February 20, 2019

Venture Capital: Director Veto? Put It in the Charter!

Most corporate lawyers know that if you want to confer voting powers on one or more directors that are greater than those provided to other directors, Section 141(d) of the DGCL requires you to do that in your certificate of incorporation. But lawyers tend to view this narrowly, and often think that it only comes into play if you attempt to provide certain directors with more or less than 1 vote on board matters.

This Mintz Levin memo says that isn’t the case – and this excerpt points out that many of the contractual director veto rights typically found in VC investor agreements also involve disproportionate voting:

 When VC funds, their portfolio companies and VC lawyers read or think about DGCL 141(d) and this disproportionate voting, they usually, and narrowly, have in mind only the question of whether certain directors may have more than or less than one vote per Director on matters voted on by the Board, or a committee of the Board.

However, what such funds, companies and practitioners less often recognize and give consideration to is that the financing documents commonly used in venture financings also often contain provisions that confer disproportionate voting rights among Directors, and that this disproportionate voting is not conferred in the COI as required by DGCL 141(d).

For example, the customary “Matters Requiring Director Approval” or “Matters Requiring Investor Director Approval” provisions found in investor rights agreements (IRAs) typically require that the majority of the Board, which majority includes one or more directors representing the holders of preferred stock (Investor Directors) approve certain corporate actions, such as incurring debt, hiring or firing executive officers, entering new lines of business or selling material technology or intellectual property.

The memo says that these and similar provisions requiring affirmative votes by the investor directors also constitute “disproportionate voting”, because they give those directors “veto rights” that are not shared by all directors. That means these rights need to be in the certificate of incorporation – and if they’re not, you’ve got a problem.

The memo points out that the good news for VC investors is that if you’re using the latest NVCA form certificate of incorporation, there’s language in there stipulating that ‘matters listed in ‘Matters Requiring Director Approval’ or ‘Matters Requiring Investor Director Approval’ provisions of the IRA require the affirmative votes by Investor Directors.”

John Jenkins