Day 19: Making sense of The Term Sheet
When it comes to legal matters, it’s impossible to be too thorough. A one line clause on page 4 of a contract can come back to bite you in the derriere, so make sure you protect your startup’s tushy by understanding the types of agreements that you sign, and the possible repercussions.
Arguably, The Term Sheet is one of the most important agreements your company will sign. It is the agreement between you and your investors, it outlines your relationship and describes the rights and responsibilities you will hold to each other.
This week, JS and and James from LaBarge Weinstein talked to the companies on this topic. JS walked the companies through the Real Ventures term sheet, explaining each line, and James discussed a practical approach for startups to take vis a vis the legalities of raising money.
Each VC will have their own term sheet. Each will have terms they’re more flexible with and terms that have no room for negotiation. So you will have to review each agreement carefully, and, it’s highly recommended that you do so with the aid of a lawyer who understands these types of deals. In Canada, most law firms do not focus on “startup law” — LaBarge Weinstein does! and they’re pretty stand up people — so take the time to find a lawyer who is well versed in this specific area.
The term sheet outlines what you and your investor are agreeing to in regards to investment amount in exchange for either convertible notes or equity. Most VCs don’t like convertible notes because these do not align their interests with yours, and so most VCs will prefer equity to establish a true partnership.
When you set your closing date, understand that very rarely will this date be met. Set a date that allows you to close about a month after.
A good part of the term sheet will focus on what type of shares you’re granting to the investor and the terms. The type of shares will determine how the investor would get his or her money back. By the way, you’ll be better off having a clause with no dividend and agreeing on a price that is fair for both parties. This may mean a lower valuation for your company, but it is better to keep the terms simple.
Among other things, the term sheet establishes when the investor can be bought back, known as redemption, it gives the investor protective provisions, such as a veto and the right to approve all major decisions made by the company, the right to buy more shares in the future to maintain the same percentage of the company, and it sets the option pool of shares that most be reserved for future employees of the company.
This is just a gist of what the term sheet includes — the best thing you can do, after hiring a good lawyer, is to familiarize yourself with the various points of the term sheet and reflect on which ones your company is flexible with and which ones you feel strongly about.