Reading: Corporate Governance Provisions

Voting rights and board representation are often not static but tied to specific milestones:

• We have already discussed the dynamic allocation of voting rights (more votes to the VC) if the firm fails to meet specific performance hurdles.
• On the upside, term sheets often also have "Earn-In" clauses that allow the management team to earn equity if specific value goals are met.
• In the course section Staged Capital Contribution, we have already seen that investors usually make additional funding conditional on reaching a specific benchmark or milestone.

Importantly, also the composition of the board is often tied to the performance of the firm: If the firm misses a predefined milestone, the investors generally receive the right to replace the the fifth seat (the outside director) with a director jointly chosen by the investors.

With these voting and board terms, the investors can achieve the desired dynamic allocation of control: If performance falls short of a specific benchmark, investors receive stronger voting rights and take over the majority of the board seats. Factually, they therefore assume control over the firm.

This is very important to keep in mind for the entrepreneur. By agreeing to such deal terms, the entrepreneurs put their fate in the hands of the investors, as they install mechanisms that allow the investors to take over control if performance is less good than expected.