Confidentiality provisions – protecting sensitive information while building trust

In the competitive world of venture capital, confidentiality provisions play a critical role in protecting sensitive information disclosed during investment negotiations. These provisions ensure that proprietary data, trade secrets, and strategic plans shared by the founders remain secure while fostering an environment of trust between the parties.

For founders, confidentiality provisions protect their business from the risk of misuse or exposure of valuable information. For investors, these clauses provide assurance that their involvement in the transaction will not be disclosed prematurely, which could affect their reputation or other dealings.

This article in our ‘Anatomy of a term sheet’ series explores how confidentiality provisions are structured in venture capital term sheets, their practical implications, and how founders and investors can align their interests to strike the right balance between protection and collaboration.

What are confidentiality provisions?

Confidentiality provisions are contractual obligations that restrict parties from disclosing or using sensitive information shared during the investment process. These provisions are designed to protect the interests of both founders and investors, ensuring that information exchanged during due diligence and negotiations remains secure.

Key features of confidentiality provisions

Scope of information covered

• Confidentiality clauses typically define what constitutes "confidential information." this can include:
  
  • Business plans and financial projections.
  • Intellectual property, trade secrets, and proprietary technology.
  • Details of the company’s operations, customer base, and supplier relationships.
  • Terms of the investment itself, including valuation and deal structure.

Permitted use of information

• Confidentiality provisions often limit the use of information to specific purposes, such as evaluating the investment opportunity.
• Investors are prohibited from using confidential information for any other purpose, including investments in competing businesses.

Exclusions from confidentiality

• Certain types of information are typically excluded from the confidentiality obligations, including:
  
  • Information that is already public or becomes public through no fault of the receiving party.
  • Information independently developed or obtained by the receiving party.
  • Information disclosed pursuant to legal or regulatory requirements.

Duration of obligations

• Confidentiality obligations are generally time-limited, lasting between 1 and 3 years after the conclusion of the transaction or termination of discussions.

Disclosure by investors

• Provisions often allow investors to share information with limited partners, advisors, or professional service providers, provided these parties are also bound by confidentiality obligations.

Why confidentiality provisions matter

For founders

• Protecting trade secrets: ensures that sensitive information, such as intellectual property or financial data, is not misused or disclosed to competitors.
• Maintaining negotiation leverage: prevents investors from prematurely disclosing deal terms, which could impact negotiations with other parties.
• Preserving trust: establishes a foundation of trust between the company and its potential investors.

For investors

• Reputation management: protects the investor’s reputation by ensuring their involvement in sensitive negotiations is not disclosed without consent.
• Regulatory compliance: ensures confidentiality when dealing with information that may be subject to data protection laws or regulatory requirements.
• Avoiding conflicts: prevents misuse of information that could create conflicts with other portfolio companies or future investments.

Structuring confidentiality provisions

Tailoring the scope

• Founders should ensure the clause is broad enough to protect all relevant information, while investors may seek clarity to avoid overbroad or vague definitions that could hinder legitimate activities.

Balancing obligations

• Confidentiality provisions should not impose unreasonable burdens. For example, investors should not be restricted from discussing the deal with their limited partners or advisors.

Clarity on exclusions

• Both parties benefit from clear exclusions to avoid disputes over whether certain information qualifies as confidential.

Enforcement mechanisms

• Include remedies for breaches, such as injunctive relief or indemnities, to deter unauthorised disclosure and provide recourse if it occurs.

Challenges in implementing confidentiality provisions

Balancing disclosure and protection

Founders may be hesitant to share sensitive information without robust confidentiality safeguards, while investors may require comprehensive data to evaluate the deal.

Complex investor networks

Institutional investors often involve multiple stakeholders (e.g., limited partners, advisors), complicating the enforcement of confidentiality obligations.

Cross-border transactions

When deals involve international parties, differing legal standards for confidentiality may create ambiguities or enforcement challenges.

Duration of obligations

Setting an appropriate time limit for confidentiality is critical to balance protection with practicality.

Analysis: founders’ perspective vs investors’ perspective

In summary

Confidentiality provisions are a vital element of venture capital term sheets, ensuring that sensitive information is protected while enabling open and productive negotiations. By crafting balanced and clear confidentiality clauses, founders and investors can build trust, safeguard their interests, and set the stage for a successful partnership.

If you're navigating the complexities of venture capital term sheets or preparing your business for investment, our experienced team is here to help. Get in touch to discuss how we can support you in securing the right deal for your business.