If you are looking to raise funding for your startup, it is likely that you will need to consider setting up a board consist of external board members. Typically, if you are raising funding in the form of a convertible note, you can get away without external board members. However, if you are doing a Series Seed financing or a full preferred equity round, you will have to set up a board with your representation from your investors.
Board Size and Representation
Typically for a seed financing, you will have 3 board members with 2 board members representing common shareholders (typically founders) and 1 board member representing the investors. It is important the board member representing the investors understands they will stay on the board only until a Series A financing is completed. At that point, the new investors will want board representation.
For Series A financing, it is typically common to have 5 board members with 2 representing the common shareholders, 2 representing the investors and 1 independent board member. It is important that you do proper due diligence on the investors and specifically the board members that will be on your board members. I highly recommend that you get VC board members who have been successful entrepreneurs themselves if not operators. They are much more likely to understand how difficult it is to build a successful startup and will have valuable advice to offer to you as you grow your company.
Independent Board Members
The selection of the independent board member should be made carefully. You should ideally select someone who is local, has relevant industry expertise, is an operator or a successful entrepreneur and has time to commit to participating in board meetings. It is also important that you drive the process of selecting the independent board member. I had a situation where the VCs drove this process and even though we were involved in selecting the independent board member, we found this person to be ultimately beholden to the interests of our VCs.
You will also need to compensate the independent board members with equity. Typically, you would offer them 0.5% of the company vesting over 4 years. Note, that you have no obligation to provide equity to board members representing the investors.
You will likely encounter situations where investors will request board observer seats on your board. This could be an associate or principal at the firm that the investor would like to have sit in on the board meetings or a smaller investor who didn’t get a board seat or a strategic investor who doesn’t want a formal board seat. I highly recommend that you avoid adding board observers to your board as it can change the dynamics of the board even if the board observer doesn’t have any voting power. In any contentious discussion, you will now feel that there are more people stacked against you as a result.
However, it is not always possible to refuse the request for an independent board observer as it seems quite innocuous. In that situation, make sure that the addition of a board observer is done via a verbal agreement and it is not captured in the financing document.
Role of the Board
It is important to understand the governance role played by the board and how it is different from management. Typically, a board will have the following responsibilities:
· Hiring/firing the CEO
· Executive compensation, option grants
· Fund raising, M&A, debt issuance
· Strategy, performance/progress, financial review
· Approval of major third party deals
It is typical to hold monthly board meetings. It is always a good idea to do these as in person meetings. Stay tuned for a subsequent article on how you should prepare for your board meetings.
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