Sample Intent Letter

I've been asked by a number of people to provide a sample intent letter of the kind I spoke about in the post regarding Term Sheet vs. Intent.  I've modified this and mixed from two recent ones to give you an idea of what they look like from our firm.  Your mileage with your VC will vary.

Dear Dave,

Thanks for taking time out of your schedule to meet with my partners and I regarding NewCo. I know a second meeting is a pain but it went very well. We think you did a good job explaining it and based on the first pass due diligence on the space, opportunity and you folks, we would be prepared to dig in more and see if there is a deal to be had between your company and our firm.

As we discussed, I wanted to outline our intent inline with setting expectations on process, major terms and your questions regarding share structure/value.

First, given the stage of your company, many of the items on the DD checklist I sent you are not applicable. We will waive the environmental hazard waiver, as a rather humorous example.  My expectation is the there are a couple of weeks of calls, material review, and analysis to do.  We have two other files being worked on, one requiring travel to the west, so there will be some interruptions to the process.  In the past, many hold ups are getting the material from the company lawyers and attorney's so I strongly suggest you send the checklist to them immediately and get them rolling. On items that are N/A, they just are so no worries.  We will need to schedule a site visit and would like to arrange interviews with the named parties that we talked about in my office.  My best guess is 10 - 12 business days to get this done at which time, assuming we are all good, we'll lock down the term sheet.  The materials can be electronic. We have a Sharepoint location you can use as an electronic data room or you can send us a CD/DVD, doesn't matter to us.

On general terms:

Assuming we do this deal, we are proposing to issue a Class A preferred share with a 1x liquidation preference, with an 8% coupon. This is a non-participating preferred share and the 8% is not paid, it accrues until the liquidity event which is usually defined as a sale or IPO.  We require board representation. It is mandated by the way our partnership is structured and is not negotiable. As I mentioned to you in our meeting, if this board seat thing is a problem, we should stop now since we can't waive this.  The size of the board is open to discussion, however my suggestion is 1 from us, a common share rep, you(as the CEO) and two independents which we agree on.

We will ask for drag along and tag along provisions which are fair to all of us. When we get to a formal term sheet, they will be outlined in greater detail.  The sample package of VC documentation I've attached can show you want these and other things look like, but every deal will be slightly different. You are free to have your council review this package so you can get a clear expectation of what's coming. Your lawyers can also go into great detail on each item and how to deal with each one.

We have certain items that fall under the category of "matters requiring special approval." Essentially, this is a list of items that notwithstanding the approval of management and the board, you must have our written consent.  Our board seat and vote from the seat does not necessarily give you approval.  In the 8 years I've been doing this, I've never seen a case where we have said yes at the board and no at the firm level.  Even so, I want to be clear on these issues.  Depending on many things we learn over the next couple of weeks, this list will get adjusted but there are a standard set of items that generally go in regardless.  They are:

• You can't change the corporate structure without JLA's permission. For example, you can't change the incorporation location without our permission. The board may want it and you might want it, but if it (for example) could cause a tax problem or some such for our LPs, we wouldn't sign off.
• You can't modify our share rights without JLA's permission.  For example, you can't have a vote and decide to remove our preference even you have the votes or other shareholders to support it. We have to approve.
• You can't incur outside debt (other than operating lines, etc) over a certain amount (to be discussed) without JLA's permission.
• You can't remove us from the board while we own 10% or more of the company.  While this is normally in the Shareholders agreement, I like to call it out so we all know the facets of this marriage.
• You can't modify the shareholders agreement which changes, in any way, our rights.  This is like the second one but we add it for clarity. This usually is the most contentious so we can have a separate discussion about what we will/won't do.  Rigid flexibility, that's my general motto. 
• No third party transactions (over a negotiated amount)  without JLA's permission. This is there to prevent you from hiring Uncle Ned with us actively approving it.

There are other items which you can read about in the enclosed sample pack but this gives you an idea of what to expect.

Valuation:

You asked about where the value would come in.  Generally and seriously broadly speaking, we believe an investment in this space, at your stage and with the additional capital required, best case, will come in at around a pre-money valuation of $6 million.  Again, this is the best case, no brain farts/problems in the DD process. Typically, what will reduce the valuation are these items:

• Budget adjustments. Essentially, we take your model, do VC Voodoo on it, and come back for a discussion. If we agree on the costs, revenue ramps, etc, and they are materially different than what we start with (your leave behind model), the valuation of the company can change. The key, of course, is getting agreement on numbers which make sense to both of us.
• Market data. Sometimes it will take longer and take more capital to get something adopted. If we think there is more (materially more) risk than when we started this discussion, the value can change.  Yes, we are venture capitalists and we are supposed to take risk, I agree. I make this point only to emphasize the materially more part.

Finally, the references. I've provided you a list of all our portfolio CEOs.  As I mentioned to you in our meeting, please do call them all and meet with as many as you can. I believe this is the best way to find out what I (and our firm) can be like once the deal is done.  Ignore all the he is a nice guy stuff and ask questions about what we did/how we acted when there were problems or issues.  I think you will be pleased with what you find out.

I hope this gives you the information you need in order to determine if we are the right fit for you.  Let me know if you have any questions.  I look forward to hearing from you with respect to proceeding.

Thanks again for coming by and letting JLA take a look at your opportunity.

There you go.  As I said, this will change depending on the company, management experience levels, etc.  I have a package of sample term sheets, shareholders agreements, etc, that are also provided so the management team can get a broad overview of the paperwork pile.

I hope this helps many of you in your financing endeavors.

Comments

[Joe Wheeler]

Thanks Rick

[FN]

Kudos for offering references...that's something I learned (the hard way) that you have to do, i.e. "reverse" diligence. It speaks volumes that you volunteer that.

[Eric Willis]

Thanks. This is very helpful.

[Saul Lieberman]

Thanks for sharing.
Great idea; even better execution.
(Ummm... there were a few typos, though.)

[Rick Segal]

Saul,
Of course there were typos.. Adds the personal touch... ;-)

[Chip H]

Did you (they) just use the word 'fart' in a business letter? That alone would cause me to take them 48% less seriously.

[Rick Segal]

Chip,
Yes. I did. Raising capital is a stressful pain in the ass which takes time away from running a business and often requires management to play 'games' that aren't really cool.

I use colorful language and a bit of relaxed tone to try and get people to relax a bit and focus on the things that matter.

Most people take me seriously and appreciated it. Your mileage may vary.

Thanks for stopping by.

>R<

[Keith Glover]

Can't wait till I get my letter :)

[Don Dodge]

Rick, Great post...great letter. I wish more VCs worked like you and JLA. Taking on VC investment really is like a marriage, and the issues should be discussed openly in plain english. Too often the "lawyer speak" is so complicated that no one on either side really understand all the details. That is no way to do business.

The clarity and sincerity of your letter is refreshing. All business deals should be like this.

Don Dodge

[Brad Farber]

Wow. Kudos for the candid post but man I'd rather eat my left arm and maybe even a testicle or two before I got in business with you. Or, wait, maybe I need JLA's permission before I can swallow my left nut.