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Some founders choose to include a major investor clause, which defines what the company considers to be a “major investor” based on an amount invested, or by number of shares purchased.
The major investor clause matters because, if included, the company can reserve rights and provisions for major investors only. Typical terms that the company will reserve for major investors include information rights, pro rata rights, co-sale rights, and the right of first refusal.
If you include a major investor clause, make the threshold an amount that will limit the number of investors who earn the designation. Even if you’re raising a $1M party round, the threshold could be $100K or $200K, as a carrot for larger checks.
Beyond an incentive for larger checks, major investor thresholds are beneficial because they reduce the number of investors you have to coordinate or negotiate with during subsequent rounds of funding regarding pro rata rights, or in a situation where someone wants to sell their stock and the ROFR and co-sale agreements are triggered. Granting information rights, pro rata rights, rights of first refusal, and co-sale rights to every investor has consequences you should be aware of before making a decision.
See the pro rata section for more on reserving pro rata rights for major investors.
Mark Suster recommends at least reserving information rights for major investors, citing a particularly egregious breach of trust he witnessed as an investor. Suster writes, “I know the temptation is to trust every investor—large and small—who gave you money when you were an early-stage startup. The reality is that you cannot. Major investor clauses exist for a reason. Protect your financial information wisely.” For another take, angel investor and co-author of The Startup Playbook, Will Herman, describes the major investor clause—particularly when it reserves pro rata rights—as unfair to angel investors and other early investors who took the first risks on the company.
Definition Anti-dilution provisions in a term sheet adjust the number of common shares into which preferred shares convert in the event of a down round or other stock dilution. The purpose of these provisions is to protect investors’ stock ownership percentage in a company.
When negotiating anti-dilution clauses, lawyers may not get into the details of how anti-dilution works. They should, however, advise you to request contingencies to anti-dilution clauses. These contingencies allow space—or “carve-outs”—for founders to get around the clause in certain standard circumstances, like issuing shares in an acquisition, offering options for employees, or taking on venture debt that allows you to do those things without triggering anti-dilution.
Anti-dilution can be calculated by a broad-based weighted average (or BBWA), or as full ratchet. BBWA is absolutely customary, whereas ratchet-based anti-dilution is very atypical. If you’re interested in reading more about either, we recommend reading Yokum’s “What is weighted average anti-dilution protection?” and “What is full ratchet anti-dilution protection?” at Startup Company Lawyer.