Equity financing, whether from existing shareholders or external investors, is a popular option for companies looking to grow their business, increase their market presence, and develop their products.
One of the foremost fundraising options for start-up companies is series A financing, a type of equity financing typically pursued after the seed (or angel) investment round, which involves obtaining investments from ‘angels’ such as friends and family.
Series A financing typically involves third-party investors such as venture capital firms or high net worth individuals who invest money into a company (investee company) in exchange for newly-issued shares. From a business perspective, series A companies are typically expected to have product-market fit with a minimum viable product (MVP).
For an investee company to be considered for series A funding, it is required to prepare and collate certain documents comprising relevant company information (e.g. in relation to its operations, customer base, key employees, and finances) to present to its potential investors. These investment documents may include teasers, draft term sheets, and pitch decks. Mergers and acquisitions (M&A) deal advisory firms are often engaged to assist with this aspect of the transaction.
Armed with the relevant investment documents, the investee company (or the M&A deal advisor) will commence its search for potential investors. Once potential investors are identified, they will conduct due diligence on the investee company. A virtual or physical data room is usually organised by the investee company, where documents are deposited for review by prospective investors. If satisfied with the outcome of their due diligence, these investors will negotiate and execute certain legally binding agreements with the investee company.
The relevant legal documents typically include the term sheet, the share subscription agreement, the shareholders’ agreement, the constitution of the investee company (Constitution), and the corporate authorisations (i.e. the board and shareholders’ resolutions). The funds would then be disbursed by the investors after signing, and at the completion of the transaction. In practice, the shares are issued and allotted to the incoming shareholders after the investee company receives the funds. Legal professionals, such as our law firm, are typically engaged to draft, review and negotiate these transactional documents and assist with the signing and completion process.
To increase the likelihood of completing a successful round of equity fundraising, we recommend that both investors and investee companies to engage: (a) an M&A deal advisory team to assist with preparing the requisite investment documents; and (b) a law firm with the requisite experience to prepare the legal documents.
This article aims to: (i) provide a comprehensive step-by-step guide for Singapore-incorporated companies and potential investors interested in series A fundraising; and (ii) highlight the relevant legal documentation typically required for such transactions.
If there are any suggestions or legal queries, please feel free to contact the author, Waltson Tan, at: waltson.tan@28falconlaw.com
(a) Groundwork preparation: Prior to seeking series A funding, founders should carefully consider how they intend to deploy the capital raised from investors. Investors typically expect investee companies to be prepared to scale operations. This means that each investee company is expected to have product-market fit, consistent revenue streams, and a robust business model. Specific financial forecasts and a comprehensive business plan should be prepared at this stage.
(b) Company valuation: Before fundraising, the management team of the investee company should determine the valuation of the company, so as to ascertain the number, proportion and value of the shares to be issued and allotted to investors. This can be done in consultation with an M&A deal advisor. A company valuation is the estimated value of the investee company in monetary terms, measured based on the financial and market information. Different methods, such as benchmarking against comparable companies, determining the net book value, and calculating the discounted cash flow, are typically used.
(c) Assemble a reliable team: Investors value a quality management team, as this will help in direction-setting and scaling the business. Ensure that team members have the requisite skills and experience to guide the expansion of the investee company. We recommend to highlight the key contributions of core team members in the investment documents.
(d) Market research: Collect information on the market to identify a market need, such as a feature which competitors overlook. This will help demonstrate to investors the potential for company expansion. Understanding the competitive market environment and having a market entry strategy are pertinent for businesses aiming for Series A funding.
(e) Accounting and auditing: It is best practice to conduct legal and financial audits to ascertain compliance with regulations as well as ensure financial records are reliable and up-to-date. An experienced auditor can correct any potential complications. Legal and financial audits help to establish investor confidence in the firm.
We recommend companies unfamiliar with the above information consult their preferred legal professionals and / or M&A deal advisors for further guidance.
(a) Identifying potential investors: Finding investors who are aligned with the business direction of the investee company and founder(s) is essential. Potential investors could include venture capital firms or angel investors with prior experience in the industry. Networking events, startup competitions, and industry conferences are likely opportunities for founders to connect with potential investors.
(b) Creating a persuasive pitch: Every investee company should have a pitch which indicates factors such as their unique value proposition, profit potential, financial performance, and growth strategy. M&A deal advisors are well-placed to support with this scope of work.
(c) Due diligence: After potential investors indicate their interest, the investee company should prepare for a detailed due diligence process. Documents relevant to due diligence are usually uploaded to a virtual data room and accessed by investors. Prospective investors typically conduct financial, tax and legal due diligence to ascertain material information, such as the investee company’s financial position, business model, market positioning, and compliance with applicable laws.
(d) Term sheet negotiation: The term sheet sets out the key commercial terms which prospective investors and the investee company intend to include in the final legal documents. A term sheet typically provides information such as: (i) the consideration of the transaction; (ii) the number of new shares to be issued and allotted to investors; (iii) the rights of the new shares; and (iv) the duration of the exclusivity period for the prospective investors to complete the transaction. This is discussed in more detail in the section “4. Key legal documentation for series A funding”. The term sheet is generally not legally binding, save for certain clauses such as exclusivity and confidentiality.
(a) Term Sheet: Broadly, there are two types of terms sheets: the “short form” and the “long form”. The “short form” term sheet is typically used by experienced investors and investee companies, as certain financing terms will not be specifically defined until a later date. The advantage of this is that it allows negotiations on the term sheet to progress more quickly and maintains deal momentum.
On the other hand, the “long form” term sheet is recommended for less experienced parties, as it defines more commercial terms at this stage. However, more terms to agree on means it will likely take longer to finalise than the “short form” term sheet.
Parties should be prepared to negotiate terms such as control rights, valuation, liquidation, anti-dilution, and board composition, which may be discussed as early as the term sheet stage.
Experienced M&A deal advisors and legal professionals are well-placed to advise on whether the terms are fair and match the objectives of parties. We highly recommend parties to seek the advice of legal counsel prior to the signing of the term sheet, to confirm that the intentions and interests of the parties are reflected and protected in the agreement.
(b) Shareholders’ Agreement: This agreement provides the rights and obligations of shareholders in the investee company vis-à-vis one another and sometimes, the investee company. It typically includes clauses to govern issues such as the framework for management of the investee company, the terms of share transfers and exit options, voting and veto rights of shareholders, and other forms of shareholder protections. It is legally binding, making it imperative for parties to negotiate carefully to protect their interests.
(c) Share subscription agreement: The share subscription agreement specifies the terms under which investors will subscribe to shares of the investee company. It includes the type and number of shares issued, the consideration, representation and warranties, and closing conditions. This agreement and the share application form are required for the formalisation and completion of the investment.
(d) Constitution: Amendments to the Constitution are typically required for series A fundraising transactions to reflect the revised rights of the shareholders, or include the rights of new shareholders of an additional class of shares. This document must comply with Singapore law.
(e) Employment agreements: Employment agreements with non-compete clauses should be drafted to formalise the arrangements between the key employees (such as the founders) and the investee company. These agreements are critical in securing investor confidence in the management team. Effective employment agreements can help in retaining talent and alignment with corporate values.
(f) Intellectual property (IP) assignment agreements: IP is especially for companies in technology-related sectors. Investors often require that the investee companies own the material IP required for the business, and this is usually arranged by entering into agreements with employees to assign the IP created by them. IP assignment agreements can prevent future disputes and protect the company’s interests.
We recommend that investee companies, founders and investors consult a corporate lawyer experienced in fundraising transactions to avoid future legal complications or disputes.
After finalising the terms of the transaction, the parties execute the transaction documents. They will then work towards completing the transaction, which typically happens after the signing date when the conditions precedent have been fulfilled or waived. Thereafter, the investors transfer the investment funds and the investee company issues and allots the new shares.
Obtaining series A funding in Singapore involves a thorough process of preparing company information, pitching to investors, and negotiating and executing legal agreements. To increase the likelihood of a successful fundraising process, we recommend that investee companies onboard professionals such as M&A deal advisors and legal advisors as early as possible in the fundraising process.
It is our hope that with the information provided in this article, startups are now equipped with more knowledge to confidently navigate the series A fundraising process.
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Our team frequently advises founders, investors and investee companies on the legal aspects of fundraising transactions such as seed funding and funding from series A investments onwards.
The author, Waltson Tan, is a corporate lawyer trained in London and Singapore. He is qualified as an advocate and solicitor in Singapore, and has more than eight years of post-qualification experience.
Waltson focuses his practice on mergers and acquisitions, private equity, joint ventures, investment funds and other general corporate and commercial transactions. He has also represented numerous leading multinational organisations on a broad spectrum of corporate, regulatory, cross-border restructuring and employment matters.
Waltson also advises clients on a monthly and yearly retainer basis, where he provides dedicated services to each client in relation to the issues which clients face, including general corporate and employment related matters.
Prior to joining the firm, Waltson practised at some of the top law firms in Singapore and thereafter, at a leading international law firm, which was the second largest law firm in the United States and one of the ten largest in the world.
If you require further information and/or expert guidance on the above or any other area of law, you may wish to contact the author of the article, whose details are as follows:
Waltson Tan Director +65 8079 0028 waltson.tan@28falconlaw.com |
Office address: 101A Upper Cross Street #13-11, People’s Park Centre Singapore 058358Singapore |