you can answer questions like these with confidence.
Most of All: Stay Confident!
A single ‘yes’ from an investor could make your business dreams a reality, but that shouldn’t make you nervous.
“Walk into the room knowing that you have leverage because whoever you’re seeking funding from, they need you,” says Lee. “Their business model is to make money off investment in your business. Don’t forget that you bring something incredible to the table.”
View our step-by-step Prepare to Negotiate Your Ideal Terms guide for even more details on preparing for talks with investors.
The material in this publication was created as of 04/08/2021 and is based on laws, court decisions, administrative rulings and congressional materials that existed at that time. They are general in nature and should not be construed as legal advice or legal opinions based on specific facts or legal circumstances. The presentation and materials are available for general information purposes only. Although we hope they will be helpful by providing background material, we do not warrant that they are accurate or complete, particularly since circumstances may change after the presentation and/or recording are published. The information in this publication is not intended to create, and the transmission and receipt of it does not constitute, a lawyer-client relationship. The presenters and participating law firms render legal advice only after compliance with certain procedures and when it is legally and ethically permissible to do so. Those who act on any information contained in the presentation and recording are urged to seek tailored advice from their own legal counsel.