When a company raises capital, especially during a Series A financing, the term sheet sets the stage for definitive agreements that govern shareholder rights. Two of the most important are the Voting Agreement and the Right of First Refusal and Co-Sale Agreement. These documents shape governance, control, and shareholder dynamics in ways that can impact the company for years to come. Let’s break down what they are, why they matter, and what founders and investors should keep in mind.
Watch our NVCA document series on key shareholder documents
Voting Agreement: Setting the Rules for Control and Governance
Many of these provisions start in the term sheet. For example, the term sheet usually specifies the board size, the representation of investors, and whether drag-along rights apply. The voting agreement then formalizes these details.
This agreement governs how shareholders will vote on key matters, most notably board composition and major corporate transactions. For early-stage companies, this is where control issues come to the forefront. Founders naturally want to maintain influence, while investors seek representation to protect their interests.
Board Structure and Appointments
The agreement typically specifies:
- Board size at closing and seat allocation.
- Which parties—common stockholders, preferred stockholders, and sometimes independent directors—get appointment rights.
- Conditions for maintaining those rights, such as minimum ownership thresholds.
A common structure might include one or two seats for common holders (often including the CEO), one for preferred holders, and possibly an independent director. The goal is balance: founders want to preserve control, while investors expect meaningful oversight.
Drag-Along Rights
Another key feature is the drag-along provision, which ensures that if a majority of shareholders approve a sale, minority holders cannot block the deal. This protects against holdouts that could derail an acquisition. While this sounds heavy-handed, safeguards are built in:
- Minority holders typically only make limited representations (e.g., confirming ownership).
- Liability for indemnification is capped at the amount they receive in the transaction.
- They receive the same consideration as other shareholders—no minority discounts.
These protections help align interests while minimizing friction during exit events.
Right of First Refusal and Co-Sale Agreement: Managing Share Transfers
Similarly, the term sheet often identifies which investors will have rights of first refusal and co-sale rights, setting expectations before the definitive agreement is drafted.
This agreement addresses what happens when a shareholder, often a founder or key employee, wants to sell their shares. It gives the company and investors the first opportunity to purchase those shares before they hit the open market.
How it works
- The selling shareholder must notify the company and investors of the proposed sale terms.
- The company usually gets the first chance to buy; if it declines, investors can step in.
- If shares remain after the initial elections, there’s often an “oversubscription” process in which others can buy more than their pro rata share.
If shares still aren’t fully purchased, the seller may proceed with the third-party sale, but subject to additional conditions.
Co-Sale Rights
Investors often have the right to “tag along” in the sale. If a founder sells to a third party, investors can sell a proportional amount of their shares on the same terms. This prevents scenarios where a founder cashes out while investors are left behind.
Key Nuances
These rights apply to existing shares, not new issuances (which are covered by preemptive rights in the Investor Rights Agreement).
- Transfers to competitors or sanctioned parties are typically prohibited.
- Lock-up provisions may restrict sales around an IPO.
- Certain exemptions exist for estate planning or de minimis transfers, but they’re narrow.
Consistency and Market Standards Matter
Both agreements must align with other governing documents, including the charter, bylaws, and any side letters. Inconsistencies can create legal headaches and negotiation delays. Sticking to market-standard terms, such as those in NVCA model documents, helps keep costs down and deals moving forward.
Why These Agreements Matter
For founders, these documents influence control and liquidity. For investors, they provide transparency and protection. Negotiating them thoughtfully, without straying too far from market norms, can save time, money, and stress later.
Ultimately, these agreements are the frameworks for collaboration, ensuring that when big decisions arise everyone knows the rules of the game.