[oyeanuj]

> and the industry standard is that companies pay for BOTH their own legal counsel and the investor’s legal fees.

Serious question - how is this still the case, or make any sense? Wouldn't it be in the investor's interest that the company doesn't spend $60K out of their raise on this, and instead on hires, product, etc?

And given how standard a process this must be for every VC firm, I imagine they would have a well-negotiated rate, which for them is an incremental cost of investing?

I'd like to believe that there are firms out there that don't do this, and that this is turns out to be some sort of advantage for them (a form of founder-friendly/company-friendly, if you will).

[jalonso510]

VC's typically get to charge fees on capital they deploy, not just what their institutional investors have committed to their fund. So in theory, while they could be more transparent by reducing the amount of their investment by the amount of their legal fees and then paying them out of pocket, they prefer to instead deploy that money to the portfolio company and let them spend it. Not saying it's good for founders, but that's why they do it.

[gumby]

This should be coming out of the investors' management fee (the 2% of the "2 and 20") but by making "the company" pay they shift the cost onto their LPs.

The best you can do is limit the legal fees in the TS.

[SeoxyS]

Bingo. This is an important detail that's easy to miss; but a VC has a huge incentive to lower its own costs while increasing capital committed. Any expenses come straight from the GPs' pockets. Capital invested is paid for by LPs and the VC even earns management fees on it.

It'd be in a VC's best interest to invest $60k more for the same equity, and make the startup pay that expense, vs. paying for it directly. It's a win-win for startups and VCs. LPs get a bit screwed, however.

[anotherfounder]

The most charitable explanation I can think of is that this is a relic of old times, and that is changing. I know of founders who have insisted on this being paid by the VC, and successfully gotten so.

But I'd also like to know how standard/non-standard this is.. and why is it even the case in the first place?

Given how Fred Wilson (and others) talk about not liking SAFE, they really should then make it easier to do priced rounds without putting the burden on founders.

[arohner]

> why is it even the case in the first place?

1) Because VCs were working on 'fixed income' 2) because they could. The standard deal historically is "2 and 20", i.e. the VCs get paid 2% of the fund raised per year, and the first 20% of the profit. That 2% is used to pay for salary and office space, and doesn't increase until you raise a new fund, and the 20% isn't realized until the fund ends in 10 years. So pushing the cost onto the startup saves them a decent amount of money when you're doing dozens of deals a year.

[anotherfounder]

By pushing it out on startups that are supposed to be conservative with spending, and investing only on the product? Seems extremely short-sighted.

[arohner]

At the end of the day, this is all the LP's money, and this comes down to how much the LPs pay the VCs for their service.

Leaving aside bloat in lawyer rates because the VC doesn't care about price, the total cost to do the deal is basically unchanged though.

[harryh]

Serious question - how is this still the case, or make any sense? Wouldn't it be in the investor's interest that the company doesn't spend $60K out of their raise on this, and instead on hires, product, etc?

No, it would not be in the investors best interest to make that change. Under the current system all of the money spent is used to buy shares in the company. Under a system where the VC firm was responsible for their own legal fees then $25k (or whatever) would go directly to the lawyers instead of buying shares so they would end up with a bit less ownership.

EDIT: To be clear I'm not saying that I am in favor of the status quo. I am not. I'm just saying that it is understandable given the incentives of VC firms.

[arohner]

The VCs aren't the investors here.

There are 3 parties, the startup, the VCs and the LPs. The LPs are generally pension funds, college endowments, and sovereign wealth funds, i.e. institutions who can write $10M-$100M checks. The VCs are their agent, like a real estate agent helping you buying a house.

While VCs put their own money into the fund, generally the vast majority of the fund money comes from the LPs. The VCs get paid 2 and 20, 2% of the fund per year for things like salary and rent, and the first 20% of profits from the fund when it ends, in 10 years. Because of this structure, they don't get to treat the fund money as their own personal piggybank.

No matter who pays, the cost of a deal is going to be <money startup receives> + <startup legal costs> + <VC legal costs>.

Raising the cost for the VCs, without changing 2 and 20 just results in increased costs for the VC. Paying their own legal costs means they'll do fewer deals, with larger check sizes.

[logicallee]

you missed the parent's point.

if it paid its own legal fees it would get that much less equity.

imagine I said "I'll invest 1M at a 2M valuation but you have to burn 800K of it in a bonfire." vs if I said "I'll invest 200K at 2M valuation but I'll celebrate by burning 800K in a bonfire."

The same thing happens to the money (it burns in a bonfire / goes to the lawyers) but in the first one I have 50% of your company and in the second one I have 10% of it.

Because in the first one I added it to the equity investment before making you pay it.

[technotony]

Also, then the $25k would come out of the management fee rather than the LP's capital. Even less incentive for the fund manager to go this route!

[harryh]

Yup, that too.

[acjohnson55]

...of a financially healthier company!

But I suppose it's really kind of a matter of accounting. As long as the outlay of the investors is equal in both scenarios, the post-money situation should be approximately the same.

That said, in reality, the VCs probably have a better understanding of the real costs of the fundraise, so I can see the argument that they'd be best served in the long-run by minimizing surprises for their portfolio companies.

[anotherfounder]

It really seems short-sighted, since the focus should be on making sure companies have enough runway, comfortable and focused on product. For an early stage startup, $25K- $60K can be an extra part-time/full-time (depending on location/function) employee.

[harryh]

That goal is not in conflict with what I said.

Say that a company needs $X to have "enough runway." The VC firm can either invest $X and pay for the firms legal fees themselves or invest $X+legal_cost and have the company pay the fees. In the latter scenario the VC firm will probably end up with a greater ownership percentage.

It is worth noting, however, that it might not really make any difference. Much like tax incidence who directly pays for the lawyer really might not matter much in terms of where things end up in the end. The cost will always, to some degree, be shared by the firm and the company.

[anotherfounder]

I see. So, the choice is essentially : A: <Capital> from which the startup can pay legal fees OR B: <Capital> + <Legal Fees> where the Capital is probably less as VC firm is probably accounting for Legal fees separately.

Even then, it is interesting that the optics of this doesn't bother investors.