American Venture Capital Model Agreement - (Chinese-English Parallel Edition)

Author: None
Publisher:
Publish Date: 2006-12-01
Features: China's outstanding economic performance has attracted the attention of numerous venture capital funds. In just the quarter of 2006, 42 Chinese enterprises received funding from venture capital institutions, with 40 investment firms participating and a total investment amount of $330 million (from the "Qingke - 2006 Quarter China Venture Capital Survey Report"). The investment amount in the second quarter alone was as high as $480.1 million (from "Dow Jones VentureOne and Deloitte Hua Ming's 'China Quarterly Venture Capital Report'"). Compared to the strong and ever-rising venture capital activity, the domestic legal services for venture capital have lagged behind. Many investors complain that it is difficult to find a Chinese lawyer who truly understands venture capital. Some commonly used venture capital contract terms, such as anti-dilution clauses and performance lock-up clauses, are not only misunderstood by the companies receiving investment but often even by their own lawyers. The time-consuming and effort-intensive explanations have significantly increased the transaction costs of venture capital. This book introduces the full set of venture capital model contracts from the National Venture Capital Association (NVCA) of the United States, aiming to introduce the general operational model of international venture capital. It is believed that the publication of this book can help alleviate the supply-demand imbalance in the legal services market for venture capital.
The National Venture Capital Association (NVCA) is one of the most representative industry organizations in the U.S. venture capital community. Under the initiative of Ms. Reed Sarah, the association gathered a large number of industry experts (see the list of members on the association's website www.nvca.org) to draft a comprehensive set of venture capital model contracts, which have been generously made available to the public. The set includes eight documents: Term Sheet, Series A Preferred Stock Purchase Agreement, Certificate of Incorporation, Model Indemnification Agreement, Investors’ Rights Agreement, Management Rights Lottery, Right of First Refusal and Co-sale Agreement, and Voting Agreement, covering all the essential contract documents required for a typical venture capital operation. The NVCA developed these contracts with the following objectives:
(1) To reflect the "best practices" of current venture capital operations and guide the formation of industry standards;
(2) To treat venture capital institutions and companies or entrepreneurs impartially;
(3) To provide multiple options, reflecting diverse financing terms;
(4) To include necessary or helpful explanatory comments;
(5) To anticipate and eliminate legal pitfalls;
(6) To provide a comprehensive set of internally consistent financing documents;
(7) To promote consistency across transactions;
(8) To reduce transaction costs and time (as stated on the association's website).
Overall, the association has successfully fulfilled its intended goals with these contracts, and the content they provide is exactly what China's venture capital practice urgently needs. This book fully translates the entire set of contracts developed by the NVCA. Its publication can be seen as bringing America's "Dr. Bethune" to China's venture capital community. However, it must be noted that this "Dr. Bethune" from the U.S. has prescribed a remedy that is not tailored for China but is based on a company registered in Delaware, U.S. The validity (workable) and enforceability of the agreements largely depend on Delaware law, and many of the clauses are designed based on Delaware's unique legal background.
For example, the Drag-Along Right clause (translated in this book as "Forced Tag-Along Right," also known as "Strong Sale Right" or "Leading Right") refers to the right of existing shareholders of a company to participate in its sale. If the company fails to go public within a specified period, investors have the right to force the original shareholders (primarily founders and management shareholders) to sell their shares along with the investors to a third party. Original shareholders must participate in the equity transaction between the investor and the third party based on the terms and conditions agreed upon by the investor and the third party. The number of shares the original shareholders must sell is at least equal to: (Total shares held by original shareholders in the company × (Number of shares the investor intends to sell / Total shares held by the investor in the company)). The widespread adoption of the Drag-Along Right clause is partly due to a Delaware Supreme Court ruling in the case of Omnicare, Inc. v. NCS Healthcare, Inc., which invalidated tag-along provisions in mergers. Subsequently, investors included Drag-Along Right clauses in their agreements with shareholders to ensure their enforceability even without board approval. Moreover, the clause is particularly effective when the investor holds a minority stake. In the recent case of Minnesota Inventure, Inc. v. #7, Inc. D.Midwest Wireless Holdings LLC (Del. Ch. June 2006), the court explicitly upheld the validity of the Drag-Along Right clause, further cementing its prevalence in venture capital transactions.
Although the NVCA model contracts are based on Delaware law, the key provisions and clause structures they reflect represent the "best practices" and industry standards of international venture capital operations at the highest level. This book serves as an invaluable resource for educating Chinese companies and entrepreneurs, as well as elevating the professional standards of domestic legal services in venture capital.
This book is jointly launched by Beijing Law Firm and the Venture Capital Committee of the Beijing Bar Association. It is edited by Li Shoushuang, a lawyer at Beijing Law Firm and Secretary-General of the Venture Capital Committee of the Beijing Bar Association, who is fully responsible for this project and has contributed to some translations, proofreading, and compilation. Zhang Shiwei, a lawyer at Junhong Law Firm, who first proposed the translation of these contracts, meticulously proofread the entire book and provided many insightful suggestions and ideas for its publication. Ms. Gu Huaining of the China International Economic and Trade Arbitration Commission (CIETAC) undertook a significant portion of the translation work. Yu Xugang, a senior partner at Beijing Law Firm, Qian Weiqing, another senior partner, Lü Liangbiao, a partner and Director of the Venture Capital Committee of the Beijing Bar Association, and Song Yunfeng, Director of Market Development, have consistently supported and guided this work. All other colleagues at Beijing Law Firm and the Venture Capital Committee of the Beijing Bar Association have also provided various forms of support and assistance, for which we are grateful.
Special thanks are extended to Reed Sarah, the initiator of the model contracts, for her enthusiastic assistance. Sarah not only generously permitted the translation and publication of the contracts but also kindly served as an advisor, offering many valuable guidance and suggestions. Special thanks are also given to Wang Zhongde, Director of the Management Committee of Beijing Law Firm, for his strategic vision and strong support for this project. Special thanks are also due to the editors Yuan Fang, Gao Ruhua, and Guo Liang, among others, at Law Press for their patient and meticulous work in bringing this book to publication.
Finally, we sincerely invite industry experts and interested readers to point out any issues in this book to help advance the professional standards of legal services in China's venture capital sector. Any criticism, feedback, suggestions, or discussions can be sent to ishoushuang@gmail.com or contacted by Li Shoushuang, the editor-in-chief of this book, at phone number (13911527456).