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Pay-to-Play Provision
A term requiring existing investors to participate in future rounds or lose preferential rights on their shares.
Formula
Typical pay-to-play mechanics:
- Maintain pro-rata to keep preferred status
- Failure to participate converts preferred to common
- Sometimes includes 'shadow' preferred that converts at exit
Definition
What is Pay-to-Play?
Pay-to-play requires investors to invest their pro-rata share in future rounds to maintain their preferred stock rights. If they don't participate, their preferred converts to common stock.
When It Matters
Pay-to-play often appears in down rounds or when companies need investor commitment. It separates investors who still believe in the company from those who've given up.
Strategic Implications
Pay-to-play can force investor hands, cleaning up your cap table of passive investors. But it can also scare away new investors if existing ones won't participate.
Example
Series A investor owns 1M preferred shares with 20% pro-rata.
Series B is $5M with pay-to-play.
Pro-rata obligation: 20% x $5M = $1M
If investor contributes $1M+: Keeps preferred status.
If investor passes: 1M preferred shares convert to common, losing liquidation preference and other rights.
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