Series Seed, eh!

I was on a panel last week at the National Angel Capital Organization‘s annual shindig. The topic? Best practices for early stage term sheets.

If you’ve raised capital before you know that the term sheet is the least of your worries as it’s just a precursor to a much bigger set of definitive agreements including a Shareholders Agreement and Subscription Agreement (or Investor Rights and Purchase Agreements in the US).

I recently saw a $100K seed investment that required a 47 page subscription agreement and similarly large Shareholders agreement. That’s just messed up. Add a couple of resolutions and you’re talking about $ 1,000 in funding for every page of legal document. There has to be a better way.

Most of my career has been spent raising VC, but since early 2009 I’ve been doing angel rounds. The thing that surprised me on the angel side, was that the term sheets and related agreements looked just like their VC counterparts – even though there was a zero missing in terms of deal size. Again, there has to be a better way.

So, how we do reduce the legal work and costs associated with seed funding? Here are some thoughts:

Convertible debt deals: There are pros and cons associated with these.  JS Cournoyer, one of my partners at Real does a good job of covering them in this post.  Done right, a debt deal will have an agreed upon conversion price, nominal interest and no conversion discount. This way it’s essentially like an equity deal but with a lot less paperwork.

Duration & protective provisions: The thing with these seed deals is that they rarely provide more than 12 months of runway. Often less. So, do you really need to have anticipated every possible contingency and dealt with it in the agreements? I think the legal community /  investors can do a much better job of pairing these documents back to a more sensible and limited set of matters.

On a related note, what role does moral authority play as a replacement to protective provisions? I’ll bet Ron Conway‘s deals have very simple paperwork, because if you mess with him you’re toast. He doesn’t need a lot of protective provisions.

The startup community is small. I can’t speak for the Valley, but here in Canada, if you mess with someone or behave in a manner that is not in the spirit of the agreement, everyone in the investor community will know about it. This reality I think reduces substantially the need for voluminous legaleze.

Ultimately, the solution comes down to investors forcing their counsel to have a new set of standard docs that are appropriate for seed deals. Investors usually deal with top tier law firms that specialize in private equity financing. Each one of these firms has their own templates. But they don’t have seed specific templates. So regardless of whether the deal is $500K or $ 5M, they will start from the same documents.

I have been following the Series Seed templates for a while in the U.S. We need something similar here.  I will be working on getting a version of these that works for Canadian companies in the coming weeks. I hope more Canadian investors will follow suit.