Horse Trading

“Horse trading” is a bad phrase in the startup/VC community.  It typically is used in the context of someone (often a VC) attempting to change deal terms between a signed term sheet and the closing of the investment.  The typical time between term sheet signing and closing is 45 – 60 days so there is ample room (unfortunately) to revisit issues.  I do not like horse trading and do not like it when others do it.  Yet I see it all the time.  I guess it is part of the VC investment game.  But it can be incredibly frustrating and not a good way to build trust.

So, what to do about it?  Short answer:  basically nothing – expect it a bit and take advantage to negotiate something in your favor.  Unless the term sheet deal is being turned upside down, horse trading typically falls into the nuisance category as opposed to the torture category.

VCs horse trade with each other too.  If a new investor is making, for example, a Series C round investment, that means there are likely Series A and Series B round VCs with whom to negotiate.  Many terms of the Series C round are going to have more of an impact on the Series A and Series B holders than on the management team.  So, prior to closing, the VCs themselves are negotiating just as much as management.   And there are all sorts of tensions that can build dependent on how aligned the Series A and Series B investors are with the existing management team, etc.

Here is an example.  Let’s say that the Series A liquidation preference (LP) is 1X and that the Series B LP is 1.5X.  The Series C investor negotiates a term sheet that provides for the Series C to be senior to the A and B and also for the Series C to have a 1X LP.  Term sheet gets signed and the parties are working towards the closing (lots of transaction docs keeping the lawyers busy, due diligence clean up, etc.).  As the document drafts are going back and forth, the Series C new investor says “I did not realize the Series B has a 1.5X LP; we need that too.”    A response might be “what do you mean you did not realize that?  You saw the Series B deal docs already……how did you miss that?”  Or, it might be “you are nuts to be bringing this up now.”  Or possibly, “I can understand where you are coming from, but why bring it up at this point.”  Or possibly, “Ok, I would ask for the same thing if I were you, but let’s lose that full ratchet anti-dilution protection…..”

Anyway, I am sure you get the point.  It is horse trading, and will inject a bit of agitation into any deal.  Get ready to deal with it…..unfortunately.  If you ever catch me doing it whack me over the head with a horseshoe.

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3 thoughts on “Horse Trading

  1. Great article Zach! As always…

    Quick question – how would a new venture start down the path of receiving investment funds? Is it something the new business initiates, or does the business basically have to wait to be approached by VC’s?

    Thanks again for the great articles – love reading them!

  2. Pingback: Shulman Venture Advice: Horse Trading

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