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Anonymous User
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Startup Diligence

Post by Anonymous User » Sat Aug 14, 2021 10:08 am

TL;DR - how do you diligence a startup before accepting an offer? Should legal deficiencies be a deal breaker, or if they check out on the business side, can I just clean up the records once I’m in?
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About to have a final interview for a position with a tech startup and feeling pretty confident that there’s an offer in my future - that being said, I’m a little wary of the inherent riskiness of a relatively young startup (they recently completed their Series A, but have been around for a few years). Is it normal/reasonable to ask to see some diligence materials before accepting an offer? I’m not convinced their corporate records are in order, or that they’re foreign qualified where they should be… are these real concerns? Or just things for me to address once I’m in?
(For context - I’m a relatively Junior corporate associate in biglaw, and they’re a foreign-based company that is just starting to expand into the US. I would be their first US lawyer, reporting to foreign GC, with another couple of lawyers there as well). TIA

Anonymous User
Posts: 428114
Joined: Tue Aug 11, 2009 9:32 am

Re: Startup Diligence

Post by Anonymous User » Sat Aug 14, 2021 2:23 pm

IMO, if the business checks out and is solid then generally other "diligence issues" can be cleaned up UNLESS we are talking about significant regulatory hurdles facing the business which come up when businesses are trying to disrupt an established model.

Note that my experience has been as a ECVC senior associate working primarily with US startups so I'm not sure what other issues you should consider for a foreign startup.. one thing that does come to mind is making sure that they are complying with employment laws, withholding and other tax laws, etc. here and that they aren't looking to YOU to do all of that.

Getting foreign qualified and whatnot is fine, but setting up a solid foundation for US based operations will take a team and more experienced people and specialists. If you have a budget to engage outside counsel to do that, then that's great.

Anonymous User
Posts: 428114
Joined: Tue Aug 11, 2009 9:32 am

Re: Startup Diligence

Post by Anonymous User » Sat Aug 14, 2021 3:34 pm

Anonymous User wrote:
Sat Aug 14, 2021 2:23 pm
IMO, if the business checks out and is solid then generally other "diligence issues" can be cleaned up UNLESS we are talking about significant regulatory hurdles facing the business which come up when businesses are trying to disrupt an established model.

Note that my experience has been as a ECVC senior associate working primarily with US startups so I'm not sure what other issues you should consider for a foreign startup.. one thing that does come to mind is making sure that they are complying with employment laws, withholding and other tax laws, etc. here and that they aren't looking to YOU to do all of that.

Getting foreign qualified and whatnot is fine, but setting up a solid foundation for US based operations will take a team and more experienced people and specialists. If you have a budget to engage outside counsel to do that, then that's great.
Thanks, OP here - to be clear they’re a DE corp (95% sure…) with a foreign HQ. some of my work will be supporting HR but it’s my understanding they’ve been working with outside counsel on employment stuff etc. so far - my bigger concern would be discovering stuff like invalid equity issuances (/that my hire grant might not be valid), but I guess a 204 ratification could fix all that? From a business perspective I think they check out fine - they have a lot of paying users, generate a very respectable revenue for their size, and are taking the expansion very seriously. I’m a corporate generalist and have certainly worked with my fair share of ECVC clients - but have never had one bring on an in-house lawyer yet.
Would it be weird for me to ask, after getting an offer, to see their Series A docs, for example? Or does it just not matter, since as you say most stuff can get cleaned up?

Anonymous User
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Joined: Tue Aug 11, 2009 9:32 am

Re: Startup Diligence

Post by Anonymous User » Sun Aug 15, 2021 3:30 pm

I wouldn't ask solely because the risk of it being somewhat offensive (to the GC, to the Company because it assumes they haven't used proper counsel, etc.). But this is also a somewhat out of the ordinary scenario bc most Series A - stage companies aren't making in-house legal hires nor do they have a GC. Generally, it's later stage and you feel much better knowing their docs have been gone through diligence on a few rounds, etc.

Do you know which law firms represent the company/represented the investors in the Series A? Do you know who led the Series A? These may give you some insight on the paperwork.

In terms of equity issuances, you can of course make sure it's addressed properly after you get there but do want to make sure it's in your offer letter. You'll want to address all of that before the next round/409A valuation report expires so that you don't get smacked with a higher exercise price.

And like you mentioned, Section 204 can address some of the corporate problems that you may discover, but I think if you can learn who the company has used as counsel historically that will be very insightful.

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