NEW CAPITAL RAISING TEMPLATES – Key Changes
Angel Association NZ has taken over stewardship of industry templates from the NZ Venture Investment Fund for angel and early stage investment transactions. We have recently released 5 new equity investment templates, which you can find here, that update and replace those originally developed over a decade ago. These documents include:
- Term Sheet (equity investments)
- Subscription Agreement
- Shareholders Agreement
- Constitution (for companies with ordinary shares)
- Constitution (for companies with preference shares)
A year or so back the AANZ convened a working group of representatives from half a dozen law firms led by AANZ sponsor Avid Legal to update outdated industry templates. We are particularly grateful for input and support from Simmonds Stewart, Chapman Trip and Simpson Grierson. Below is a summary of the key updates and the rationale for these changes.
Like all templates, these new documents are only a starting point. The aim is not to impose a fixed set of terms on parties which may result in an agreement that is out of alignment with the context and intention of their investment.
With this in mind, explanatory footnotes have been included in the new term sheet. These footnotes are not exhaustive, but aim to provide enough information for new users to:
- understand the optionality and high-level impact of the various terms;
- undertake further research, or seek independent advice, on the purpose and consequences of those terms; and
- have greater confidence amending or removing terms that are not appropriate in the context of the investment.
As always, if in doubt, it is recommended that you seek independent advice from someone with experience in early stage company capital raising.
More efficient structure for follow-on investment rounds
A key structural change has been the move away from a combined “Subscription and Shareholders’ Agreement” to a separate:
- Subscription Agreement – focusing on the present-day subscription for shares (investment conditions, payment terms, warranty and disclosure regimes etc.); and
- Shareholders’ Agreement – governing the enduring relationships between founders, investors and the company.
Most early stage companies (and particularly tech companies) will go through a series of capital raising rounds as their capital needs grow over time. Separating the documents allows the shareholders’ agreement to stand alone from the initial subscription terms so it is more easily (re)used and/or updated/amended, saving parties time and legal costs over multiple capital raising rounds.
Updates for recent market trends and law changes
Those familiar with the old templates will notice a number of shifts in the AANZ templates to align with recent market trends. At a high level, the AANZ templates display a softening of investor rights. Again, it is important to emphasise that these positions are just suggested starting points. Where parties land on various deal terms depends on the context of the investment, and the relative negotiating power of the parties. It’s very important to be aware of these factors when agreeing terms.
Some noteworthy changes include:
- Calculating the issue price per share: The new term sheet clarifies how the issue price per share is usually calculated. Even some experienced investors and companies have struggled with the concept under the old documents. A separate blog post on this topic will follow soon if you wish to delve into the detail further.
- Board composition: The AANZ term sheet introduces a more flexible approach to board composition arrangements. Under the old templates, some founders felt shoe-horned into losing control of the company’s board without giving the issue proper consideration.
- Tranchingand milestones: The AANZ templates move away from tranching investments unless the context provides sound reasons for doing so. If tranching the investment is agreed, then the guidance is that proper consideration should be given to developing appropriate milestones. The aim is to avoid unintentionally incentivising the company to pursue a milestone where that milestone is no longer in the best interests of the company. Milestones should be linked to the company’s planned growth path, and align with key commercial objectives.
- Anti-dilution: If anti-dilution protections are agreed, then a “broad based weighted average” provision is suggested as the starting point. This is comparatively more favourable to existing shareholders than the “narrow based” or “full ratchet” provisions that were seen in earlier templates.
- Founder vesting: Founder vesting provisions allow the company to take back a portion of a founder’s shares if that founder leaves the company within the vesting period. The point of founder vesting is that:
o it is unfair to the rest of the shareholders, particularly the other founders, if the founder leaves very early on in the life of a company; and
o it may allow the company to use the equity (acquired from the departing founder) to recruit/incentivise the person who picks up the departing founder’s responsibilities.
The portion of founder equity at risk is often negotiated, and the AANZ term sheet provides general guidance based on recent market practice. However, context is everything and vesting arrangements may be inappropriate if the founders have contributed significant cash, if there are appropriate vesting arrangements already in place, or if the company is at the more mature end of the spectrum.
- NZVIF specific provisions: The NZVIF specific provisions have been pared back to just the core reporting rights and prohibited business restrictions to align with NZVIF’s investment mandate. This allows parties to negotiate terms such as co-sale rights if it is desirable.
- Simplified preference rights: If preference shares are agreed, the AANZ template’s starting point is a 1x non-participating liquidation preference right without dividend preferences.
- Regulatory updates: The AANZ templates have been updated to reflect amendments to NZ’s Companies Act, and incorporate the requirements under the FMCA regime (including suggested safe harbour and eligible investor certificates to assist with compliance).
We intend to review the templates on an annual basis, and have a dedicated email address ([email protected]) for any comments to be submitted to the templates committee for consideration in such reviews.
We believe investors, companies, entrepreneurs and advisers will find the new equity templates user friendly, and a worthy addition to the NZ capital raising landscape.