What Is a Term Sheet?
A term sheet outlines the key terms of an investment offer. Learn what each clause means and which terms matter most.
Key Takeaways
- A term sheet is a non-binding summary of the key terms of a proposed investment
- Pre-money valuation and percentage sold are the two most fundamental terms
- Liquidation preference determines who gets paid first if the company is sold
- Anti-dilution provisions protect investors from dilution in future down rounds
What a term sheet is
A term sheet is a document, typically 5-15 pages, that summarises the key terms of a proposed equity investment. It is usually non-binding — meaning neither party is legally committed to the deal by signing it — but it sets the framework for the legal documents that follow. Term sheets are issued by investors after an initial investment decision but before detailed due diligence and legal completion. Understanding the key terms is essential before negotiating or signing.
Valuation: pre-money and post-money
The most fundamental terms are pre-money valuation and percentage sold. Pre-money valuation is what the investor believes the company is worth before their investment. Post-money valuation is pre-money plus the investment amount. If a company has a £4 million pre-money valuation and raises £1 million, the post-money valuation is £5 million and the investor owns 20% (£1m / £5m). Always distinguish between pre and post-money when discussing valuation — they are meaningfully different numbers.
Liquidation preference
Liquidation preference determines the order and amount investors are paid when the company is sold or wound up. A 1x non-participating liquidation preference means the investor receives their investment back first (before ordinary shareholders), but then participates pro rata in the remaining proceeds as an ordinary shareholder. A participating preference means they get their money back first and then participate in the remaining proceeds — effectively double-dipping. Participating preferences can dramatically reduce founder proceeds in a modest exit.
Anti-dilution provisions
Anti-dilution provisions protect investors if future funding rounds occur at a lower valuation than the current round (a down round). Full ratchet anti-dilution reprices the investor's shares to the new lower price entirely — maximally protective for investors but punishing for founders and previous shareholders. Weighted average anti-dilution makes a partial adjustment based on the amount raised at the lower price — more balanced and more common in UK deals. Understanding which form is included matters enormously in a down round scenario.
Other key terms
Board composition: how many seats does the investor get, and do they have veto rights over key decisions? Pro rata rights: the investor's right to maintain their ownership percentage in future rounds by investing their pro rata share. Information rights: what financial reporting does the investor receive and how frequently? Founder vesting: most institutional investors require founders to re-vest their shares over a 3-4 year period, so that if a founder leaves early they do not take a large block of shares with them. These provisions are standard and reasonable — but understand them before signing.