Colin Barry

Term Sheets, Day 1 (EF, Wednesday, Week 4)


When a firm conducts an IPO, the firm must "register" its equity-holders with the SEC to allow them to publicly trade their stock. Registration is somewhat costly, and only the firm can do it. Thus, most term sheets include clauses relating to registration.

Early-stage investors like angels need to worry about how subsequent rounds of financing will impact their stake in a firm. Later-round investors must permit management to retain equity in the firm for incentive reasons; without upside, management would just leave. The same logic does not apply to previous investors. In the absence of good protection measures, early investors will often get "crammed down" --- especially in later "down" rounds.
But contractual terms only go so far. Especially arduous terms imposed in early rounds that would deter subsequent investment usually get re-negotiated.

Major takeaways: Don't trust term sheets you don't understand. Use lawyers, and spend a few hours to model payouts and control rights in various states of the world.