Side letters and MFN clauses: the deal that isn't uniform

The offering presents itself as uniform: every investor buys the same security on the same terms. Side letters are how that stops being true. A side letter is a separate agreement between the sponsor and a single investor, usually a large or early one, granting that investor terms the others do not get: a fee break, better economics, enhanced information rights, a co-investment option, priority in the next deal. Side letters are common, often legitimate, and quietly consequential, because they mean the deal an investor thinks is uniform is actually a base deal plus a set of private exceptions they cannot see.

The subscription agreement says everyone is equal. The side letters are where some investors are more equal, and the MFN clause decides who gets to know.

Why side letters exist and where they bite

A sponsor grants a side letter to land an investor worth accommodating: an anchor investor whose commitment makes the raise, an institution with standard requirements, a relationship worth preferential treatment. From the sponsor’s side this is ordinary deal-making. The problem is that side letters create exactly the kind of undisclosed inequality that can become a conflict or a fairness claim, especially when a side letter gives one investor better economics that dilute the returns of the others, or information rights that let one investor see trouble coming while the rest sit blind. As the conflicts material notes, preferential treatment that is undisclosed and material is the shape of a problem, not merely a courtesy.

The most-favored-nation clause

The most-favored-nation clause is the mechanism that governs this inequality, and it is worth understanding from both chairs. An MFN clause gives an investor the right to be offered the same favorable terms the sponsor grants to others, sometimes automatically, more often by election after being shown the other side letters. In effect, it is a promise that this investor will not be left behind: if someone else gets a better deal, the MFN holder can take it too.

The catch, and the thing an investor should look for, is the scope and mechanics. A strong MFN, one that covers all terms, requires disclosure of every side letter, and lets the investor elect any better term, genuinely protects against being disadvantaged. A weak or narrow MFN, one that excludes economic terms, carves out the largest investors’ letters, or never actually requires the sponsor to disclose what others received, is a promise of equality that does not deliver it. An investor with a narrow MFN can still be quietly subordinated to better-lettered investors and never know.

The structuring consequence

For the sponsor, side letters are a legitimate tool that has to be managed honestly, because a web of undisclosed preferential terms is a conflict and a fairness claim waiting to surface, and the MFN promises made to some investors have to be reconciled with the letters granted to others, or the sponsor is in breach of its own clauses. For the investor, two questions matter before wiring: whether the deal permits side letters at all, and if so, what the MFN provision actually guarantees, because in a deal with side letters, the terms in the subscription agreement are the floor, not the whole story, and the MFN is the only thing standing between an investor and being the one who got the base deal while others got better. The uniform offering is a starting point. The side letters are where it stops being uniform, and the MFN is where an investor either keeps up or gets left.