Opinion Letters . . .

are statements of legal counsel in correspondence form provided at the request of a party to a transaction. They contain counsel’s opinion as to the manner in which the law applies to various aspects of the transaction being closed.

Venture capitalists usually require an opinion letter from the company’s lawyer as a condition to funding. Commonly, these letters opine that:

• the company is duly incorporated and qualified to conduct its business,

• the number and character of company shares outstanding are as represented in the financing documents,

• the company has the authority to enter into and perform its obligations under the financing agreements,

• the financing agreements are valid, binding and enforceable against the company, and

• the company has no other agreements that conflict with them.

Many of these letters also opine as to the accuracy of certain other representations the company and management make in the financing agreements. Nonetheless, venture capitalists usually require the opinion of independent counsel as to these and other matters to provide an independent check of the representations of the company and management.

Some company counsel will ask venture capitalists for a legal opinion to provide the company with similar protection. Most venture capitalists, however, object to giving the company their counsel’s opinion. When they do, it is usually on the grounds that the opinion is expensive and unnecessary.

Opinion letters can be expensive, particularly if they involve difficult issues or require extensive due diligence by a lawyer, but they are no more expensive for an investor than they are for a company. They may, however, be more important to the venture capitalist. For one thing, he puts up cash and receives in return only promises and an opportunity to participate in a company’s success. As a result, he has good reason to be concerned about the details that insure him the company’s promises are enforceable.

By contrast, the company usually has more than the venture capitalist’s promise in hand when the financing agreements are signed. It also has the venture capitalist’s cash or, at least, a portion of the cash that has been promised.

This is not to say, however, that management should always forgo the opinion of investor’s counsel. Depending upon the way in which the financing is structured, an opinion of investor’s counsel on certain matters may be the best or only way management can protect itself from risk or liability. Management’s counsel can usually be the best judge of whether an opinion of investor’s counsel is needed. See: Financing Agreements, Reps and Warranties, Structure, Vesting Schedules.