Going beyond the terms of a term sheet…

We know that term sheets can sometimes seem like cryptic documents, closely guarded and negotiated by lawyers, but we want to try shed some light on term sheets for founders and make the process a little more transparent. This follows a recent event we hosted with The Disruptive GC Network, where we talked about term sheet best practices with legal counsels of scale-up stage companies.

So, whether you are currently negotiating a term sheet or looking at raising your next round soon — here are some pointers on how to approach it and what to look out for beyond the terms.

Am I tied down?

Except for a few terms, such as exclusivity and confidentiality, the provisions of the term sheet won’t usually be legally binding. Having said that, the investor will expect the terms of the final investment documents to be consistent with what is set-out in the term sheet — so essentially, they take on a “soft” binding status.

Communication is key…

Every investor is different and so are their views on terms, some have good reason (such as the governance of their fund or prior experience) for why their terms are the way they are. If you don’t understand why a specific term has been included, do go ahead and pick-up the phone to get more information and listen to the rationale. It’s entirely reasonable to ask an investor to take the time to explain any unusual terms to you (and why) and also give you the opportunity to share your thoughts.

Choose the right lawyers

This seems obvious, but it is often ignored — engage lawyers who you are comfortable working with and who are experienced in ventures work. This should help the process run more smoothly and, ultimately, be more cost effective. A ventures specialist should also be able to give you a sense for whether a certain term is market standard (or not).

Finding the right partner…

By signing the term sheet, you may be committing yourself to only engage with one party for the duration of the exclusivity period. Make sure you are comfortable with that as you don’t want to go back out to the market and have to explain why it didn’t work out first time around.

Be sure it’s the right party — take up references on the investor and, if appropriate, its proposed board member but also check that the investor is sufficiently familiar with your company for their terms to be more than indicative. For example, if an investor suggests signing a term sheet after the very first meeting, the chances of something unexpected cropping up during diligence (which could have a negative impact on the fund-raising process) are likely to be much higher than signing after they have a sound understanding of the company.

How should I approach the negotiation and process?

Signing a term sheet often marks the beginning of a long-term partnership between the company and the investor and a prudent investor won’t see this as a one-off negotiation or use it as an opportunity to score points. During this process try and be really clear about what is important to you and ask the same of the investor. Realise that it is about finding compromises that work for both parties, rather than looking to achieve victory- take comfort that an experienced investor will follow this course.

Start populating your data room while the negotiations are ongoing, so that once the term sheet is signed the diligence can start immediately — making sure that valuable time is not lost and improving the chance of hitting your desired closing date.

You should take professional advice from a lawyer or other person who is suitably qualified to answer any specific questions which you may have relating to term sheets and/or the investment process more generally, but we hope that, as a starting point, you find these tips helpful. You also might want to visit the British Venture Capital Association www.bvca.co.uk or its US equivalent, the National Venture Capital Association, www.nvca.org. Note that they generally speak to practice in their own jurisdiction.

We regularly host events for European scale-ups, so if you’d like to be included please email events@eightroads.com or sign-up to our newsletter for updates.