Understanding Investor Term Sheets - Super Pro Rata, MFN, Warrants, and Information Rights Agreement
Understanding Key Terms in a Super Pro Rata, MFN, Warrants, and Information Rights Agreement
When investing in early-stage startups, agreements often include terms to protect and incentivize investors. One such agreement might accompany a Simple Agreement for Future Equity (SAFE) and include provisions like Super Pro Rata Rights, Most Favored Nation (MFN) clauses, Warrants, and Information Rights. Here’s a breakdown of what these terms mean and their implications for both investors and startups.
1. Super Pro Rata Rights: Securing a Bigger Slice of the Pie
Pro rata rights allow an investor to maintain their ownership percentage in future financing rounds. Super Pro Rata Rights, however, go further by granting the investor the ability to purchase up to twice their pro rata share of equity in subsequent financings.
This right ensures the investor can increase their stake if the company grows rapidly or becomes more valuable. However, this provision ends when:
The first equity financing closes,
A liquidity event (like an acquisition or IPO) occurs, or
The company dissolves.
Why It Matters:
For investors, this is a powerful tool to increase ownership in promising startups. For startups, it can be a trade-off, as granting these rights may limit the ability to onboard new investors.
2. MFN (Most Favored Nation) Clause: Getting the Best Deal
The MFN clause ensures that if the company issues convertible securities in the future on better terms (e.g., a lower valuation cap or higher discount), the investor has the option to amend their SAFE to match those favorable terms.
How It Works:
The company notifies the investor of any subsequent convertible securities with better terms.
The investor can choose to align their investment terms within a specified period (typically 15 days).
Why It Matters:
This protects early investors from missing out on better terms offered to later investors, ensuring fairness and alignment.
3. Warrants: An Added Incentive
A warrant gives the investor the right to purchase additional shares of the company at a predetermined price. In this agreement, the investor receives a warrant to buy three times the shares they would receive upon SAFE conversion.
Key Details:
The exercise price is the lower of:
The valuation cap of the SAFE at the time of the investment.
The price per share in the next equity financing round.
Warrants are valid for seven years and can be transferred to entities affiliated with the investor.
Why It Matters:
Warrants provide an opportunity for additional upside, letting investors benefit further if the company performs well.
4. Conversion Trigger Clause: A Safety Net for Investors
If the company does not experience an equity financing, liquidity event, or dissolution within three years, the investor can trigger a forced conversion of their SAFE into preferred stock.
Key Features:
Conversion occurs at the valuation cap of the SAFE or the lowest valuation cap of any subsequent securities.
This ensures the investor’s position is solidified even if the company doesn’t raise funds or go public within a reasonable timeframe.
Why It Matters:
This clause protects investors from prolonged uncertainty and ensures their investment becomes equity within a set period.
5. Information Rights: Keeping Investors Informed
Transparency is critical for building trust. This provision requires the company to provide regular updates (3–12 per year) on business metrics such as:
Revenue,
Customer growth,
Burn rate, and
Runway.
Why It Matters:
Investors can track the health of their investment and identify opportunities to support the company’s growth.
6. Additional Provisions
Assignment Rights: Investors can transfer their rights to affiliated entities without the company’s consent, ensuring flexibility in fund management.
Dispute Resolution: Disagreements are resolved through binding arbitration, with the option for injunctive relief for intellectual property disputes.
Severability Clause: If one part of the agreement is invalidated, the rest remains enforceable.
Entire Agreement: This document supersedes any prior agreements and can only be amended with the written consent of both parties.
Implications for Startups
While these terms may seem investor-friendly, they can be a double-edged sword for startups. Offering generous rights like Super Pro Rata or MFN clauses might make the deal attractive to early investors but could limit flexibility in later financing rounds. It’s essential to balance investor incentives with long-term growth strategies.
Conclusion
This agreement showcases the nuanced relationship between startups and investors. Provisions like Super Pro Rata Rights, MFN clauses, Warrants, and Information Rights are tools to align interests, manage risks, and incentivize early investment. Startups should consult with experienced legal and financial advisors to structure agreements that support both immediate funding needs and future growth opportunities. For investors, understanding these terms ensures they can maximize returns while protecting their investments.