Term sheets for investors: Securing funding

VC funding applications often require you to prove your worth. How should you respond to a VC term sheet? Managing the process effectively requires legal knowledge on the part of founders.

Term sheets outline investment terms and conditions

It is usually the lead investor who writes the term sheet for institutional venture capital.

Except for confidentiality and exclusivity rights, angel investment terms are usually non-binding. Due diligence or expenses should not be paid upfront by founders. There are no credible venture capitalists doing this in the U.S. and Canada.

Key provisions of the term sheet

VC term sheets should include the following provisions:

Investment structure

Institutional venture capitalists prefer convertible preferred shares for investment. A formula determines how liquidation preference shares are converted into common shares with residual value. The per share investment price is determined by an enterprise valuation in the term sheet.

Term definitions in economics

This sheet contains the following economic terms:

  • Investment returns can be quantified

  • A company's accrued earnings should be quantified

A preferred return : As a condition of distributing assets (payments) to investors, venture capitalists must receive preferred returns from startups.

Investments should be evaluated based on their original amounts in order to determine their return rate. If founders aggressively negotiate the valuation of a startup, investors may require an additional payment. Additionally, investors can receive a "double-dip" refund along with their equivalent amount if preferred shares were converted to common shares at liquidation.


Accruing returns: Dividends are earned on convertible preferred shares. Dividends of this type cannot generally be received in cash. Similar to preferred shares, the amount accumulates and is converted into common shares. It is common for accruing returns to be between 4% and 8%, though it can be negotiated. It is rare for more than 10% to occur.

Structure of the board and reporting structure

Both institutional investors and startup founders must attend the startup's original external investment round in most VC terms sheets.

Independent directors tend to hold the swing votes on boards since they lack formal employment relationships and affiliations with either camp.

Founders and investors will nominate and approve independent members in the term sheet. Financial reports including audited annual financial statements and monthly or quarterly management statements, as well as notices of certain significant events (e.g. lawsuits) are normally required by investors alongside the term sheet.

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