Revised BVCA Model Investment Documents

The changes significantly update the previous versions reflecting the maturing UK growth capital market, including the popularity of EIS/VCT investments and the increase in volume of incoming US capital. Their aim is to streamline the investment process and discourage unnecessary negotiation so the parties can focus on transaction-specific issues. They are intended to reflect a balance between the interests of investors, founders and the company, rather than favouring one stakeholder.

The key changes

Separate Subscription Agreement and Shareholders’ Agreement

The Subscription and Shareholders’ Agreement has been replaced by two separate documents. The new Subscription Agreement contains only the investment-specific provisions (and, as is typical for Series A, is structured for a lead investor). It is intended to be a one-off document that is not revisited after the time of the investment. It now also helpfully provides for the conversion of ASAs, SAFEs, convertible loan notes etc at the same time as the new money coming in.

The Shareholders’ Agreement remains a more forward-looking agreement, setting out the terms applicable to the ongoing relationship between the parties. Parties now only have to look to a more manageable Shareholders’ Agreement and the Articles from time to time and early stage investors no longer have to be a party to (and in some instances consent to the terms of) later stage investment documents.

Warranties are no longer provided by Founders

Only the Company provides warranties to the investors under the Subscription Agreement. This reflects growing practice in the UK, particularly at Series A and/or for earlier stage repeat investments, and will hopefully address a common obstacle in negotiations.

Warranties updated

Standard form ESG and sanctions warranties are now included in the Subscription Agreement.  The EIS/VCT, IP and data protection warranties have been reworded and, generally, the warranties have been reviewed to try to reduce unnecessary disclosure.

De minimis removed

The individual and aggregate small claims thresholds for warranty claims have been removed, on the basis that they lead to unnecessary negotiation as the overall cap should be sufficient.

No general data room disclosure

A pro-forma disclosure letter has also been provided by the BVCA.  The contents of any data room or other due diligence documents are not deemed generally disclosed.  Instead, only those documents specifically referred to in the disclosures will qualify the warranties (and only to the extent the matters contained therein are relevant to a specific disclosure).

Founder board rights limited to term of employment/consultancy

Founders’ board appointment rights are to terminate upon them becoming a leaver.

Pre-emption rights on the issue of new shares/rights to acquire shares

Pre-emption rights are restricted to Investors or Major Investors only. This makes it easier for companies to raise further funds from its existing key investors or third parties as it prevents smaller shareholders from either taking up capacity in a round or having to be approached to waive their rights.

Majority consent for variation of class rights

It is easier for share rights to be amended, which is often an indirect consequence of a further fundraising round, by now only needing the written consent of the holders of a majority of the class, rather than 75% of the shares of that class in issue.

Lock-up on an IPO

All shareholders are now subject to a maximum 180-day lock-up on an IPO. As this is set out in the new Articles, it will be automatically binding on all shareholders without the need for any further documentation.  In practice, brokers want all significant shareholders locked in for at least 12 months in any event.

Dragged shareholders on Share Sale may be subject to consideration escrow / holdback

Price adjustment mechanisms (such as an earn-out or completion accounts adjustment) may now be imposed on dragged shareholders in the event of a Share Sale as well as those shareholders doing the dragging (subject to being on no more onerous terms).  This is limited to a reduction of unpaid consideration rather than a clawback of consideration already paid out.  Therefore, all shareholders are treated consistently, removing the incentive to be dragged. Dragged shareholders are still not required to give business warranties.

Bad Leaver

Previously, a Bad Leaver could lose their shares based on a vesting schedule (with the number decreasing over time).  A Bad Leaver now loses all of their shares with no sliding scale.  However, the definition of Bad Leaver has been amended to capture only genuinely harmful matters to the Company – adding a new Bad Leaver event of where someone commits a material breach of any non-compete obligations owed to the Company (even if this was not the reason for, or happens after, their departure) – but, aside from committing a criminal offence, gross misconduct, fraud or dishonesty, excluding any other type of misconduct or poor performance. There are also the options of including summary dismissal and resignation as Bad Leaver events but it is acknowledged that this will not be appropriate in all circumstances now the penalty is a loss of all shares.

Upon any non-Bad Leaver event, the leaver retains their shares according to the vesting schedule but there is no provision for any acceleration of vesting.  The 12 month cliff also remains an option.  The means of dealing with lost shares has also been simplified with those shares automatically becoming deferred shares rather than the service of deemed transfer notices.  This will simplify things for companies with EIS investors where there may not be a willing transferor for non-EIS shares.

 “Articles drag”

The introduction of new investors often requires amendments to the Articles, which previously needed the approval of holders of at least 75% of the voting shares in issue, regardless of the investment round having already been approved by a lower, or at least different, threshold under the list of consent matters in the Shareholders’ Agreement.  This approval process was onerous and made it difficult to agree financings, particularly as companies grew and cap tables became larger and more diverse.  A new clause in the Shareholders’ Agreement now states that, provided the requisite approval to the financing has been obtained under the consent matters (plus the approval of X% of shareholders (being such percentage (if any) as the parties may choose)), shareholders must irrevocably agree to any consequential (and non-discriminatory) changes to the Articles.

Our view

The BVCA standardised documents are only recommendations but they are widely adopted in the UK for Series A funding rounds and, in practice, frequently inform negotiation on earlier stage investments, particularly companies that may have completed multiple angel/seed rounds and sit in the pre-Series A funding space.

Whilst the changes are not so significant to justify a post-Series A company updating its investment documents solely for this purpose, new Series A rounds will be expected to adopt the revised documents.

There remain a series of optional elements particularly regarding the leaver provisions  and, by leaving things open, it will ensure that these provisions remain the most heavily negotiated.  However, the adoption of company-only warranties and the narrow approach to disclosure does reflect increasing market practice and will hopefully reduce the time-spent going through the motions of negotiation on these points.  It also lends support to a similar approach being taken in the pre-Series A market.

Whilst the inclusion of founder director appointment rights reflects common market practice and will be welcomed by founders, we expect founders may be disappointed with the termination provisions as, in practice, we have often been able to negotiate linking such rights to the continuation of employment or a minimum shareholding (sometimes depending on the circumstances of the departure). We question whether this will totally smooth negotiations in this area and is certainly likely to be resisted by founders in pre-Series A negotiations.

The changes made to make it easier to amend the investment documents rather than having to abandon them or approach smaller investors to approve each further investment round will be welcomed.

A new model term sheet (and various other ancillary documents) have been promised by the BVCA in due course, which should further assist founders to navigate their way through the Series A funding rounds.