What is Pari Passu?

You are reading through a term sheet or a shareholder agreement and you stumble across Latin. This is common in law and finance. One of the most critical phrases you will encounter is pari passu. It translates literally to “on equal footing” or “side by side.”

In the context of a startup, this term specifically relates to liquidation preferences. It defines how different groups of investors get paid when a liquidity event occurs. This could be the sale of your company or a winding down of operations. Understanding this term is vital because it determines who gets paid first and how much they receive if things do not go exactly according to plan.

When you raise venture capital, you usually issue different classes of preferred stock. You might have Series A, Series B, and Series C shares. In a standard structure, these shares often have a hierarchy. The latest money in usually wants to be the first money out.

Pari passu changes that dynamic. It places different series of stock on the same level of seniority.

If your investors have pari passu liquidation preferences, they are treated as a single class for payout purposes. When the company is sold, the proceeds are distributed among these investors simultaneously based on the size of their claim.

Here is how it generally plays out:

• All preferred shareholders stand in the same line.
• Payouts are calculated based on the total liquidation preference of each series.
• If there is enough money, everyone gets their full preference.
• If there is not enough money, everyone shares the loss pro rata.

The best way to understand the impact of pari passu is to compare it to the alternative. The alternative is known as stacked or tiered preferences.

In a stacked scenario, the preferences follow a “last in, first out” order. The Series B investors get their money back before the Series A investors get a single dollar. If the company sells for a low amount, the Series B investors might take everything. The Series A investors would be wiped out entirely.

Under a pari passu clause, the pain is shared. If the company sells for a low amount, the Series A and Series B investors split the available cash. The split is proportional to the amount of money they invested or the preference they hold.

This structure is generally more favorable to early investors. It prevents them from being buried under the weight of later capital.

You need to think about this term when you are negotiating with new investors. It is not just a legal detail. It is a decision about how risk is distributed across your cap table.

This usually comes up in specific scenarios:

• Downside protection: In a fire sale, this ensures early backers get something back.
• Complex cap tables: When you have many rounds of funding, stacking preferences can make the math incredibly difficult and the outcomes harsh for early partners.
• Investor relations: Offering pari passu can signal that you value your early partners as much as your new ones.

Does your next investor demand seniority over your previous ones? If so, you have to ask if your previous investors will agree to subordinating their position.

These are the trade offs you must weigh. There is no perfect answer. There is only the structure that allows you to close the round and keep building.