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Should I Pay My Lawyer A Success Fee For Venture Capital Intros?

Q: My lawyer is asking for a "success fee" for a referral to a potential investor in my business. Since he’ll be doing the legal work, he’s offered to charge only 3% on the amount funded (solely from this one contact) as opposed to a 5% that a typical investment banker would charge (even though he’s not an investment banker himself).

As this is the first venture I’m actually raising capital for, I am simply unfamiliar with this practice in the legal world. Is this a common industry-wide practice? Should I be wary of this offer? Although I don’t feel like he is trying to take advantage of me in any way, it does feel a bit like he’s trying to double-dip.

A: (Jason)  Without sounding too unprofessional, I want to vomit.  This is egregious behavior by your lawyer and you should not accept paying ANYTHING to him for introducing you to potential investors.

First of all, it’s part of a lawyer’s job to introduce you to any investor contacts he may have.  If you get funded, he gets paid and gets to bill you throughout the lifetime of your company.  If you don’t think he is already making enough money, see my post on start-up lawyer compensation from my personal blog. 

Second, while investment banks may offer you a deal at 5% (and in my experience this can be negotiated down), individuals who find money for you (normally called "Finders") normally charge in the 1-2% range, so his quote is at least 50% too high.

Lastly, venture capitalists prefer to invest in deals without finders.  We don’t like funding a company that has to pay someone part of the deal proceeds.  We want our money to be used to operate and grow the company.  You will see many VC term sheets that have provisions that specifically call out the absence of finders fees. 

So yes, your lawyer is double dipping.  And that is stating it very nicely. 

July 24th, 2008 by     Categories: Fundraising    
  • http://www.thefeinline.com Michael Feinstein

    I agree. One exception is reasonable travel expenses for Board meetings. Most deals include reimbursement for this for all directors, including VCs. Also, in my experience, most venture funds are required to return any fees paid (beyond reimbursement of out of pocket expenses) to the fund, for the benefit of investors. That is supposed to discourage this type of behavior

    • http://www.jasonmendelson.com Jason Mendelson

      Agree completely.

  • Ken Feldman

    They give you money, take a HUGE piece of your company, and then you have to fork them over a $2K consulting fee? That's just wrong on so many levels

  • Steve

    1) This must be a joke.

    2) I also believe paying travel expenses for a VC Director to attend a meeting is simply wrong. When a VC invests in a START UP they should leave all funds in the company. If VC's have difficulty justifying a legitimate finders fee why should the company pay their expenses? After all, they are getting compensated by their LP's to manage the investment and are compensated very generously.

  • B for Bob

    What about equity comp for board members (over & above T&E)?

  • http://www.twitter.com/sacca Chris Sacca

    I recently encountered a portfolio company of mine that was paying a similar fee to a VC who hadn't yet invested but was actually charging the fee while doing diligence for a mere possible deal. I lost my cool when I heard this and we were able to term the arrangement right away.

  • fool

    If your VC or other funding source has to nickel-and-dime you to make money, then do they really have faith in your business? Do they really know what they're doing?

  • http://wildrumpus.typepad.com Todd Klein

    As mentioned above, no reputable venture capital firm charges any sort of fee for working with portfolio companies. Even when the comp (e.g., for board members) is in the form of options, it is turned back into the fund. Simply put, using the fund's assets for direct personal enrichment of the general partners without regard to the outcome of the investment is completely contrary to what the VC partnership structure is all about, but this is what would happen if VC's are paid irrespective of company performance. Avoid any firm that proposes this at all costs.

  • Stacy

    What VCs do this? Any specific firm names? Could really save a lot of us out here valuable time if we knew.

    - Thanks

    • http://www.jasonmendelson.com Jason Mendelson

      Well I now know of three. I would love to list them but their emails to me already have been a waste of my time and I don't want to encourage more. You should just ask.

      Jason Mendelson
      ————————
      Foundry Group
      - Sent from my iPhone
      Please forgive typos

  • Stacy

    Hi Jason, could you send me the names at

    puggles54@gmail.com

    I'd really appreciate it!

    - Stacy