Documenting Founder Stock Purchase Agreements Before Raising Seed Capital
Founder stock purchase agreements convert verbal equity promises into enforceable stock ownership by establishing price, vesting, and tax baselines before seed capital.
seed due diligence
Meaning
Investigation processes allow venture capital firms to verify the claims made by founders during a pitch. Through seed due diligence, the investor looks for red flags such as unclear ownership of intellectual property or undisclosed debts. This phase occurs after the term sheet is signed but before any money is transferred.
Risk Assessment
Analysts examine the cap table to ensure that the founders actually own the percentage of the company they claim. The seed due diligence process also includes a check of the employment contracts to see if previous employers have a claim on the code. If the founders are using a technology that they built while working elsewhere, the legal risk might be too high for the investor.
This stage is where many deals fall apart because of poor record keeping.
Record Verification
Founders must provide access to a data room filled with every contract, leases, tax filings and board minutes the company has ever made. The depth of seed due diligence depends on the size of the investment and the history of the firm. A thorough review uncovers whether the company has the proper licenses to operate in its chosen market.
It also checks the bank statements to confirm the burn rate and the remaining runway.
Investment Decision
Closing the deal depends on the successful completion of this review. Seed due diligence ends when the investor is satisfied that the business is a legitimate entity with a clean history. The findings from this process often lead to changes in the final investment documents to fix any issues that were uncovered.