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June 11, 2012 | 5-minute read (960 words)
So you think you’ve found an investor who’s committed to backing your company? Good for you. But before breaking out the bubbly, you need to make sure that you’ve got all the pieces in place to make this deal go through—in a way that benefits and protects you, as well as your potential investor.
The key to turning this potential deal into a done deal is the venture capital term sheet. As you know, a venture capital term sheet is the short, readable document that is negotiated prior to the actual contract, laying out the important terms of your deal. The term sheet itself is not necessarily legally binding, but it does offer some protection for you and your investor. And, if done well, it will lay the groundwork for the final legal terms of your agreement.
Before executing a term sheet, you need to do your due diligence on your potential investor. You’re looking for confirmation that they have a solid reputation and no history of turning tail and running from deals.
Once you know that you’re dealing with a trustworthy investor, you’re ready to check out the proposed term sheet. For your best leverage, you should try to limit the number of conditions spelled out in the term sheet. You also want to see the terms narrowly drafted.
In general, you’re looking for a term sheet that covers the following:
But while there are a number of major term sheet deal elements that bear consideration, there are 7 key items that you need to pay particular attention to:
This term also gives investors the option to participate pro-rata in an exit with other shareholders. At exit, investors can choose to use the liquidation preference or just participate as shareholders. Interest accrual may be included in this preference.
Getting your first potential investor is exciting, but it can also be stressful. It’s easy to feel like the investor has all the power during this period. But, you have power too—and a great opportunity. Take this time to negotiate the terms and do your best to knock out unusual conditions. Before executing the term sheet, this is your chance to button-down key issues and position yourself as advantageously as possible for your forthcoming investment.
Early Growth is the largest national provider of outsourced CFO & accounting services in the venture capital space. For over 10 years, Early Growth has been providing finance & accounting, tax, equity management, and fund accounting services to startups at all stages. Early Growth is a strategic partner handling your finances so you can focus on your business, customers, and team.
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