What do investors look at in the legal process of a funding round?

What do investors look at in the legal process of a funding round?

In an investment round, the focus is usually placed on metrics, growth, or product. However, there is one element that directly conditions the transaction: the company’s legal review. Investors don’t just analyze the business potential. They need to understand what they are buying, how it is structured, and what risks they are assuming. To do this, a legal due diligence process is carried out, which in practice often reveals issues that had not previously been identified.

Below are the main aspects reviewed in this process.

The cap table and shareholders’ agreement: the starting point of any due diligence

The cap table is one of the first points of analysis. It’s not only about who holds shares, but how they are distributed and whether that structure makes sense from an investment perspective. In early stages, it is relatively common to find unbalanced equity splits, shareholders with significant stakes but little real involvement, or agreements that have not been properly formalized. These situations do not necessarily prevent investment, but they usually require restructuring before moving forward.

When the cap table is unclear, the transaction becomes more complex, often more than expected.

The existing shareholders’ agreement sets the starting point. Investors need to understand what rules are in place and whether they allow entry under reasonable conditions. This is where some of the most common due diligence issues arise: poorly defined clauses, voting thresholds that block key decisions, or transfer restrictions that don’t align with the reality of a funding round.

It is also common to find that founder vesting has not been properly regulated, which raises concerns about their long-term commitment to the project. When this happens, renegotiation is usually required, and that inevitably delays the transaction.

Intellectual property, contracts and compliance: where the real risks appear

Ownership of intellectual property is a critical point, especially in tech startups. Investors need to confirm that the company actually owns the assets on which its value is based. However, it is not uncommon to find developments created by third parties without proper assignment, or even by the founders themselves without the rights being correctly transferred to the company. These situations create an obvious risk: that the company does not truly own its core assets. When identified, they usually need to be resolved before closing the investment.

The company’s key contracts help investors understand how the business operates in practice. Beyond the product or metrics, they reflect the level of formalization of the business. In many early-stage startups, contracts are either non-existent or overly simplistic, especially in relationships with key clients or suppliers. The lack of proper contractual backing creates uncertainty around revenue recurrence, obligations assumed, and potential third-party risks, and that uncertainty carries weight in an investment process.

Regulatory compliance has gone from being a secondary issue to a central element in many transactions. This is particularly evident in regulated sectors, but not limited to them. Data protection, for example, is almost always reviewed. So is the company’s use of technology and handling of information. In practice, non-compliance is more common than it seems, and although it does not always block an investment, it often leads to adjustments or additional conditions.

The legal review also focuses on the team, not just who is part of the company, but how those relationships are structured. Employment contracts, confidentiality agreements, and non-compete clauses are typically reviewed. But there is one particularly sensitive issue: founder commitment. When there is no vesting system or mechanisms ensuring founders remain in the company, the risk is clear, and investors take it very seriously.

One of the main goals of due diligence is to identify contingencies, that is, existing or potential issues that could affect the company. This includes debts, litigation, contractual breaches, or regulatory risks. It is not necessary for a company to be completely risk-free, that rarely happens, but risks should at least be identified and, where possible, controlled. When they are not, the impact usually carries over into the negotiation.

Finally, the documentation of the transaction itself is reviewed. The term sheet, investment agreement, amendments to the bylaws, and the new shareholders’ agreement must accurately reflect what has been agreed between the parties. Although this phase comes later, issues identified during due diligence often end up being reflected here, whether in the form of conditions, warranties, or structural adjustments to the deal.

What happens when issues arise?

When legal review identifies issues, the transaction is not usually canceled outright, but it does change. In many cases, certain matters must be resolved before closing. In others, economic terms are adjusted or protective mechanisms for the investor are introduced. And in more complex situations, the deal may ultimately not close.

The legal process in an investment round is not a mere formality. It is a tool to assess the company’s level of organization and maturity. A clear, coherent, and well-documented legal structure facilitates the process and reduces friction. On the other hand, legal issues, although common, introduce uncertainty and directly impact the transaction. In practice, anticipating these aspects makes the difference between a smooth round and one that becomes prolonged, complicated, or never closes.