Deal Dictionary

This is a tax filing that a holder of stock subject to vesting (i.e. restricted stock) can use to elect to be immediately taxed on the difference between the price paid by the person for stock and the fair market value of that stock (if the holder pays fair market value for the stock, this will be $0).  Without this filing, the tax code requires the holder to be taxed on the difference between the purchase price of each share and its fair market value as such share vests.  If the purchase price is low, but the shares appreciate significantly as it vests over time, the taxes due can be significant.  Please note that the tax filing may be made only within 30 days of the purchase of the stock - no exceptions.

This is a constitutional document for the company (but subordinate to the certificate of incorporation) and generally sets out the procedural rules that govern the company.  Bylaws typically regulate the rules and procedures of director elections, board and stockholder meetings, officer appointments and their roles and responsibilities, and similar matters.

This is the primary constitutional document for the company and includes provisions dealing with matters such as authorizing the stock issuable by the company, establishing the rights, preferences and privileges of the classes (and series) of stock authorized, and determining what matters stockholders can vote on.

This generally occurs when a company is acquired by or merged into another entity, or when a majority of the voting power of the company changes hands.

A provision often in Promissory Notes that dictates that if the company undergoes a Change of Control while the Promissory Note is outstanding, the holder of the Promissory Note is repaid the principal plus accrued interest, and also receives an additional payment (the premium), which is often some multiple of the original principal amount.

Popularized by the Founder's Institute, this is a type of common stock held by founders that provides for super-voting power, e.g. 1 share of Class F Common Stock gets 10 votes per share, while 1 share of other common stock gets 1 vote per share.  The goal is to enable founders to continuously issue shares to investors and/or company service providers (e.g. employees, consultants and advisors) while keeping voting control of the company.

These are conditions that must be satisfied (or waived) before parties close the financing (e.g. before the investors wire investment funds in exchange for the issuance of stock).  Examples of closing conditions include legal opinions, appointment of new members to the Board of Directors and the filing of an amended Certificate of Incorporation with the state of Delaware that contains the new rights, privileges and preferences of the investor's stock.

This is applicable to convertible Promissory Notes when calculating the number of shares of stock issuable upon the conversion of the note into equity.  Conversion works by taking the principal plus accrued interest and dividing it by the price per share of the preferred stock being issued in the Qualified Financing in which the Promissory Note is converting.  The Conversion Discount (typically expressed as a percentage) is a discount off of that price per share, which would enable the investor to convert the dollar value of his Promissory Note investment into more shares than the number of shares that the investors in the Qualified Financing are buying for the same amount of cash.  A Conversion Discount can be viewed as a form of compensation to an investor for taking earlier risk.

A Cumulative Dividend calls for some amount of money (usually a percentage of the original price paid per share of the preferred stock) to accrue for each share of preferred stock, whether or not the company ever declares that dividend.  Because, on a liquidation event (e.g. sale of the company), the preferred stock is typically due its Liquidation Preference AND any unpaid dividends, Cumulative Dividends effectively increase the Liquidation Preference over time.  Cumulative Dividends are similar to the effect of interest on debt.  For example, if an investor invested $1,000,000 with Cumulative Dividends of 10% per annum, then the Liquidation Preference would grow by $100,000 every year (unless the dividend was paid out by the company at an earlier time).  Note that the Cumulative Dividends do not compound.

This is a standard right given to investors in priced-round investments (i.e. investment raised through the sale of preferred stock, not convertible Promissory Notes).  This entitles investors to demand, subject to certain requirements (e.g. investors demanding this have to hold a minimum percentage of shares), that the company register some shares of stock for a public offering, which facilitates the ability of the investor to liquidate some/all of its holdings.

This is a type of accelerated Vesting that causes all or a portion of the shares to be deemed Vested upon the occurrence of a combination of two events, which are typically (1) a Change of Control and (2) an involuntary termination (customarily defined as termination without cause or a resignation caused by events/circumstances that essentially forced the person to resign) within some period after that Change of Control.  Full  acceleration pursuant to this version of vesting acceleration is generally acceptable to investors.

This is a contractual provision, often found in Voting Agreements, that obligates the parties to vote in favor of the sale of the company if a key group of constituents vote in favor of the sale (i.e. if the key group votes for the sale, then everyone else is "dragged along" (i.e. forced to vote in favor of, support and not oppose/disrupt the deal) into voting for the sale).  For example, one formulation might be if the board, a majority of common stock and a majority of preferred stock approve the sale, everyone else must also so vote to approve.  Another formulation might be if the board and a majority of all stock (preferred stock voting on an as-converted to common stock basis) approve the sale, everyone else must also so vote to approve.

Please see the definition of "Stock Purchase Agreement" below.

This is a special form of founder stock that is not common stock but instead a form of preferred that is convertible into either common stock or the preferred stock issued in a later financing round (Series A, Series B, etc.).  It can help facilitate a founder selling a portion of his/her equity interest to the investors at the same valuation as the financing round that the founder sells it in, and immediately upon that sale, the FF Preferred Stock automatically converts into the series of preferred stock being sold in that round.  The purpose is to help facilitate founders taking some money off the table prior to exit, which some VCs and entrepreneurs believe helps founders focus on the long-term by providing them some short/medium term economic security.  Founders could sell common stock to investors but because it cannot be the same class of stock sold in the financing round, it would not command the same price/valuation, and it could also raise the floor for stock option strike prices for future employees.

This is similar to a Partially Participating Liquidation Preference, except there is no cap on the preferred stock's participation in the proceeds with common stock after payment of the original investment amounts plus dividends.

An agreement (typically put in place in connection with the company's first seed or series A round) that sets forth certain customary rights of investors, such as Pre-emptive Rights, Registration Rights, rights to obtain financial statements of the company and other information rights.  This agreement will also typically include covenants by the company to do certain things, such as obtaining Key Person Insurance on the lives of its founders and insurance for the directors and officers of the company.

Life insurance on one or more "key person(s)" to a company's future success (usually a founder, current CEO or lead technical employee).  This is sometimes required by investors as a condition to an investment in the Company.  The proceeds of the life insurance are typically payable to the company.

The amount of money the holders of preferred stock are entitled to receive in a liquidation event (e.g. sale of the company) prior to the holders of common stock receiving any proceeds from that event.

This is a provision that requires the holder of  company securities (stock, options, etc.) to abstain from re-selling those securities for a certain period of time after a company's  public offering of its securities (typically 180 days in the case of the company's initial public offering, 90 days for other public offerings).  The purpose of the provision is to facilitate price stability and to prevent a glut of shares from hitting the open market right after the company's public offering.

This is a customary rights letter given by the company to institutional investors in financing rounds.  The letter assists such investors in being able to qualify as certain types of investment entities ("venture capital operating companies"), which in turn exempts such investors from regulations that would otherwise apply to them if some of their funds came from certain pension funds.  The rights typically include the right to consult with and address management and the board of directors, and rights to inspect board meeting minutes and materials and the books and records of the company.

These are provisions in the company's Certificate of Incorporation that dictate when preferred stock is automatically converted into shares of common stock.  The two most common triggers are (i) a public offering with a minimum offering size (e.g. $30,000,000 in gross proceeds to the company) or (ii) the vote or written consent of a specific percentage of the preferred stock.  Mandatory conversion is desirable in the first instance because common stock is what is typically sold in initial public offerings and investment banks often find it to be easier to market such offerings if there is no preferred stock outstanding following the offering, and is desirable in the second instance since large-scale revisions to the capital structure of the company (i.e. recapitalizations) may require the existing preferred stock to be converted to common to make room for the new capital structure.

This is the date on or after which repayment of a Promissory Note is due.

A provision in term sheets that prohibits the company that is being invested in from shopping the deal around to other investors.  Also referred to as an "exclusivity" provision.  Depending on deal dynamics and who has leverage, the No Shop typically ranges from 30-45 days, and occasionally, a No Shop is not included in the term sheet.

This is an agreement not to engage in competitive business activities.  For an individual, this usually takes the form of an agreement with his/her employer that the individual will not work for a competitor after leaving his/her current position.  In some states, such as California, this type of non-compete is generally unenforceable outside of the context in which a a company is being sold.  For a company, this is an agreement not to compete with another company.  In both cases, the non-compete may be limited by duration and geography (e.g. cannot compete in the state of New York in the relevant line of business for 2 years).

These are dividends payable on stock that are only paid if and when they are declared by the Board of Directors of the company. 

This type of Liquidation Preference entitles the holders of preferred stock to receive back an amount equal to their original investment plus any dividends owed to them in the event of a liquidation event.  The remaining proceeds in the liquidation event go to the holders of common stock and/or the holders of participating preferred stock (if any).  Note though that this does not lock a holder of preferred into receiving just their original investment plus dividends - if it would receive more as a common stockholder after converting, then an investor can elect (by opting to convert to common stock) to receive such greater amount (often times, the Certificate of Incorporation is drafted to make that result automatic).

This is an agreement not to solicit employees or consultants of a company to leave their current positions.  This is a standard term in employment agreements, since an employer would not want any person to be able to leave and encourage the remaining employees to join the departed person's business. 

The separate agreement that governs the  sale of Promissory Notes in exchange for cash.  This agreement contains mechanics about how the sale will occur (place and time),  representations and warranties made by the seller and buyer of the note and if, how and when the note is convertible in equity of the Company.

The price per share an investor originally paid for the stock.

Like a Non-Participating Liquidation Preference, this entitles the holders of preferred stock to receive back an amount equal to their original investment plus any dividends owed to them in the event of a liquidation event.  In addition, the remaining proceeds are shared between the preferred stock and common stock on a pro rata basis (treating the preferred stock as if-converted to common stock), up to a certain cap that is usually expressed as a multiple of the original amount invested.

A “Pay to Play” provision requires certain stockholders to participate in a future financing or risk having their shares of preferred stock converted to common stock (often at a less than 1:1 ratio) or face other punitive actions such as the loss of board seats, preemptive rights, etc.  These provisions are often implemented in “down round” financings (financings in which the company is raising money at a lower valuation that in the previous round) and are used to incentivize existing stockholders to participate in such a financing.  The “Pay to Play” provisions are typically contained in the Certificate of Incorporation and are often referred to as a “Special Mandatory Conversion.”

This is a right typically given to investors alongside Demand Registration and S-3 Registration Rights.  Piggy-Back Registration Rights entitle investors to have their shares included with any shares the company itself wants to sell and register for public sale (hence, the investors can sell their shares to the public by "piggy-backing" on top of the company's public offering).

The valuation of the Company after the investors have made their investment. Typically, this is just the Pre-Money Valuation plus the total amount of investment in the round.

Also referred to as "participation rights," these are rights typically given to investors in priced round investments (as opposed to investments raised purely on Promissory Notes) that conform to parenthetical or "demand reg. rights" and entitle the investors holding this right to invest in the financing.  Typically, this is structured so that investors have the right to invest in the financing in an amount equal to the investor's current ownership percentage in the company, and if any investor decides to pass, the other fully-participating investors can take up that investor's allocation (this is referred to as a "gobble-up provision").  Essentially, it is a way for investors to maintain (or increase) their ownership percentage as the company raises more capital in successive rounds, by participating in those successive rounds.

The dollar valuation the investors have placed on the Company prior to making their investment.  This is the valuation that is used to calculate the price per share for the preferred stock to be sold by the Company in a financing.

A written, dated and signed promise by the company to pay a defined sum of money to the holder of the note upon the demand of that holder or at some specific future date.

The agreement employees of a company sign agreeing to assign the intellectual property created by that employee to the Company.

The list of actions a company cannot take without the prior approval of a specified portion of the holders of preferred stock.  These provisions are typically included in the company's Certificate of Incorporation, usually when it is amended in connection with the company's first significant third-party investment.  This list is typically limited to a set of fundamental corporate actions (such as a sale of the company, an increase to the size of the Board of Directors and issuing a new series of preferred stock), but is often heavily negotiated with investors.

This is a term that is in Promissory Notes that are convertible into equity.  It is often the trigger for the automatic conversion of the outstanding amount in the Promissory Note into equity, and this term will typically specify a minimum round size.  For example, if a Qualified Financing is defined as one resulting in $1,000,000 of new cash proceeds to the company, if the company raises a new equity round of $2,000,000, the Promissory Notes would automatically convert, but not if the size of the raise in the new round was less than $1,000,000.

This is a right of the preferred stockholders (typically contained in the Certificate of Incorporation) to demand that the company repurchase such stockholder’s shares of preferred stock by paying such stockholder the Original Purchase Price (or some other negotiated amount/multiple) after a certain amount of time has elapsed since that purchase.  Investors sometimes use this provision to ensure that they can obtain liquidity on their investment at a future date, since many investors have obligations to return capital to their own investors (e.g. venture funds have limited partners, such as pension funds, that invested in the investment fund).  As the redemption date draws near, these rights can also give a stockholder negotiating leverage over important strategic decisions of the company.

Rights of investors to cause the company to register shares of the investors' stock for sale to the public.  The most common 3 forms of this are Demand Registration Rights, S-3 Registration Rights and Piggy-Back Registration Rights.

Entitles the holder of the right to be the first to "refuse" a deal that the person subject to the right receives for the purchase of stock.  From a founder perspective, this is the right of the company (and, if the company has taken institutional investment, likely the investors) to buy the founder's shares if the founder tries to sell them to a third party.  See Right of First Refusal and Co-Sale Agreement.

An agreement (typically put in place in connection with the company's first significant third-party investment) that dictates that founder shares (and, frequently, other large common stock holders) are subject to a Right of First Refusal held by the company, and then secondarily, by a Right of First Refusal held by investors if the company does not fully exercise its Right of First Refusal.  Further, if any shares are not purchased by the Company or investors through the Right of First Refusal, then those remaining shares are typically subject to "Co-Sale," which means an investor can tag along in any sale of the founder's stock by including a portion of the investor's shares (pro rata) and reducing the number of shares the founder is able to sell to a third party by that amount.  The Right of First Refusal is meant to give the company and investors the ability to control who is a stockholder in the company; the Co-Sale is meant to allow the investors to achieve liquidity alongside a founder if the founder finds a good opportunity to sell his/her stock.

Similar to Demand Registration Rights, this entitles an investor to require the company to register some of the investor's shares for sale to the public.  After a company is already a public company, it can take advantage of more streamlined and cheaper methods of offering its shares to the public - this is called a "Form S-3 Registration."  S-3 Registration Rights in turn enable an investor to require the company to register investor shares for sale using that Form S-3 Registration process.

This is a type of Promissory Note where the borrower's promise to pay is backed by the lender having recourse to some collateral (the "security," hence, a "secured" note) if the borrower defaults on the promise to pay.  The security/collateral is generally the assets of the company (often excluding the company's intellectual property rights).

This is a type of accelerated Vesting that causes all or a portion of a person's shares to be deemed Vested upon the occurrence of a single event, which is typically (1) a Change of Control and/or (2) an involuntary termination (customarily defined as termination without cause or a resignation caused by events/circumstances that essentially forced the person to resign).

The agreement and plan governing the issuance of stock options to the company's service providers (i.e. employees, consultants, advisors, etc.).

Generally, this is an agreement pursuant to which someone purchases shares of stock from the company.  

If it is a Stock Purchase Agreement between the company and a founder or employee, then it is the agreement pursuant to which a founder or employee purchases common stock from the company.  The agreement includes, among other provisions, the Vesting (Right of Repurchase) terms for the the stock, any vesting acceleration terms (Single Trigger Vesting Acceleration or Double Trigger Vesting Acceleration), the company's Right of First Refusal on the stock and a Lock-Up Provision (Market Standoff Provision).

If it is a Stock Purchase Agreement between the company and investors, then it is the agreement pursuant to which the investors pay the company the cash investment amount in exchange for equity (usually shares of preferred stock) in the company.  Both the company and the investors would make representations and warranties related to the sale, and this agreement would have Closing Conditions as well.

The agreement a founder signs to transfer intellectual property related to the company's business created by the founder prior to incorporating the company and signing a Proprietary Information and Inventions Agreement. 

This is a type of Promissory Note where the borrower's promise to pay is not backed by any other property and the only recourse the lender has if the borrower defaults on the promise is to take legal action and have the authorities levy a lien on the borrower.

This is a valuation figure used in Promissory Notes dealing with the conversion of the note into equity and is a specialized form of a Conversion Discount.  Conversion works by taking the principal plus accrued interest and dividing it by the price per share of the preferred stock being issued in the Qualified Financing in which the Promissory Note is converting.  However, the "Valuation Cap" would be the maximum Pre-Money Valuation that could be used to calculate the price per share of the preferred stock just for the purpose of converting the note.  It provides the investor with a more stable expectation of the percentage of the company that it will own following conversion.  For instance, if an investor invests $1,000,000 at a Valuation Cap of $9,000,000, then the investor can expect to convert into equity later and generally hold approximately 10% ($1M invested / postmoney of $10M, but it will not be exactly 10% because the investor will also take some dilution caused by other investors converting or new investors putting cash in at the Qualified Financing).  However, without that Valuation Cap, an investor investing $1,000,000 with a Promissory Note could convert into any percentage of the company, which would be completely dependent on the Pre-Money Valuation in the Qualified Financing.

Vesting is the method of tying equity ownership to time served with the company.  The most common vesting terms for employees is when 25% of equity vests after 1 year of service (often referred to as a "one-year cliff"), and the remainder vests monthly in equal installments over the next three years.  Founders will often have different vesting schedules to reflect their early commitment to the company and higher level of involvement.  A "Right of Repurchase" is the way vesting is implemented when founders or employees purchase or are granted stock (rather than options).  In that case, the person "owns" and can vote all of the stock, but the stock is subject to the company's right to buy it back at the purchase price when the person's service to the company ends (subject to any acceleration provisions), and that right lapses at the rate of the vesting schedule (i.e. when the person is not vested at all, the company can buy back all of the shares, and when the person is fully vested, the company cannot buy back any shares).

An agreement (typically put in place in connection with the company's first significant third-party investment) that governs how, and by whom, the members of the company's Board of Directors are elected.  This is also typically the agreement that includes Drag Along Provisions (if any).

In some financing deals involving convertible Promissory Notes, investors will ask for warrants exercisable for shares of a series of the company's preferred stock (or if none exist, then shares of the next series of preferred stock to be issued by the company or common stock).  The number of shares the warrant is exercisable for will usually be expressed as a percentage of the amount of the investment (i.e. the principal amount of a Promissory Note) divided by the exercise price (the purchase price) of the underlying stock.