Most founders never receive a term sheet.
But if you’ve dedicated your life to a startup and finally made it to this stage of the game – congrats!
The only problem is now you’re facing a new ‘boss’, one that has played the game hundreds and maybe even thousands of times before.
But likely this is your first time sitting at the table across from a seasoned VC – so we’re writing this blog to even up the match and help you get the best possible outcome in your term sheet negotiation.
These are VCs that will offer you predatory terms and try to steal an outsized chunk of both ownership and control.
Some refer to these folks as ‘Vulture Capitalists’ who work to extract a ‘pound of flesh’ from your cap table.
Not all VCs are vulture capitalists, but unfortunately, in down markets like these even VCs with the shiniest logos, largest assets under management, and sharpest jawlines will stoop to these levels.
At the end of the day, talk is cheap but the terms are your source of truth and give you great insight into who you are actually going to be working with for the next 5-10 years. Below are some terms to help you figure out if you have a VC that is ‘in it to win it’ with you or a Vulture Capitalist.
Play close attention; here are the two terms where most of the games are played:
Liquidation preference greater than 1x
It is always better to give away as little control of your company as possible. Irrespective of how much value you think the VC will bring or how confident you are in your role as CEO. This is how founders lose companies.
When is the right time to have an investor join your board?
Expanding the board is one of your best cards
Here are a few ways that investors may try to avoid getting diluted should you have a down round in the future. Note that some anti-dilution protections are standard, while others are clearly predatory.
Broad-Based Weighted Average
Sometimes investors just… want… more. VC investors make their money off of the upside in their preferred shares so traditional venture capitalists will rarely ask for warrants or dividend payments; however, there are a lot of new players in the venture capital space these days. Family offices, hedge funds, and PE firms are becoming increasingly active in later stage rounds and might try and sneak these terms in to juice their returns:
Nothing like starting a 5-10 year working relationship like ‘sign over your life’s work to us and the clock is ticking. These terms give you great insight into what kind of investors you are dealing with and may indicate you are sitting with a Vulture Capitalist. Alternatively, it’s an indicator that your investor may be insecure, really wants to invest in your company, and is worried you will take someone else’s money. In either case, this is a good spot to negotiate firmly, if they are insecure they will fold, and if they are a Vulture Capitalist you probably don’t want to be working with them anyways.
24-Hour Exploding Term Sheets
90-Day No Shop Clause
The focus of this blog has been on United States startups and investors. What is standard outside of the US can vary widely. Lean on your lawyers and advisors to guide you on terms, and trust your intuition about people.
There is no harm in reaching for more when you have the leverage to do so. And don’t think you are immediately dealing with a Vulture Capitalist just because they are doing the same. Your exit, however great, will be finite. Some will make more than others; this creates a natural tension.
But use that tension to your advantage – use this blog to negotiate with strength & confidence…. as well as transparency and openness.
Demand the same of the people you do business with and you’ll increase your chances of achieving your startup dreams.
And while we’ve spent most of this blog talking about how to best view your investors… it’s good to be reminded that they will be performing the same calculus on you as they try and assess what kind of founder you are.
On this front my advice is simple: it is easier to act honorably than to pretend to be honorable.
–Dustin Byington Co-Founder & CEO of TWO12
If you have any questions on the topics of priced round terms or term sheet negotiations we’ll be hosting a webinar on this topic soon, please email us at email@example.com to be notified.
I started my career at Goldman Sachs, have led two unicorn fintech companies, and am currently working on constructing the equity rails that Web2 forgot to build. My goal is to bring digitization, automation, and transparency to the startup asset class. You can sometimes find me on LinkedIn and Twitter.
TWO12 is on a mission to help founders realize their startup dreams. In addition to providing educational content focused on startup finance we also offer Unlimited $240/year Cap Table Management, 409a Valuations, Fundraise Valuations, Fund Administration, SPV Formation, Syndicate Backend Management, and more…https://two12.co/
Even if you are raising millions of dollars in a late stage venture backed company… you still shouldn’t be wasting thousands of dollars on cap table management in this economy. We’ve got everything you need for $240/year. Hire us instead of firing a contract worker. And use our best in category dilution & exit modeling to compare term sheets and strategize counter-offers.
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Hi. Great concise summary. Thank you. We are getting ready to launch in Texas and to look for a first investment, so reading this is helpful. Cheers, Andy