During the course of a venture financing round, one or more participating investors may require that the company in which the investment is being placed enter into a "Management Rights Letter," a letter agreement that grants the investor additional rights or privileges not otherwise set forth in the investment documents. Before doing so, it is important for the company’s management team to consider how broad the rights in the letter should be. This article sets forth the primary issues the management team should consider.
Investors make this request when the rights and privileges they ordinarily require are not in the company’s governing documents or part of the general terms of the equity or debt transaction in which they are participating. Investors also ask for Management Rights Letters when their ownership positions in the company do not otherwise provide what they may deem to be adequate access to information or sufficient involvement in the company’s governance.
Management Rights Letters typically grant the investor more access to the company’s financial information and corporate decision-making, and may sometimes grant the power to consult and advise the company’s management team on certain significant business matters. For example, a Management Rights Letter may give the investor the right to examine the minute books and financial records of a company (beyond its statutory rights), have an "investor representative" attend board meetings, and/or otherwise meet with the company’s management team on certain business decisions. This is a way for investors to gain access to more information, and to have more influence on the company in which they have invested than they otherwise would have.
The central question for the management team of a company to consider is how much information and influence it wants to give the requesting investor. The management team will want to consider whether the Management Rights Letter should give the investor the right to access certain information upon request, or whether the letter will require the management team to provide certain information at select intervals during the year (i.e., monthly, quarterly or annually). The management team should also think about what kind of information to which the investor should have access. Some investors only want access to financial information, while others want to be able to observe and consult the company when important business decisions are being made or at regular intervals. The more access to information and decision-making that an investor is granted, the less autonomy and more accountability the management team will have. As a result, it is crucial that the management team find the appropriate balance.
Finally, the management team must consider when the investor’s rights provided in the Management Rights Letter should end. Most Management Rights Letters provide that the investor’s rights terminate immediately if the investor no longer owns a certain percentage of the stock that the investor originally purchased, and otherwise will terminate when the company is sold or goes public. Again, this is an issue where the management team should consider what is most appropriate, considering factors such as that investor’s expertise and the management team’s expected relationship with that investor.
As these letters are so often a part of the larger financing transaction, the management team should consider them in the context of the overall transaction as well as the expected needs of the company. If the appropriate rights are negotiated with the appropriate investors, these letters can be a valuable tool for accessing the expertise of some of the investors to help develop and grow the company more successfully.