Monday, February 3, 2025
Why Your Term Sheet Matters More Than You Think
For many startup founders, a term sheet is just another document in the capital-raising process—a stepping stone to getting that all-important investment. But here’s the truth: your term sheet will shape the future of your company. The clauses hidden within can determine your control, your financial outcome, and even your ability to steer your mission in the right direction.
Climate founders, in particular, need to be extra vigilant. Raising capital from mission-aligned investors means ensuring your term sheet reflects your values and long-term vision. In this guide, we break down the key clauses you need to understand, the risks to watch for, and how to negotiate terms that work in your favour.
The 7 Key Clauses You Must Understand
1. Valuation & Dilution: How Much Are You Giving Away?
Your startup’s valuation determines how much equity you’re giving to investors in exchange for their capital. But valuation isn’t just about the headline number—it’s about how much of your company you’ll own post-raise.
Higher valuation isn’t always better – An inflated valuation can lead to a painful down round later.
Dilution matters – Every funding round reduces founder ownership. Be strategic about how much equity you give away.
Watch out for excessive option pools – Investors may ask you to set aside a large percentage for future hires, which ultimately dilutes your stake.
📌 Pro tip: Don’t focus only on the pre-money valuation—check how much ownership you’ll retain after the round, including option pools and future dilution.
2. Liquidation Preferences: Who Gets Paid First?
Not all exits are equal. Liquidation preferences dictate who gets paid and how much when your company is sold, merged, or liquidated.
1x non-participating preference – The investor gets their money back first, then the rest is split based on ownership.
1x participating preference – Investors get their money back AND still take their equity share—founders get much less.
2x+ liquidation preference – A red flag! This means investors get twice their money back before founders see anything.
🚨 For mission-driven startups, high liquidation preferences can make exits challenging—investors will prioritise financial returns over long-term impact.
3. Control Terms & Governance: Who Really Runs the Show?
Taking on investment means sharing control. The question is—how much control are you giving up?
Board seats – Investors may want a seat (or several) on your board. Make sure you still have decision-making power.
Voting rights – Some investors may demand veto rights over major decisions like fundraising, hiring execs, or selling the company.
Founder-friendly structures – Try to retain at least 50% board control or negotiate independent members.
💡 Your company, your mission—don’t give away control too early.
4. Anti-Dilution Protection: The Silent Founder Killer
Anti-dilution clauses protect investors if the company raises a future round at a lower valuation (a ‘down round’). But some versions can be devastating for founders.
Full ratchet anti-dilution – If you raise at a lower valuation later, investors get extra shares for free, crushing founder equity.
Weighted average – A fairer version that adjusts investor pricing but doesn’t completely wipe out founder ownership.
⚠️ Always negotiate for weighted-average anti-dilution protection instead of full ratchet.
5. Founder Vesting & Clawback Clauses: Keeping You Locked In
Most investors want founders to have ‘skin in the game,’ which often means vesting periods and clawback clauses.
Standard vesting – Founders earn back their shares over four years, with a one-year cliff.
Clawback clauses – Some term sheets include ‘bad leaver’ clauses that strip founders of equity if they leave (even for good reasons!).
🎯 Make sure vesting terms align with your long-term commitment—and fight back on overly aggressive clawbacks.
6. Exit & Drag-Along Rights: Are You Forced to Sell?
Drag-along rights allow majority investors to force a sale, even if founders and minority shareholders disagree.
Standard clause – Requires investor and founder approval before triggering.
Founder-hostile versions – Let investors sell the company without founder consent.
🛑 Never sign a term sheet that lets investors force an exit without founder input.
7. Warranties & Indemnities: The Hidden Landmines
Some term sheets include broad warranties that could leave founders personally liable for company issues.
Negotiate caps on financial liability.
Limit scope to company actions, not personal liability.
Watch out for unreasonable investor protections that go beyond industry norms.
💬 Your personal assets should never be on the line—limit warranties to what’s fair.
How to Negotiate a Better Term Sheet
Get a lawyer or experienced advisor – Term sheets are complex. Never sign without legal review.
Understand investor motivations – Some clauses protect them, but others can be negotiated.
Prioritise what matters – Fight hard on control terms, liquidation preferences, and anti-dilution protections.
Know when to walk away – Some deals just aren’t worth it. Bad terms can kill your company before it even gets off the ground.