3 Term Sheet Clauses You Need to Watch Out For
A term sheet is a generally non-binding agreement that shows the basic terms and conditions of an investment. It is usually listed bullet-point style, and used as a basis for the contract once the deal is agreed upon.
Term sheets are mostly important for startups and new Pakistani businesses. This is because new business owners tend to find this document is a great way of attracting investors,including venture capitalists.
What is Included in a Term Sheet?
A good term sheet will be comprehensive enough to showcase all the major aspects of an investment agreement, without too many minor details that are usually included in the contract. All in all, it’s purpose is to ensure that the business and investor are on the same page about the agreement,
Some of the major components that are typically included in a term sheet are the business valuation, investment amount, percentage of stakes, voting rights, liquidation preference, anti-dilutive provisions, investor commitment, and details on how dividends and proceeds of sales would be distributed.
3 Term Sheet Clauses to Look Out For
As a new Pakistani startup owner, it is natural to try to raise as much investment as possible. However, it is also important to be alert during term sheet negotiations, to ensure that you do not lose control of the business.
That being said, here are 3 term sheet clauses to look out for during negotiations with venture capitalists and investors:
1. Business Valuation
Firstly, realistically evaluate your business with the help of KPIs and industry benchmarks. While a very positive business valuation will likely attract more investors, it can put a burden on you to perform exceptionally well if you want to get a future round of funding. Not only that, but an unrealistic valuation can make you look deceitful when investors perform their due diligence. So keep it safe with a realistic valuation that you can negotiate with.
2. Partner Participation Rights
Establish voting rights for all types of investors. There are three types of partner participation rights:
On-Participating – Most owner friendly option. The investor chooses between straight liquidation preference or a pro-rata share of all proceeds.
Capped Participation – Same as full, but total return from liquidation and participation rights is capped at a defined multiple.
Full Participation - Most investor friendly. The investor first receives their liquidation preference and then a pro-rata share of any remaining proceeds.
3. Anti-Dilution Clauses
Anti-dilution provisions are a provision that protects investors from dilution due to subsequent equity issuances. It also adjusts relative ownership percentages to prevent new stock lowering oft the investors’ stake.
Keeping an eye out for these term sheet clauses can ensure that your owner rights are protected in investment agreements. To learn more about investment, venture capital, due diligence, and more for your Pakistani business, contact us at Vixperts today!