COVENANTS IN VENTURE

CAPITAL AGREEMENTS
 Sushant Yadav
 Raghav Arya
 Abhishek Jindal
 Anchit Sachdeva
 Kushagra Agarwal
 Positive Covenant Meaning

 A positive covenant is also known as affirmative

covenant.
 A positive covenant is a promise or contract that
requires a party to do something.
 For example, a covenant that provides that
the company will maintain adequate levels of
insurance or deliver audited financial statements is
an affirmative covenant. 
 Negative Covenant Meaning
 Also referred to as "restrictive covenant".
 Think of a negative covenant as a promise not to do
something
 They serve to limit the company from actions it
otherwise might be inclined to take unless the
investors have consented in advance
 Negative covenants relate to matters that would
affect the fundamental nature of the business in
which the investment has been made
 Positive Covenants Examples
 Payment of Taxes & Claims
- The company will pay all lawful taxes, assessments, and levies on it or its
income or property be fore they become in default
- This covenant sometimes provides that all trade debt, principal and interest
on debt securities acquired by the investor will be paid when due.

 Property & Liability Insurance

- The company will maintain insurance against hazards, risks and liability to
persons and property to the extent customary for companies engaged in the
same or similar businesses.

 Maintenance of Corporate Existence

- The company will maintain its corporate existence and all rights, licenses,
patents, copy rights, trademarks, etc., useful in its business and will engage
only in the type of business described in the business plan.
 Positive Covenants ( Cont’)
 Legal Compliance
- The company will comply with all applicable laws and regulations in the conduct
of its business.

 Access to premises
- Investors or their representatives will generally be permitted to inspect the
company's facilities, books, and records
- investors generally agree to confidentiality restrictions or to limiting access to lead
or major investors.

 Accounts & Reports

- The company should maintain a standard system of accounting in accordance
with generally accepted accounting principles consistently applied, and to keep full
and complete financial records.

 Repair & Maintenance

- The company will keep all necessary equipment and property in good repair and
condition, as required to permit the business to be properly conducted.
 Positive Covenants (Cont’)
 Protection of Proprietary Rights
-Agreeing to take all necessary steps to protect proprietary developments
made in the future.

 Board of Directors
- Venture capital firms seeks assurances that they will be represented on the
company's board of directors which may be backed up by voting agreements.

 Compliance with Key Agreements

-Enforcement of its rights under key agreements, such as the stockholders
agreement which will cause future stockholders to join the agreement.

 Financial and Operating Statements

-Agreeing to provide the investor with detailed financial and operating
information and may include monthly reports of sales, production,
shipments, profits, cash balances, receivables, payables, and backlog.
 Positive Covenants (Cont’)
 Life Insurance
-The investor will often require the company to maintain insurance on
the lives of key officers and employees.

 Current Ratio, Working Capital, or Net Worth

-Included only in debt financings and are agreements to maintain the
current ratios, working capital, or net worth, either at a minimum amount
or as specified for various time periods.

 Use of Proceeds
-Company will agree to apply the proceeds deriving from the financing
to a specified use.
-The investor will sometimes require that the proceeds be applied within
the business in connection with a specific financing plan, or may simply
require that the funds be used for working capital.
 Negative Covenants Examples
 Mergers, Consolidations, and Sale or Purchase of Assets
-Mergers, consolidations, acquisitions, and so forth, with respect to the company or any of its
subsidiaries, are generally prohibited with out the investor's advance approval.
-Liquidation and dissolution of the company or any subsidiary and the sale, lease, pledge, or other
disposition of substantial assets without consent may also be barred.
-Restrictions may also be placed on the company's purchase of capital assets.

 Dealings with Related Parties

-The company will covenant that no transactions between the company and any officers, directors,
or stockholders of the company shall be effected unless on an arm's length basis and on terms no less
favorable to the company than could be obtained from nonrelated persons.
-Approval of all transactions with affiliates by either the board or the investors may be required.

 Issuance of Stock
-The investor may prohibit the company from issuing any securities that would result in dilution of
the investor's position.
-This covenant includes restrictions on the issuance of securities of the type purchased by the
investor and any securities convertible into such securities at a price less than that paid by the investor.
 Negative Covenants (Cont’)
 Change in Business:
-The company will not change the nature of its business as described in its
business plan.

 Charter Amendments:
-The investor may prohibit the company from amending its corporate charter
or bylaws without the consent of the investor.
-More narrowly drawn covenants might prohibit only certain specified actions
without the investor's consent. (such as a change in the capital structure)

 Distributions:
-The company typically agrees not to make any dividend distributions to
stockholders.
-Dividends may be prohibited until a given date or until the completion of a
public offering of the company's stock, or may be limited to a fixed percentage
of profits above a set amount.
 Negative Covenants (Cont’)

 Indebtedness
- Restricting future Indebtedness
- Limit on amount of debt
- Unsecured debt may be permitted
- Common in debt oriented investments

 Investments
- Restrictions on investing in other companies
- Exceptions can be in wholly owned subsidiaries
 Negative Covenants (Cont’)
 Employee Compensation
- limiting maximum term and compensation of key
personnel
- control the acceleration or termination of vesting
schedule of directors, officers etc.

 Financial Covenants
- Usually done in a debt-oriented investment
- prohibiting key financial ratios from exceeding certain
limits
- limiting the amount of losses the company can occur
 Approval Rights
 Negative covenants give rise to what are called
approval rights.
 They require that companies get the approval of their
venture capital investors.
 In matters that might adversely affect the rights of such
investors
 Approval rights certainly do not allow venture
capitalists to wield absolute control overboard decisions
 They do give them blocking positions, allowing VCs to
demand that the actions and/or transactions over which
they have blocking positions be favorable (or at least not
too unfavorable) to their interests.
 Duration of Covenants
 The duration of covenants also tends to vary.

 They may endure as long as venture capitalists

hold their securities,

 or they may expire after some period of time or

on the occurrence of specific events, such as a
company's IPO
 Conclusion
 Positive and negative covenants are particularly effective
control mechanisms and are therefore common in venture
capital transactions

 The actual number of covenants and their rigor are determined

by venture capitalists on a case-by-case basis and depend on
the particular companies and their situations

 When venture capitalists do not take control of companies'

boards of directors, the covenants they require tend to be
extensive

 Failure to comply with these covenants may result in triggering

extra-ordinary voting rights or rescission rights
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