What Is a Term Sheet?
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A term sheet is a short document that summarizes the main terms of a proposed investment before the full legal documents are drafted. In a venture round, an investor sends one to a startup to say, in effect, "here's the deal we're prepared to do." It covers the price, the amount, and the rights the new shares will carry. It is not the contract that moves the money.
The National Venture Capital Association (NVCA) publishes a model Series A term sheet, and its opening note describes the purpose well: the sheet maps to the NVCA model documents and is meant to serve as a road map for the people drafting the final agreements and as a reference for the business people who need to understand the terms. The key phrase in that model is that "no other legally binding obligations will be created until definitive agreements are executed." We'll come back to that.
This article describes common US venture practice. Terms vary by jurisdiction, investor and deal, and it's general education rather than legal advice. Anyone signing a term sheet should have counsel review it.
What a Term Sheet Does
A term sheet exists to settle the big questions cheaply, before both sides spend serious money on legal work. If the founders and the investor can't agree on valuation or control, it's better to find out in a short summary than after weeks of drafting.
It also sets the shape of everything that follows. In US deals, the term sheet is turned into a handful of documents: a stock purchase agreement, the company's charter (certificate of incorporation), an investors' rights agreement, a voting agreement and a right of first refusal and co-sale agreement. The NVCA model term sheet is organized by which of those documents each provision ends up in, so you can see where a term eventually lives.
Typically the lead investor writes the first draft, and other investors in the round follow its terms. Founders usually negotiate the term sheet itself, then move to documents on the assumption that most of the business deal is settled.
Economic Terms vs Control Terms
Lawyers and investors often sort term sheet provisions into two groups. Economic terms decide who gets how much money, now and at an exit. Control terms decide who gets to make decisions, and who can block them.
| Group | Term | What it settles |
|---|---|---|
| Economic | Amount raised | How much cash comes in |
| Economic | Valuation (pre-money and post-money) | The price per share and the percentage the new investors own |
| Economic | Option pool | How many shares are reserved for future hires, and whose ownership it dilutes |
| Economic | Liquidation preference | Who is paid first, and how much, in a sale or wind-down |
| Economic | Dividends | Whether preferred stock earns a return before common |
| Economic | Anti-dilution protection | How investors are compensated if a later round is priced lower |
| Control | Board composition | Who sits on the board and who picks them |
| Control | Protective provisions | Actions the company can't take without preferred holders' approval |
| Control | Drag-along | Whether holders can be forced to vote for a sale the board and investors approve |
| Control | Pro rata rights | Whether investors can buy into future rounds |
| Control | Right of first refusal and co-sale | Limits on founders selling their shares |
The split isn't a legal category, and some terms belong in both groups. A liquidation preference is economic, but it also shapes how hard anyone will push for a sale. Treat the table as a reading aid.
The economic terms in brief
Valuation and amount. The NVCA model prices the round off a fully diluted pre-money valuation, with a post-money valuation alongside it. The difference between those two numbers is explained in pre-money vs post-money valuation. Founders who compare offers should always confirm which one is being quoted.
Option pool. The NVCA model states that the pre-money valuation includes an employee option pool of a stated percentage of the fully diluted post-money capitalization. That wording places the pool in the pre-money, which means it dilutes existing holders and not the new investors. The mechanics are covered in the employee option pool article, and they're one of the easiest ways for a headline valuation to mislead.
Liquidation preference. The model gives three alternatives: non-participating, full participating, and participating with a cap on total proceeds. The payout math for each is worked through in liquidation preference.
Anti-dilution. If the company later sells shares at a lower price, the investors' conversion price can adjust downward. The NVCA model sets out a weighted-average formula for this, and notes that the adjustment is subject to customary exceptions such as shares issued on conversion of existing securities. A down round is the situation this protection is written for.
The control terms in brief
Board seats. The model sketches a board with a seat chosen by the lead investor, a seat for the remaining investors, a seat for common stockholders, the CEO, and independent directors approved by the others. The exact mix is negotiated, and the balance of seats is often more important than the headline valuation.
Protective provisions. These are a list of actions that need the consent of a set share of preferred stock. The NVCA model includes examples such as liquidating or selling the company, amending the charter, and issuing new securities that don't rank junior to the new preferred stock. They give investors a veto even where they don't control the board.
Drag-along. The model includes this as an optional provision. Holders of preferred stock, and holders of more than a set percentage of common stock, agree to vote for a sale of the company if it's approved by the board and the required holders. It stops a small holder from blocking a deal everyone else wants.
Pro rata rights. The model gives major investors the right to participate in later issuances based on their ownership. We cover how this works, and the "major investor" threshold, in pro rata rights.
What's Binding and What Isn't
Most of a term sheet is a statement of intent. A few clauses are different, and they're the ones founders should read twice.
In the NVCA model, the preface states that the No Shop/Confidentiality provisions are binding on the company whether or not the financing closes, and that no other legally binding obligations arise until the definitive agreements are signed. The model also says it isn't a commitment to invest and is conditioned on closing conditions, which include satisfactory financial and legal due diligence.
| Provision | Usually binding? | What it does |
|---|---|---|
| Valuation, amount, preference, board, anti-dilution | No | States the proposed deal |
| Conditions to closing, including due diligence | No | Makes the investment depend on completing checks |
| No-shop (exclusivity) | Yes | Bars the company and founders from soliciting other offers for a set period |
| Confidentiality | Yes | Limits who the company can show the terms to |
| Expenses | Depends on the draft | Sets who pays legal costs. In the NVCA model the payment is subject to the closing |
No-shop. The NVCA model has the company and founders agree, for a number of days from acceptance, not to solicit or encourage a competing proposal to buy stock or acquire the company, and to tell the investors promptly about any inquiries. Alexander Davie, a startup lawyer writing on the Strictly Business law blog, notes that these terms are binding even if the transaction never completes and that no-shop periods commonly run one to three months from acceptance, with shorter periods favoring founders. A no-shop is the real price of signing. The investor takes the company off the market while it does due diligence, and the founders can't use the signed paper to shop for a better offer.
Counsel and expenses. In the NVCA model, the company's counsel drafts the documents and the company pays the legal and administrative costs of the financing, including reasonable investor counsel fees up to a stated cap, and that payment is subject to the closing. Check this line. It can be a real cost, and the cap is negotiable.
A practical consequence follows. A non-binding term sheet can still be hard to back out of. Signing it starts the no-shop clock, sets expectations with the team and other investors, and makes it awkward to reopen the economics later. Founders should negotiate the terms that matter to them before signing, not after. An investor who walks away during diligence owes the company nothing, but the company has lost weeks it could have spent on other conversations.
What Happens After the Term Sheet
The term sheet leads straight into due diligence, where the investor checks the company's finances, legal position, cap table and contracts. The term sheet's conditions to closing make this explicit: the NVCA model conditions the deal on satisfactory financial and legal due diligence. If diligence uncovers problems, such as unclear ownership of intellectual property, the investor can renegotiate or withdraw, since the term sheet doesn't commit it to invest.
After diligence, lawyers draft the definitive documents from the term sheet, the parties negotiate details the sheet left out, and the round closes when everyone signs and the money is wired. For how rounds fit into a company's financing path, see Series A, B and C funding.
Common Mistakes
- Fixating on valuation. Price is one line. A higher valuation paired with participating preferred, a large option pool in the pre-money or tight protective provisions can leave founders worse off than a lower price with clean terms.
- Treating "non-binding" as "harmless". The no-shop and confidentiality clauses bind, and the exclusivity period has a real cost.
- Skipping the control terms. Board composition and protective provisions decide who can steer the company for years. Read them with the same care as the economics.
- Signing without counsel. A term sheet is short because it leaves detail to the later documents, and the detail there usually follows the term sheet's framework. Fixing a point after signing is much harder.
- Assuming every term sheet looks like the NVCA model. The model is a US starting point. Seed-stage sheets are often shorter, and terms outside the US can differ.
Key Facts
- A term sheet summarizes the principal terms of a proposed financing and is not the final contract.
- The NVCA model Series A term sheet states that only the No Shop/Confidentiality provisions are binding on the company before definitive agreements are signed, and that it is not a commitment to invest (NVCA).
- The NVCA model includes alternatives for liquidation preference: non-participating, full participating and capped participating (NVCA).
- The NVCA model places the employee option pool in the pre-money valuation (NVCA).
- No-shop periods commonly run one to three months from acceptance, according to a startup lawyer's guide (Strictly Business).
- The model's conditions to closing include satisfactory financial and legal due diligence (NVCA).
Frequently Asked Questions about Term Sheets
Is a term sheet legally binding?
Mostly no. In the NVCA model, only the No Shop/Confidentiality provisions bind the company before the definitive agreements are signed, and the sheet says it isn't a commitment to invest. Whether an expenses clause binds depends on the draft. Have counsel confirm exactly which parts of a given sheet do.
What is the difference between economic terms and control terms?
Economic terms decide who gets how much money: valuation, amount, option pool, liquidation preference and anti-dilution. Control terms decide who makes and blocks decisions: board seats, protective provisions, drag-along and pro rata rights. Some terms, such as liquidation preference, affect both.
What is a no-shop clause?
It's a binding promise by the company and founders not to solicit or encourage competing offers for a set period after accepting the term sheet. The period is negotiated and often runs one to three months. It protects the investor's time and legal spend during due diligence.
Can an investor pull out after signing a term sheet?
Usually yes. The NVCA model says it isn't a commitment to invest and is conditioned on closing conditions such as satisfactory due diligence. The company, meanwhile, is bound by the no-shop and confidentiality clauses during the period.
What is the NVCA model term sheet?
It's a template Series A term sheet published by the National Venture Capital Association. It's organized to map onto the NVCA model legal documents, so each provision points to the agreement where it will eventually be written. US deals commonly use it as a starting point, and real term sheets depart from it.
Should founders negotiate a term sheet?
Yes. The term sheet is the cheapest moment to negotiate, because the later documents follow its framework. Compare offers on the whole package, including control terms and the option pool, and have counsel review before signing.
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