# Question 20: The Hot ARR Deck

## Your role

You are counsel to Northgate Metrics, a private software company, called by its CEO twelve days before the scheduled signing of a $40 million Series B financing at a $220 million pre-money valuation. A problem has surfaced in the fundraising deck. Advise the company and its board.

## Governing law

1. In connection with the purchase or sale of a security, it is unlawful to make an untrue statement of a material fact or to omit a material fact necessary to make statements made not misleading. Liability requires scienter, which includes recklessness. This applies to private placements.

2. A fact is material if there is a substantial likelihood a reasonable investor would consider it important, viewed against the total mix of information.

3. Projections and other forward-looking statements accompanied by meaningful, specific cautionary language are protected. The protection does not extend to misstatements of present or historical fact, and boilerplate cautions are not meaningful.

4. A purchaser induced by material misstatement may pursue damages or rescission. Correction of a misstatement before an investor becomes irrevocably committed can cut off reliance for that investor.

5. A person who sells securities while in possession of material nonpublic information about the issuer, to a buyer without that information, violates the antifraud rules. This includes founder secondary sales in a private financing.

6. Directors owe a duty of candor to the shareholders and good-faith oversight of the company's disclosures. Approving a financing known to rest on misleading materials implicates loyalty, not merely care.

7. Indemnification and directors-and-officers insurance do not cover liability finally adjudicated to arise from fraud.

## Facts

Northgate's Series B deck, used with every prospective investor, states:

> "ARR: $14.2M. Net revenue retention: 138%."

Diligence preparation this week surfaced the composition of that figure. It includes $2.6 million of one-time implementation-services fees and a $1.1 million contract that is signed but not yet live, terminable by the customer on 60 days' notice before go-live. Recurring subscription revenue on the standard definition is approximately $10.5 million. The 138% retention figure was computed on a customer cohort that excludes the two largest accounts lost during the year; including them, retention is 111%.

The CFO, asked about the definition months ago, wrote in an email now in the diligence folder:

> "Everyone counts pipeline-adjacent. Keep the number. We can true it up after the round."

The deck's final slide contains a general disclaimer that projections "involve risks and uncertainties."

The round's anchor investor wired an $8 million first tranche two weeks ago under a signed subscription agreement, based on the deck. The remaining $32 million is committed by term sheet but unsigned, with signing in twelve days. As part of the round, the founder is selling $4 million of her own shares to the incoming investors.

Yesterday, Northgate's second-largest customer, 9 percent of subscription revenue, delivered a non-renewal notice effective at term end in four months. No investor knows this.

The CEO proposes: "Sign on schedule. The business is real. We fix the metrics deck for the Series C." The board meets in two days.

## Assignment

Analyze:

* Whether the ARR and retention figures are misstatements of present fact or protected projections, applying the supplied rules to each number and to the disclaimer.
* Materiality: quantify the gaps and assess them against the total-mix standard, including the non-renewal notice.
* Scienter: the effect of the CFO's email, and who is exposed, company, CFO, CEO, directors.
* The anchor investor's wired $8 million: the company's options, what correction can and cannot cure for that investor, and whether rescission should be offered.
* The unsigned $32 million: what correction before signing accomplishes under the supplied reliance rule, and what the corrected disclosure must contain, including the customer non-renewal.
* The founder's $4 million secondary in light of the nonpublic non-renewal notice: may it proceed, on what conditions, or must it be pulled.
* The board's position under the candor and oversight rules if it follows the CEO's proposal, and the exculpation and insurance consequences of proceeding knowingly.
* The repricing conversation: how to present corrected metrics, the likely valuation impact, and whether delay, reprice, or restructure best protects the company.
* A concrete 48-hour plan for counsel: the corrective disclosure, the anchor remediation, the secondary decision, and the board resolutions, in order.