Navigating Term Sheets

A term sheet is a non-binding agreement that outlines the major terms and conditions of an investment. It's a critical document that sets the stage for a successful partnership with your investors. This guide will help you understand the key components.

1. Valuation

The pre-money valuation is the value of your company before the investment. The post-money valuation is the pre-money valuation plus the investment amount. This determines how much equity the investors will receive for their capital.

2. Liquidation Preference

This clause defines who gets paid first in a liquidation event, such as an acquisition. A 1x non-participating preference is standard. Be wary of participating preferences or multiples greater than 1x, as they can be unfavorable to founders.

3. Vesting

Founder shares should be subject to a vesting schedule, typically over four years with a one-year cliff. This protects the company and its investors if a founder leaves prematurely. It aligns incentives and ensures long-term commitment.

4. Board of Directors

The term sheet will specify the composition of the board of directors. A typical early-stage board consists of two founders and one investor representative. Maintaining a founder-friendly board is crucial for long-term control.