The investor exit clauses

The investor exit clauses

The investor exit clauses in a shareholders agreement, often underestimated, is truly the cornerstone of a company’s operation, regulating the entire life cycle from the entry of shareholders to their exit.

In today’s post, we will specifically focus into certain clauses that investors frequently request, known as exit clauses. While it’s challenging to generalize, many investors support a particular company not only because they believe in the project and its management team but also seek profitability and returns on their investment.

Exit clauses in a shareholders agreement

Considering this, exit clauses, as their name suggests, permit the investor to exit the Company under specific conditions. Here are some illustrative examples:

• Exit clause based on the mere passage of time: Investors may aim to stay involved during a certain growth stage of the company and then exit. For instance, some investors expect an involvement period of between 5 and 7 years.
• Exit clause for failing financial objectives: If a specified EBITDA is not achieved within a set timeframe, the investor reserves the right to exit if the company’s financial performance does not meet expectations.
• Exit clause for failure to secure expected funding or execute the anticipated funding round: For example, if the founding team commits to raising a certain amount of funding within two years of the investor’s entry into the capital.
• Liquidation or bankruptcy scenarios: These clauses are designed to ensure preferential payment, always in accordance with applicable laws.
• “Zombie” company scenario: This is an interesting clause that may become more common. A “zombie” company is one that generates enough profit for its administrators and worker-partners to live off of, but it lacks growth prospects. An investor may feel trapped in such a situation as it becomes challenging to exit the company due to the lack of interest from third parties to buy the shares and the unlikely increase in value or dividends justifying the initial investment.

The execution of these investor exit clauses, depending on the company’s situation, typically involves either selling the shares when they are attractive, using an external agent, or the obligation of repurchasing the shares by the company or specific shareholders at a pre-agreed valuation.

When negotiating these clauses, it is crucial to consider the specific obligations. For instance, if opting for a M&A firm, details such as the selection process and who will cover their fees should be clarified.

In the case of share acquisition, it’s essential to include a sale option for the investor and an obligation to purchase for the shareholders or the company committing to acquiring the shares, specifying: exercise period, involved parties and acquisition value.

In this regard, it is necessary to take into account the shareholders’ agreements from the investor perspective with guarantees for a secure business environment and the shareholders’ agreement and the clauses of the founders.  In short, these are key aspects in the drafting of a shareholders’ agreement which must be taken into account in order to ensure that it is drafted correctly.

At Letslaw, we can provide expert guidance in drafting the investor exit clauses shareholder agreement. Feel free to contact our team of commercial lawyers.