An investment term sheet is a document outlining the terms and conditions of an investment. It serves as a preliminary agreement or a roadmap for the parties involved in an investment transaction, typically between an investor (such as a venture capitalist or angel investor) and a company seeking funding.
“Think of a term sheet as your investment blueprint, outlining key terms agreed upon in principle by parties. Although the term sheet itself is not generally legally binding, it can include certain legally binding provisions, like confidentiality or exclusivity", - Evelina Anttila, Wellstreet MP
Key components of an investment term sheet may include:
- Valuation: The company's agreed-upon value determines the percentage of ownership the investor will receive in exchange for their investment.
- Investment Amount: The total amount of money the investor is committing to invest in the company.
- Investment Structure: Details on how the investment will be structured, such as whether it's through equity, convertible notes, or another financial instrument.
- Use of Funds: A description of how the company will use the invested funds, which helps clarify the purpose and intended impact of the investment.
- Liquidation Preference: Specifies how proceeds will be distributed in the event of a sale or liquidation of the company, outlining the order in which investors and other stakeholders receive their share.
- Board Seats and Control: Specifies whether the investor will have the right to appoint members to the company's board of directors and outlines any control provisions.
- Dividends: If applicable, it outlines whether the investor is entitled to receive dividends and under what conditions.
- Anti-Dilution Protection: Protects the investor from a possible dilution of their ownership stake in subsequent funding rounds.
- Conversion Terms: If the investment is made through convertible securities, the term sheet will detail the conversion terms into equity.
- Warranties and Covenants: Outlines any promises or guarantees made by the company to the investor and any conditions the company must adhere to.
It's important to note that while a term sheet is a significant step in the investment process, it is not a legally binding document on its own. It is typically followed by more detailed legal documents, such as a definitive agreement or a stock purchase agreement, which will contain the legally binding terms of the investment. The term sheet acts as a guide for negotiating these subsequent agreements.
It’s important to highlight that investors should provide logical reasons for their terms to the companies agreeing. Term sheets that are heavily partial to guaranteeing the investor benefit or protection are commonly referred to as “dirty terms”. Our Managing Partner, Evelina Anttila, wrote a quite thorough article about the issue and things to consider when signing a term sheet.
