Skip to main content

All you need to know about your Investor Term Sheet

 Investment plays a critical role in backing up as well as making a business stand firmly in the initial stage and pitching your new business or start-up is the most critical exercise you will ever perform, if you wish to secure funding for your business. Amidst the big hullabaloo of pitching your start-up or new business to investors for months, you will finally secure: A Term Sheet (hopefully more than one) from an investor interested in funding you. This guide will try to explain you what exactly is a Term sheet and its implications on your business.

 

What is a Term Sheet?

A Term Sheet is perhaps one of the most important documents a founder will ever encounter. It outlines the “Terms and conditions” for an investment. These terms will define things like the agreed upon valuation of the company, price per share for the investment, the economic rights of the new shares and so forth. In addition to these a term sheet may specify some of the options, rights and responsibilities of each party.

Generally, a term sheet itself is not binding. It acts as a blue print for the formal legal documents that will be drafted by a lawyer. However, you do agree to confidentiality to not to enter into negotiations with any other investors at the same time.

 

What are the important clauses in a Term Sheet?

A Term Sheet can take many forms, from a single page or up to 7 or 8. And if you are first time entrepreneur, you may come across very confusing terms and conditions. A typical Term Sheet contains following important clauses: -

 

Valuation - 


This is the single most important term in a Term Sheet. The company’s Valuation along with amount of money invested determines the percentage of the company the new investors will own. This has direct Impact on who owns what and how much cash each shareholder shall receive when the company sells.


The valuation of the company is based on pre-money and post-money valuation. A pre-money valuation stipulates the company’s valuation before the investment and post-money valuation is simply pre-money valuation plus new investment.


There is lot of ambiguity regarding valuation. Sometimes a poor valuation can ruin the deal even if other terms were in your favour. But this is not necessarily true, because a great valuation may not guarantee success, if there are unfavourable terms on the term sheet.

 

Option Pool - 


A Term sheet may stipulate the creation of reserve of stock for existing and future employees. Option pool is used as the way of compensating services to the company through stocks.


Many founders calculate the option pool stock after post-money and force the investors to share in the dilution. But the standard for most term sheet should be to calculate it pre-money.

 

Types of Stocks - 


There are usually two types of stocks that are negotiated in the term sheet. Common stock and preferred stock. Common stocks are held by founders and preferred stocks are given to the investors. Preferred stocks come with rights, preferences and privileges, owing to the financial interest that holder this stock has in company.

 

Liquidation Preference - 


Liquidation preference clause is added for the protection of the investors. Investor would want your business to succeed so that their stake in the company is worth more than they invested. But what if your company is not performing well? A liquidation preference gives them some security of not losing all money. It determines the amount of money returned to investors against the original purchase price at the time of the liquidation of the company.

 

The Term Sheet defines what exactly constitutes a liquidation event. Perhaps it is mergers or acquisition or selling off your company’s assets. It does not mean winding-up or closing down of the company.

 

Participation Rights - 


Participation stipulates who gets a share of the remaining proceeds in liquidation event. The participating right offers following benefits to the preferred stock holders:


Full Participation - This means that a preferred stock holder gets not only their share of preference but also on the left over proceeds alongside the common stockholders.


Capped Participation - The preferred stock holders gets share of the leftovers up to a certain limit.

Non Participation - The preferred stock holders get no shares further share in the leftover proceeds, after the preference is paid.

 

Dividends - 


Dividends, expressed as percentage provide monetary amount to the shareholders by the company. All term sheet includes a dividend clause which lays down the dividends to be paid by the company.

 

Anti-Dilution - 


Anti-dilution is one of the most important clause of a term sheet. It protects investors from getting totally diluted in the event of a ‘down round’ i.e. when numbers of shares alter or lowers the price of the share.  


Pre-emptive rights - 


Pre-emptive rights are given to existing investors to give them preference to participate in the future round of the funding. This ensures that investors maintain the right to maintain their ownership by buying the proportionate numbers of shares of any future issue of the shares.

 

Board of control - 


This clause stipulates that a good mix of investors and promoters will form the part of the Board team. A third party may also be included to give an unbiased and fair decision. A Board observer may also be included at the insistence of the investors.

 

Vesting period of founders - 


Vesting means an ownership on the shares of the company. This clause is generally included to protect the investors in the event where founders exit. This ensures that founders do not invest too much, too soon. The average vesting period is of four years with one-year cliff period.


Labels:

Comments

Post a Comment

Popular posts from this blog

Section 58B of The Advocates Act - Special provision relating to certain disciplinary proceedings

 Section 58B The Advocates Act Description (1) As from the 1st day of September, 1963, every proceeding in respect of any disciplinary matter in relation to an existing advocate of a High Court shall, save as provided in the first proviso to sub-section (2), be disposed of by the State Bar Council in relation to that High Court, as if the existing advocate had been enrolled as an advocate on its roll. (2) If immediately before the said date, there is any proceeding in respect of any disciplinary matter in relation to an existing advocate pending before any High Court under the Indian Bar Councils Act, 1926 (38 of 1926), such proceeding shall stand transferred to the State Bar Council in relation to that High Court, as if it were a proceeding pending before the corresponding Bar Council under clause (c) of sub-section (1) of section 56: Provided that where in respect of any such proceeding the High Court has received the finding of a Tribunal constituted under section 11 of the Indian B
Post a Comment
Read more

Case Laws related to Defamation in favour of ClaimantCase Laws related to Defamation in favour of Claimant. TOLLEY Vs, J.S FRY & SONS LTD – (1931) Facts The defendants were owners of chocolate manufacturing company. They advertised their products with a caricature of the claimant, who was a prominent amateur golfer, showing him with the defendants’ chocolate in his pocket while playing golf. The advertisement compared the excellence of the chocolate to the excellence of the claimant’s drive. The claimant did not consent to or knew about the advertisement. Issue The claimant alleged that the advertisement suggested that he agreed to his portrait being used for commercial purposes and for financial gain. He further claimed that the use of his image made him look like someone who prostituted his reputation for advertising purposes and was thus unworthy of his status. At trial, several golfers gave evidence to the effect that if an amateur sold himself for advertisement, he no longer maintained his amateur status and might be asked to resign from his respective club. Furthermore, there was evidence that the possible adverse effects of the caricature on the claimant’s reputation were brought to the defendants’ attention. The trial judge found that the caricature could have a defamatory meaning. The jury then found in favor of the claimant. Held The House of Lords held that in the circumstances of this case – as explained by the facts – the caricature was capable of constituting defamation. In other words, the publication could have the meaning alleged by the claimant. The Lords also ordered a new trial limited to the assessment of damages. NEWSTEAD V LANDON EXPRESS NEWSPAPER LTD, (1939) Facts: A newspaper published a defamatory article about Harold Newstead. However, another person with this name brought an action in libel. He claimed that the article had been misunderstood as leading to him. The defendant newspaper recognised that they published the article. Also, they denied that they had the intention of being defamatory of him. Consequently, the claimant argued that the newspaper was under a duty. The duty was to give a clear and complete description of the correct person. Moreover, the claimant argued that the defendants were in breach of the duty. Issues: The issue in Newstead v London Express Newspaper, was if the reasonable persons would have understood the words complained of to refer to the plaintiff. Held: The Court of Appeal stated that in accordance with the current law on libel, liability for libel does not depend on the intention of the defamer; but on the fact of the defamation. Accordingly, a reasonable man, in this case a newspaper publisher, must be aware of the possibility of individuals with the same name and must assume that the words published will be read by a reasonable man with reasonable care.

  Case Laws related to Defamation in favour of Claimant.  TOLLEY  Vs,  J.S FRY & SONS LTD – (1931) Facts The defendants were owners of chocolate manufacturing company. They advertised their products with a caricature of the claimant, who was a prominent amateur golfer, showing him with the defendants’ chocolate in his pocket while playing golf. The advertisement compared the excellence of the chocolate to the excellence of the claimant’s drive. The claimant did not consent to or knew about the advertisement.   Issue The claimant alleged that the advertisement suggested that he agreed to his portrait being used for commercial purposes and for financial gain. He further claimed that the use of his image made him look like someone who prostituted his reputation for advertising purposes and was thus unworthy of his status. At trial, several golfers gave evidence to the effect that if an amateur sold himself for advertisement, he no longer maintained his amateur status and might be aske
1 comment
Read more

Rules as to delivery of goods

                             Rules as to delivery of goods Section 2(2) of Sale of Goods Act defines ‘delivery’ as a ‘voluntary transfer of possession from one person to another.’ Thus, if the transfer of goods is not voluntary and is taken by theft, by fraud, or by force, then there is no ‘delivery. Moreover, the ‘delivery’ should have the effect of putting the goods in possession of the buyer. The essence of the delivery is a voluntary transfer of possession of goods from one person to another. There is no delivery of goods where they are obtained at pistol point or theft. 1. Mode of Delivery: According to Section 33, delivery of goods sold may be made by doing anything which the parties agree shall be treated as delivery or which has the effect of putting the goods in the possession of the buyer or of any person authorized to hold them on his behalf. Delivery of goods may be actual, symbolic or constructive. 2. Expenses of Delivery: According to Section 36(5), unless otherwise agree
Post a Comment
Read more