For high growth companies, corporate venture capital (CVC) can be an attractive investment option.
Corporates provide capital, but they can also offer commercial collaboration and valuable services.
This could be assistance with product design to regulatory and technical support in specialist areas. Corporates naturally want to make a decent financial return, but they often want to make a strategic and synergistic investment too. This can be reflected in their investment terms. High growth companies need to know what options are available.
When looking for investment from large corporates, you need to consider:
- The degree of consent
While both financial and corporate investors require consent rights, corporates often require different rights, such as consent rights over the investee company entering into contracts with competitors. Corporates may also require more extensive control over compliance issues, for example requesting the company to follow the corporate’s anti-bribery, corporate social responsibility and ethics policies. They also tend to invest with a longer-term investment horizon than venture capital investors (which generally seek an exit within around 3-5 years). As a result, they often require additional rights over an exit.
- Restrictions: Information and competitors
Due to its strategic nature, corporates often include a number of restrictions on investee companies dealing with competitors. Typical restrictions include limits on the disclosure of information, the provision of goods or services and/or the transfer of equity to competitors. This can be particularly sensitive if the corporate is very large company.
- Options for M&A rights
- A right of first refusal: Corporates regularly request a right of first refusal (ROFR), which provides the investor with a right to be offered any shares being sold by other shareholders in the investee company after the selling shareholder has requested an offer for their shares from a third party. High growth companies often resist ROFRs as they can be seen to make a company potentially less valuable. This is because a potential acquirer may be reluctant to make an offer if their offer can be matched by the corporate investor.
- A right of first offer: A more company-friendly but similar mechanism is a right of first offer (or ROFO). A ROFO provides an investor with the right to be offered the shares before any external offers take place. If the investor refuses the offer, then the selling shareholder may request third party offers on the same terms that were presented to the investor.
- A right of first negotiation: An even softer option is a right of first negotiation (or ROFN). A ROFN only provides the investor with the right to negotiate with a potential seller of shares for a defined period of time before those shares are offered more widely. Agreeing a ROFR or ROFO (or both) is often one of the trickier negotiation points when dealing with corporate investors. A workable solution is usually possible in most circumstances. Good legal advice is crucial to protect your interests.
- Acquisition routes
Corporate investors sometimes want a ‘call option’ to acquire the company. This is often at an agreed price or a price based on a formula in the event that the company is successful generally, or achieves certain milestones. In rare cases, the parties may even pre-negotiate the terms on which the acquisition will ultimately take place. Corporates may also want a ‘put option’ to give them the flexibility to sell their shares in the investee company back to the company or other existing shareholders (typically for fair market value) in the event of certain triggers. These might include the investee company failing to achieve performance milestones by a certain date or for regulatory or reputational reasons.
Raising capital is a priority for any high growth tech company, particularly in the current COVID-19 environment. CVC investors can bring a number of additional, significant benefits which can help founders accelerate their start-up’s development.
However, it’s crucial for companies and their founders to ensure that there is strategic alignment with their CVC investors. It’s important to carefully negotiate the legal terms which CVC investors may require in addition to the standard terms that are typically required from financial investors.
This article was originally published as part of Bird & Bird’s Transact Transform series, articles showcasing how our corporate expertise will help take your business to the next level.