A term sheet is two pages. It decides the next ten years of your company.
Term sheets are called non-binding, but they set the tone for everything that follows. CS Manavi Arora on the five clauses every founder should read before signing, and the information-rights clause that could have taken years to undo.
Summary
- A term sheet is short and mostly non-binding, but it fixes the economics and control terms the final agreements are drafted from.
- Five clauses decide most of the outcome: liquidation preference, anti-dilution, reserved matters, founder vesting and exclusivity.
- Founders need not become lawyers, but every clause should be read for what it does in practice, not only for what it says.
A term sheet is two pages. It decides the next ten years of your company.
I once reviewed one where a single "Information Rights" clause quietly gave an investor real-time access to customer and vendor data, with no confidentiality clause and no limits. It read like routine visibility. It wasn't. One redraft fixed it in a day. Left unflagged, it could have taken years to undo.
That is the thing about term sheets. They are called "non-binding", and most of their commercial terms are. But they set the tone for everything that follows. The shareholders' agreement and the subscription agreement are drafted from them, and a term you conceded at this stage is very hard to reopen once the lawyers start drafting.
It is also worth knowing which parts usually do bind. Confidentiality, exclusivity, costs and governing law are typically binding the moment you sign, even when nothing else is. So "it's only a term sheet" is never quite true.
If you're raising, or about to be, here is what I wish every founder read before signing.
Liquidation preference
Liquidation preference decides who is paid first, and how much, when the company is sold or wound up. It matters least when things go brilliantly and most when they go sideways, which is exactly when you will not be able to renegotiate it.
A 1x non-participating preference is the founder-friendly standard. The investor chooses between taking their money back and converting to share in the proceeds like any ordinary shareholder. They get one or the other, not both.
A participating preference lets the investor take their money back and then also share in whatever is left, as if they had converted. Add a multiple, 2x or 3x, and a middling exit can leave founders and employees with far less than their shareholding suggests.
The headline valuation can look generous while the preference stack quietly takes the upside.
What to ask for: 1x non-participating. If participation is truly non-negotiable, a cap on the investor's total return, above which they must choose between the preference and converting.
Anti-dilution
Anti-dilution protects an investor if you later raise money at a lower price, in a down round. The real questions are how much protection, and at whose cost.
Broad-based weighted average is the fair version. It adjusts the investor's conversion price by a formula that weighs how much new money came in, and at what price, against the whole capital base. A small down round produces a small adjustment.
Full ratchet resets the investor's price all the way down to the new, lower price, however small the new issue. A token down round can hand the investor a large extra slice of the company, and that slice comes out of the founders and everyone else without the same protection.
It disproportionately punishes founders at exactly the moment the company is already under pressure. It also makes the next round harder, because every new investor has to price in the ratchet sitting above them.
What to ask for: broad-based weighted average, with carve-outs for ESOP grants and other issues that are not really new funding.
Reserved matters
Reserved matters, sometimes called affirmative vote rights, are the decisions that need an investor's consent however many shares they hold. Many are entirely reasonable: changing the share capital, issuing new securities, altering the rights attached to their shares, selling the company.
The trouble starts when the list reaches into running the business. The annual budget, any hire above a salary threshold, any contract over a modest value, a new office. A minority investor then holds a veto over day-to-day decisions, and each one becomes a negotiation.
Check how much day-to-day control actually sits with a minority investor. Read the list item by item and ask one question of each.
Is this protecting the investor's investment, or managing the company?
Keep the first kind. Push back on the second, or set the thresholds high enough that ordinary operations never trip them.
Founder vesting and the bad leaver
Investors commonly ask founders to put their existing shares on a vesting schedule, usually structured in Indian deals as reverse vesting because the founder already owns the shares. The idea is that a founder who leaves early does not walk away with they have not yet earned. In principle, that is fair.
The detail that matters is the leaver definition. As a good leaver you typically keep your vested shares, and may be paid fair value for the rest. As a bad leaver you may be forced to sell your shares, sometimes including the vested ones, at cost or face value.
So read exactly what makes someone a bad leaver. Fraud and serious breach, certainly. But some drafts also include resigning for any reason, being removed by the board, or missing performance targets. Know exactly what happens to your unvested shares, and your vested ones, and make sure that being removed without cause can never turn you into a bad leaver.
Exclusivity and no-shop
Most term sheets include an exclusivity or no-shop period, during which you agree not to talk to other investors while this one completes diligence and documentation. That is standard, and it is one of the parts that binds.
Watch the length, and what happens if the deal dies. Thirty to sixty days is common. A long no-shop takes you off the market, and if the investor walks away late you have lost time, momentum and every other conversation you had to pause.
Where the exclusivity is long, ask for it to end early if the investor stops progressing, or for a break fee attached to it, so that walking away costs them something too.
Read what it does, not what it says
None of these clauses is unusual, and most investors will ask for some version of all five. The point is not to refuse them. It is to know which versions you can live with, which need a cap or a carve-out, and which change the deal enough to be worth pushing back on.
Founders don't need to become lawyers. But they do need someone in their corner who reads every clause for what it actually does, not just what it says.
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