Forty third in a series of weekly posts by myself and Nicholas Lovell of Gamesbrief which answer the fifty questions you should ask before raising venture capital. We expect the series to run for a year after which we will collate the posts into a book. You can find the rationale behind the series here, and the list of questions here. We welcome your comments on any and every aspect of what we are doing.
I strongly believe that startups who are raising venture capital should hire a good law firm with relevant experience, but I think it is a mistake to then ask them to negotiate the key terms of a deal. Negotiation works best when both parties work hard to understand what is important to each other so trade offs can be made where each side keeps what matters most and compromises on what matters less. Lawyers are always going to have a weaker appreciation of what is important than the principals team and the best route to smooth and productive negotiations is for management to build an understanding of the terms and issues and lead the negotiations themselves.
That said, it is easy to understand why some are tempted to hand over negotiations to their lawyers. Going toe-to-toe with an experienced venture capitalist negotiating on concepts that are new, difficult to understand, and important to the future of your business is not an easy challenge. But it is one that the best entrepreneurs step up to.
That doesn’t mean that the entrepreneur negotiates alone. The lawyers are often in the room, and always on the end of the phone if needed. It does mean that the entrepreneur takes the time to properly understand the significance of each of the key terms (see 50 Questions: Key terms, part one and part two) so they can work out what is important to them and their shareholders and find the trade-offs that work best. It is important to have good lawyers because without them it is hard to get a proper understanding of the terms and concepts. Good lawyers are also important because they can advise on standard market practice for many of the key terms, and most good VCs stick pretty closely to standard market practice (see 50 Questions: How should an entrepreneur approach the negotiation of key terms).
In my experience when negotiation of important terms is left to the lawyers discussions tend to drag out and often become fractious. The risk with legal negotiating teams is that because they lack a nuanced understanding of what’s important (and why it’s important) they simply push as hard as they can on all fronts, often constructing logically sound, but ultimately specious arguments to back up their case. This undermines trust between the two sides and generally makes it harder to come to a deal.
Finally – please note that this post is all about the important terms in a deal. In any investment round their are tonnes of minutiae – e.g. notice periods for board meetings notice periods and share transfers between family members. Lawyers are best placed to negotiate these and will put many to bed without need for discussion between the principals, and that is as it should be.