Despite the high credit cost environment, venture capital fundraising in Brazil — whether through financial investors (funds) or strategic investors (corporate ventures) — remains one of the primary sources of liquidity for startups.
In 2024, venture capital investments in Brazil reached BRL 9 billion, representing a 17% increase compared to the previous year, although concentrated in 46% fewer rounds during the same period, according to data from ABVCAP and TTR.
When negotiating the entry of investors into their capital structure — whether through minority or majority stakes — founders must carefully assess a variety of financial and legal aspects, including earn-out provisions, anti-dilution protections, and non-compete clauses, as outlined below:
1. Earn-Out Clause: Venture capital transactions may involve (i) cash-in (capital injection through a capital increase), (ii) cash-out (payment to founders upon the transaction closing), and/or (iii) earn-out (an additional payment to the sellers contingent upon the satisfaction of specific performance targets).
The earn-out clause provides that a portion of the amounts payable to the selling shareholders will be contingent upon the startup reaching future targets, such as revenue, profitability, or other key performance indicators. This mechanism is designed to align the interests of the sellers and investors, fostering the former’s continued commitment to the company’s success.
To minimize disputes, sellers should (i) negotiate achievable (albeit ambitious) performance targets, (ii) ensure they maintain the necessary resources to meet such targets, including budget, personnel, and operational authority, and (iii) establish clear and objective evaluation criteria and deadlines.
2. Anti-Dilution Protection Clause: In venture capital transactions, it is common for new funding rounds to dilute the ownership percentage of existing shareholders.
To mitigate this risk, founders should seek to negotiate anti-dilution provisions, either through decreasing protection percentages over time, or via non-dilution agreements lasting until a specific funding round or timeframe, thus securing the right to maintain their proportional ownership either by making an additional capital contribution or through adjustments to the number of shares held.
3. Non-Compete Clause: The non-compete clause aims to prevent sellers, both during their continued involvement in the startup’s cap table and after their exit, from leveraging their expertise, know-how, and network to directly compete with the startup.
It is crucial that founders carefully negotiate this provision, including, without limitation, the definition of competing activities, the geographic scope of the non-compete restriction, the duration of the restriction, penalties for breach, and the evidentiary standards for proving competitive behavior.
In cases of long non-compete periods or broad definitions of competing activities, it is advisable to provide for a financial compensation to the sellers during the term of the non-compete restriction, as consideration for the limitations imposed.
The entry of venture capital investors into a startup’s equity represents a significant opportunity for growth and professionalization for both the company and its founders. In both minority and control sales, sellers must be particularly vigilant regarding the terms and conditions of the investment and subsequent funding rounds, especially with respect to key provisions such as earn-out, anti-dilution, and non-compete obligations.
