Reading online there’s a number of “rules” about venture capitalists and how they operate. Most of the information is solid, but there are a handful of edge cases that are more nuanced for hot startups. Here are three ideas about how venture capitalists operate that aren’t as black and white as commonly presented:
- Signing Non-Disclosure Agreements (NDA) – Most of the time, VCs won’t sign a non-disclosure agreement, and rightfully so since they see so many startups on a regular basis. Now, if you’re in super high demand, VCs are clamoring to invest, and you truly have confidential information like outstanding financials, VCs will sign NDAs.
- Investing in LLCs – Limited partners, the investors in venture capital funds, are often endowments, charities, and other non-profits that don’t want pass-through losses and the headaches of K-1s, and thus require investing in C-Corps. VCs won’t invest directly into LLCs, but if the deal has enough demand, VCs will create a blocker C-Corp, put the money in that entity, and that entity will invest in the LLC. Overall, the preference is for C-Corps based in Delaware, and if you want to raise serious institutional money, a C-Corp is the way to go from the beginning.
- Complicated Term Sheets – VCs are notorious for long, complicated term sheets with extensive legalese and jargon. Not all firms operate this way. Often, the most successful and well-known firms will have the most straightforward term sheets. Complicated term sheets are also a sign of whether or not the VC is optimizing for the relationship with the entrepreneur (upside) or trying to minimize the downside scenario (many more provisions).
With these three “rules” in mind, there’s one big takeaway: if your startup is doing great and has serious demand from VCs, the traditional rules don’t apply to you. 99% of startups never raise VC money, and the ones that can break the common rules are in the 1% of the 1% that raise money.
What else? What are some other venture capital rules that can be broken for hot startups?