Model Form Upgrades: Alerts to Wordsmiths and Their Clients

Joseph W. Bartlett, Special Counsel, McCarter & English, LLP

There are available online and in the inventory of the major law firms, and indeed at VC Experts ( (disclosure I am the chair of VC Experts), extended lists of model forms, many of which are annotated. See the model forms available on the National Venture Capital Association site and the several hundred model forms on VC Experts. Eternal vigilance being the price of malpractice avoidance, it is necessary for all hands, lawyers and clients, to check the models routinely in order to incorporate new developments.

The first necessary addition, in my view, is in the charter of a Delaware corporation or the limited liability company agreement when an EGC (emerging growth company a/k/a Newco) starts up. [The mandate is to incorporate charter language stipulating the renouncement of the corporate opportunity doctrine (see Del. G.C.L. § 122(17), the duty which requires the board members and controlling shareholders to disclose and offer to Newco all technologies, investments, etc. which a strategic investor(s) (“Strategic(s)”) might have in its sights.

The reason is that Strategic will insist on renouncement language … and the time to get all the shareholders onboard in this regard is upon organization. Absent renouncement, a Strategic (in the same line of business as Newco) investor will have to deal with the possibility that Newco has a right to insist that, given the Strategic’s representative on the Newco Board and/or other quasi-control rights, the Strategic must give Newco a ROFR (right of first refusal) on any IP or target companies the Strategic plans to acquire or invest in. Absent renouncement, Newco will hear one word from potential Strategics: “Fuggedabout it.” The gist of the language is as follows:

Newco, as a material part of the consideration for this Agreement [Strategic’s investment $10,000,000 Series B], agrees that [Strategic] and its observer at board meetings (the “Observer”) shall have no duty to disclose any Information to Newco or permit Newco to participate in any projects or investments based on any Information, or to otherwise take advantage of any opportunity that may be of interest to Newco if it were aware of such information, and hereby waives, to the extent permitted by law, any claim based on the corporate opportunity doctrine or other similar doctrine that could limit [Strategic]’s ability to pursue opportunities based on such Information or that would require [Strategic] or Observer to disclose any such Information to Newco or offer any opportunity relating] thereto to Newco.]

Next is an addition to conventional co-sale rights, assuming the parties so intend. [As currently written in many if not most versions, co-sale or tag along rights are prone to be interpreted as accruing to the Series A, B, C, etc., shareholders if, and only if, the founder sells. If the intent is that any sale of shares … e.g., the Series C selling out and leaving the common and the Series A and the B rounds behind … entails tag along rights, the language needs to be explicit, adopting a formula such as the following for the shares each holder can put, pro rata, to the buyer. In computing the numbers, all convertible shares are deemed converted into common. Each holder tagging along gets its pro rata share of the buyer’s bid number and my recommendation is a numerical example in the co-sale provisions to make the point clear, viz; something like the following, customized for Newco’s cap table.

For the avoidance of doubt, assume Newco has outstanding 1,000,000 common plus 500,000 (as converted) Series A and 500,000 (as converted) Series B shares. The Series B wants to sell the entire Series B portfolio and VC Fund (the “Fund”) wants to buy all and only all those shares. Once notified, the Series A tags along for its entire holdings. The Series B has the following options: Refuse to sell any Series B shares; persuade the Fund to agree to buy either 250,000 Series A and 250,000 Series B shares or to up the offer and buy 500,000 Series A and 500,000 Series B shares; or negotiate some other compromise to which the Series A (and the common) agree … e.g., the Fund buys Newco outright.]

Finally, the Facebook IPO opening day nosedive illustrates the need for all hands in an emerging growth company to insist that, if any shares are transferred, whether from the initial owners into a secondary market or otherwise, all transferees are bound to enter into a lock up like all the other significant shareholders in the company, when and as imposed by the underwriter of the public flotation, the lock up banning sales into the market for 180 days from the IPO’s effective date. The idea is to eliminate selling pressure from sales on opening day by shareholders which have been in the company since the very early days and have a profit under any realistic scenario even if, as in Facebook, the price goes south as a result of their selling pressure.

Joseph W. Bartlett, Special Counsel,

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