A little about Term-Sheets

Here’s a little something that I learned about term sheets over the past few days

Pre-emptive Investment Rights: An investor would like to reserve the right to invest in future fund-raising rounds. This ensures that their share in the pie does not reduce. If earlier investors continue to invest in the venture, it is a good sign.

Super Pro-Rata Rights: An investor would like to hold more equity in later fund-raising rounds. This implies that the investor would not like to place a higher bet right now, but wants to get special rights in holding more equity later at a lower investment. This is probably not a good sign because this places limitations on how much equity founders will hold and on the size of the ESOPs pool.

Founder Vesting: There is generally a cliff and a vesting period associated with the equity held by the founder. From the time of the investment, one year could be the cliff period wherein the founder does not hold any equity. Post one year of the cliff, the founder starts vesting pro-rated equity each month or each year. In case of liquidity (either via IPO or sale to another company), the entire equity is vested immediately and paid.

In case the founder leaves due to bad cause (such as misconduct, negligence, misrepresentation, or charge-sheet), he may not get paid for his equity holding.

Liquidation Preferences: At the time of liquidation of the startup, each investor will get paid based on the multiplier of the liquidation preference. Let’s say the business is sold for Rs 10M, and the investor had invested Rs 1M, he first gets paid Rs 1M. A double-dip liquidation preference would pay out the investor Rs 1M plus (percentage holding from remaining Rs 9M).

There’s more to term sheets like seniority in liquidation preferences, tag-along rights, ESOPs, etc.

There’s always so much to learn.