Just got a term sheet from a VC firm?
Congratulations — that’s no small feat.
In this series, we are looking at the “standard” VC term sheet to understand each of the terms and conditions, why the VC might care and why you should as well.
In this Part 4, we look at adding to your Board of Directors.
There are many venture backed startups that have a VC representative from every round — seed, A, B, C, D, etc. It is often said that the performance of a company is inversely proportional to the number of VCs on the Board.
A better Board would be one that has a mix of VC representatives and industry experts. But how to get there?
Understand that for a VC, sitting on a Board cuts both ways.
On one hand, it gives them a sense of power, it could look good on their track record and they may feel like they will get more credit for the success of the company.
On the other hand, Limited Partners (those who give us the money) keep careful tabs on how many Boards each VC partner is sitting on and worry if that number gets too high. There is a cost of sitting on a Board — not only time and emotional energy but also a Board “slot” that can’t be used elsewhere.
I would like to believe that most VCs serve on a Board to be helpful to the company. It is less about control and more about being involved and aware of areas where their experience and contacts can be helpful.
But not all VCs. Some VCs like to hear themselves talk. They like to “play” startup or relive their past entrepreneurial life.
I won’t get into the details of board votes versus shareholder votes here — suffice to say that a bad Board Member can ruin your company. It can ruin the dynamic of your board meetings, can impede your ability to make decisions, can inhibit your ability to raise more money or even sell your company.
Choose very carefully before adding someone to your Board
Do reference checking. Lots of it. Find out what they are like in good times and in bad. When you agree and when you disagree. Are they available when needed? Can they speak for their firm? Will you be proud to have them as a representative of your company?
Room to Negotiate?
The best situation is where you have an investor who’s advice and counsel you really want. But if that’s not the case, is there room? Lots.
Just say no. The Board is big enough. We are eager to have your input, but we are keeping the Board small for now. Offer to introduce them to your existing investors. Maybe they can get comfortable with them as representatives.
Push for Independent Directors. If your Board already has some good, experienced VCs, make the argument that Board expansion should focus on Independent Directors. A new investor can even nominate an Independent industry expert (mutually agreeable to the Founders).
Add an additional seat. If the VC needs to have a seat, keep the board balanced by adding another seat to be occupied by an insider, or better yet another independent industry expert.
Board Seat Terms / Limits. This issue will come up again at the time of the next round. Consider proposing that a VC can have a seat up until the next round of funding.
Propose the VC be an Observer. The distinction between a full Board Member and an Observer is typically quite thin. The good news is that if you have a valuable VC, this is a way to get them involved in Board level discussions — without growing their board count. The bad news is that if you have a difficult VC, they can still be just as problematic in an Observer seat. However, if you have a strong lead Director or VC, they can more easily manage an Observer than a full Board Member.
There are many ways to skin the cat here. Handled the right way, you should be able to find a middle ground that is workable. But if someone doesn’t check out, you should not only be certain to not have them on your Board, you should think hard about whether you want their money to begin with.