Ming Zhao@FabiusMercurius : How to Read a Term Sheet

VC term sheets are one of the most talked-about & least-understood docs in existence. What's dirty, what's standard?

Whether you're building a company or thinking about it, as founder or employee:

Here's what the VCs know that you need to know

0/ the basics

Your objective: build cool shit VC's objective: achieve maximum rate of return

Interests on both sides usually align — until they don't.

Term sheets spell out the: (1) control rights, and (2) economic rights

of both parties as the company goes from 0->1.

Key parts:

• Valuation is always the 1st (&only) thing people talk about.

But other subtle clauses can and do foil a high val many times over to sour deal economics.

These include:

• Liquidation preference
• Participation rights
• Voting rights
• Conversion
• Anti-dilution

1/ Size & Valuation:

Size means total $ raised, including allocation for the "lead" investor vs. follow-ons.

Valuation can be defined:

1. pre-money or
2. post-money

Pre- means value of company excluding the current $ raised. Post- means value after/including the current funds.

Another more subtle clause linked to valuation is the "option pool" (newly issued for future hires).

2 things to define:

• size (typically 10-15%)
• whether it come out of the "pre-investment cap table" (dilutes only builders) or "post-investment" (dilutes builders + investors).

2/ Liquidation preference

What it means: VCs get paid out (on a sale) before common shareholders/builders — 1x liq pref means VC makes back original investment, 2x means VC makes back double.

Typical: 1x