this is no legal advice - as that´s the job of attorneys. rather putting legal gibberish in plain language. links are there to offer alternative explanations and resources. this post goes in line with the series "six steps to venture capital" , in particular part 5 on negotiating: in order to negotiate well, one has to know the typical terms in vc contracts. so here we go:
tag along rights/co sale rights
protection for minority shareholders. in case the majority shareholder sells his shares, the minority share holder can demand his shares to be sold on the same terms to the buyer.
this avoids that e.g. a big stake of the company get´s sold off to a strategic buyer making the remaining shares de facto un-sellable=worthless.
drag along rights
protection for majority shareholder. obliges the minority shareholder to sell his shares to a buyer on the same terms as the majority shareholder.
the idea is, that e.g. a one percent shareholder must not be able to block sale respectively the exit of an investor.
links: investopedia, slashstar
pre- post money valuation
definitions of company value. if a company is worth one million before an investment, this is the pre money value (before vc money gets invested).
after a two million investment, the value increases to three millions (one million company value plus two million cash), called post money value.
link investopedia, socaltech
anti dilution provision/clause
protection for investor. forces the transfer of shares from the initial shareholder to the investor in case the value of a firm decreases in the period after the investment.
if an investor a puts 1 million in a company which was worth 10 millions (before his investment = pre money) he will get 10% of the shares and the company value increases to 11 millions (post money). now assume there is another investment round with investor b only willing to invest 1 million at a company valuation of 6 million. this will trigger the anti dilution clause, as the company value decreased from 11 million to 6 (=down round). in this case investor a will demand shares form the initial shareholder in order to be compensated for the devaluation. e.g. increase his shareholding such that (after the investment of investor b) he will finally hold 15,71% of the shares (0,1571*7=1,1).
links vcexperts, investopedia
protection of investors. typically a performance depended anti dilution provision which (completely) compensates an investor for the devaluation of his shares (see above) as agreed goals are not met.
e.g. an investor injects money in company according to milestones, like sales revenues. if milestones are not met – thus leading to a lower company valuation - the initial shareholders loose shares to the investors.
protects buyers, brings upside for sellers. the final price of a company depends on the performance within a time period after the transaction.
buyers of a company pay a base price for the takeover of a company. if e.g. in a period of one year after the buying the company outperforms its profits, the sellers gain a premium.
exit preference / participating preferred stock
protects investor. in case of a company sale, money gets first distributed to the investor and the remains to the initial shareholder. the method of distribution can vary widely.
one way would be as follows. A company gets sold 5 years after the investment of 1 million for 50% of the shares. of the exit proceeds of 5 millions the investor gets the initially invested 1 million. then he takes the interest rate of 15% per year for his invested money (around 1 million), leaving 3 millions. having 50% of the shares he takes another 1,5 millions, leading to a total of 3,5 million (3,5x or 28% per year). the remaining 1,5 millions go to the initial shareholder.
pay to play
protects new investors. In case of a new investment round, the former investors/shareholders only keep special rights, if they participate in the financing.
special rights can be e.g. nomination rights for the advisory boards, anti dilution protections, or exit preferences. this clause intends to motivate old investors to support the company if further financing is required. also the governance is simplified, as old special rights get successively removed in new financings round.
links altassets, wikipedia