September 13, 2019

Perspectives on Cutting-Edge Issues in Venture Capital and Private Equity

Members of the academic subcommittee will present current research related to private equity and venture capital. Each presentation will be followed by comments from a practitioner in the relevant field and then open to questions from the audience. This year presentations will cover the following topics: (i) internal corporate governance arrangements in venture backed startups, (ii) deficiencies in negotiation of private equity fund agreements, (iii) the impact of non-traditional investors on the governance of late-stage unicorn firms and (iv) the risk-seeking incentives of partners managing VC funds despite holding a class of senior security (preferred stock). Below is some additional detail on the subject area of the four projects, though since each is still in early draft form this may change somewhat by the time of the ABA conference.

Professor Elizabeth Pollman (Loyola Law School - Los Angeles) will present the first paper, “Startup Governance”. Pollman notes that internal governance arrangements within venture-backed startups are underexploted. “Longstanding theories of corporate ownership and governance do not capture the special features of startups. They can grow large with ownership shared by diverse participants, and they face issues that do not fit the dominant principal-agent paradigm of public corporations or the classic narrative of controlling shareholders in closely-held corporations.” Pollman provides a new “framework for understanding the unique combination of governance issues in startup companies over their life cycles. It shows that venture-backed startups involve heterogeneous shareholders in overlapping governance roles that give rise to vertical and horizontal tensions between founders, investors, executives, and employees.”

Our second paper is authored by William Clayton (BYU Law School), and is titled “The Private Equity Negotiation Myth”. This project explores private equity fund agreements. Clayton shows – contrary to industry claims that fund agreements are highly negotiated – that large investors seldom have an incentive to bargain for better fund terms. Instead, large PE investors often bargain for individualized protections rather than for better fund-wide terms.

Our third paper - by Anat Alon-Beck (Case Western Reserve University School of Law) – is titled “The New Unicorn Investors - Disruptors or Distractors”. This study explores the impact of non-traditional investors in late-stage mega deals providing funding to large private venturebacked startups (“unicorns”) on the governance arrangements and contractual terms operating within such firms. Put differently, how is the influx of new investors changing the private ordering within such VC-backed firms? Alon-Beck considers various policy reforms and corporate governance principles for unicorn firms.

Professor Jesse Fried (Harvard Law School) will present the final paper, titled “Variance-Seeking VCs”, on our CLE panel. Fried shows that although VCs invest through senior securities (convertible preferred stock), they will often have various incentives to push the portfolio company to take risks that are excessive from common stockholders’ perspective. This incentive for excessive risk comes from largely from the VCs’ compensation structure (carry + management fees on future funds), but also in some cases from the convertible preferred stock itself.

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