Auditing Early Equity Commitments Prior To Enterprise Sale
Auditing early equity commitments verifies informal share promises against corporate records, extinguishing unrecorded equity claims before enterprise sale closing.
side letter liability
Meaning
Ancillary agreements modify the terms of a primary contract without appearing in the main document. The presence of side letter liability arises when these private arrangements create obligations that conflict with the public or standard terms of a deal.
Hidden Risk
Such letters are often used to grant special rights to a single investor, such as a seat on the board or additional information rights, that are not shared by others. If these promises are not disclosed to other shareholders or future buyers, they can lead to lawsuits over preferential treatment or breach of fiduciary duty.
Record Keeping
The cost of managing these disparate promises increases as a company grows and takes on more investors. Each side letter must be tracked and analyzed whenever a new corporate action is taken to ensure that no special rights are being violated. Failing to account for these obligations during an acquisition can result in a breach of the main merger agreement, as the sellers may be unable to deliver the company free of these hidden encumbrances.
This burden often falls on the legal team, which must reconcile the various letters into a single disclosure schedule.
Resolution Cost
When a side letter is forgotten or ignored, the company may be forced to pay a substantial compensation to the holder of the special right. This expense directly reduces the funds available for operations or for distribution to the founders.