To Netpreneur Exchange HomeTo Netpreneur Resources

AdMarketing | Funding & Finance | Netpreneur Corner | News Center | Quick Guide | Home

FAQs | Funding

Clawback Strategies

Q: What are the customary ways to structure clawbacks into a term sheet for an early-stage venture?

While there are innumerable ways to structure what are referred to in the venture industry as clawback provisions, these are generally reserved for use in later funding rounds after there has been substantial dilution to existing or new management and the only way to incent management is to allow them to earn more equity than they have when the funding is concluded. Clawbacks are typically not used in early- or first-stage rounds of financing. The venture capitalist is willing to take the risk associated with a given venture investment, and he/she does so knowing they could lose every penny invested. On the other hand he/she also does so knowing that if this is that one of one hundred deals that really works, they are not going to be capped on the upside, through mechanisms that allow management to reclaim part of the equity which that VC purchased.

Furthermore, such clawback provisions can often be a source of conflict between management and the investors, resulting in short term decisions at the expense of longer term growth, profit and value creation. The venture capitalists find it is best to avoid these possible conflicts by agreeing to a valuation going in and then sticking with the equity split, come what may.

If the management team has found an investor (or investors) with whom they are comfortable, and has negotiated a deal that is fair all around, then there should be no need for a clawback provision in the early financings. Ostensibly, management is happy with their equity ownership and if they perform according to plan, any further financings are generally at a higher valuation, thus adding to the value of the holdings, and there should be no reason to cut back the first round investors.

Finally, it should be recognized by entrepreneurs that the reason venture capital works as a business is not because all deals turn out to be good ones, but because a few do, and it is those few which might return 10 to 50 times the money invested which provide the kinds of returns that the limited partners of venture capital partnerships expect. Without those better than average returns, there would be no venture capital in the first place and many deserving entrepreneurs would never have the chance to turn their dreams into miracles.

 

 

Management | Legal | Human Resources | Marketing | Funding | Technical


top

AdMarketing | Funding & Finance | Netpreneur Corner
News Center | Quick Guide | Home

By using this site, you signify your agreement to all terms, conditions, 
and notices contained or referenced in the Netpreneur Access Agreement
If you do not agree to these terms, please do not use this site. Our privacy policy.
Content copyright 1996-2016 Morino Institute. All rights reserved.

Morino Institute