You have presented an impressive pitch, and investors present you with a term sheet. A term sheet may overwhelm a startup to take in with all the details it includes. The make or break moment is right there when you consent to the terms of the sheet.
But it doesn’t have to be necessarily daunting for startups to understand a term sheet. The key is understanding the fine print before agreeing. We get into the fine print of a term sheet and determine how to set the terms of an investment agreement. We believe the capital-seeking journey shouldn’t be as complex for a startup.
What Is a Term Sheet?
A term sheet is a precursor document that serves as a template to a final legally binding contract in an investment deal. Term sheets detail the financial conditions of the investment deal. Depending on the funding round, the sheets can vary from a single page to a multipage document.
Note: Term sheets are non-binding. You will need to finalize the deal and sign a contract to commence your investment relationship officially.
What Is a Term Sheet Template?
A term sheet template is a predesigned term sheet containing the essential clauses and conditions for the investment deal. Essentially a template saves you the hassle of designing one from scratch. You customize the template with all the details that best describe your agreement.
Term Sheet Templates & Examples
Why Use a Term Sheet?
Drafting a term sheet is the initial step to making a long-term agreement. Many investors use term sheets to gauge the valuation of the company they are investing in and the summary of the leading financial aspects of the deal.
Term sheets prevent splurging on legal fees for a non-binding contract. Both parties will air their interests in the term sheet in the drafting process. They can chart a plan that benefits both the investor and the startup. Term sheets document the terms that the concerned parties will agree to if they sign a legal contract.
Essential Elements of a Term Sheet
Term sheets contain different contents depending on the underlying transaction and the intent. From startup founders to experienced investors, what to include in a term sheet may be conflicting. Sometimes investors focus on the valuation but neglect essential aspects that affect the overall finance of the investment deal. Here are the essentials of any well-written term sheet:
- Details of the parties issuing and receiving the note.
- Options pools detailing future share options for investors and employees.
- Participation rights
- Conversion options
- Time frame to accept the agreement
- Liquidation preference
- Protective provisions
- Non-compete and confidentiality clause
- Board seat allocation
- Anti-dilution provisions
It is prudent to consult an attorney for clauses such as non-compete that make the agreement binding. It is best to negotiate all the terms in the term sheet to prevent rescinding or renegotiating in the future.
Tip: Don’t include a non-compete clause if you tend to court other investors. Non-compete clauses are legally binding.
The Terms Sheet in M&A
Merger and Acquisitions transactions use term sheets to determine valuation and the closing details of an agreement. However, the term sheet is still non-binding. Both parties sign the term sheet consenting to the terms that regulate the deal.
The deal only becomes binding once both parties draft a definitive agreement. Terms sheets in M&A are the framework of a potentially long-term merger.
LOI vs. Term Sheet
Letter of intent and a term sheet serve the same precursor negotiation purpose but are distinguishable. A letter of intent expresses serious intent to enter into a contract and is in letter format. The letter details all the aspects of a term sheet but goes into more detail. In contrast, a term sheet is non-binding and is subject to renegotiation.
Term sheets serve as the basis for drafting more complex and binding agreements. When viewing a term sheet, you can negotiate terms to suit both parties that are otherwise not possible during the final contract.
Investors generally give the term sheet. However, it depends on the funding round. Seeding rounds usually don’t require a term sheet.
Yes, signing adds an extra layer of commitment to guarantee serious intent to close the investment deal.
There are a couple of clauses to consider. Ideally, you would want to scrutinize the valuation, option pools, pro-rata rights, liquidation, participation rights, convertible notes, and shares options.
Term sheets can be legally binding if they include a confidentiality and exclusivity clause. Breaching such an agreement will result in the other party pursuing legal action.
No. A commitment letter is a commitment to enter into a contract, while a term sheet is an expression to enter into a contract potentially.
A term sheet is not legally binding. A contract is legally binding, and each party must hold their end of the deal.
Finalizing the deal is the final step after agreeing to a term sheet. After doing your due diligence, you can enter into a contract with your investors.
Consider the crucial points such as valuation and dilution when negotiating with a Venture Capitalist. Also, watch out for red flags such as hasty deal closing.
A term sheet in real estate is a formal expression of a lender to fund the borrower to purchase a piece of real estate.
A term sheet in private equity is a precursor to the final contract in an investment deal for a form not registered under any securities exchange platform.
Term sheets usually have an exclusivity clause to prevent approaching other investors during the 30 days. However, there are longer-term sheets up to 60 days.
Startups always have the prospect of making it big in the market. To safeguard the investors’ and the founder’s rights, use a term sheet to negotiate the terms before finalizing the deal. It is prudent to consult an attorney for clauses you don’t understand in the fine print.