A term sheet is often described as a preliminary summary of investment terms. In practice, it is the first articulation of a company’s capital and control architecture.
While most provisions are formally non-binding, term sheets anchor expectations around valuation, dilution, governance, and exit economics. Once agreed, they materially shape the definitive transaction documents that follow. By the time lawyers draft, the economic and governance equilibrium is usually already set.
Founders often negotiate term sheets under time pressure, when momentum matters and investor interest feels perishable. That urgency obscures a simple reality: early term sheet decisions compound across rounds and directly influence long-term control and liquidity outcomes.
The problem founders underestimate
Founders tend to treat term sheets as a gateway to “real” documents. Investors treat them as the deal.
Once a term sheet is signed, deviations in definitive agreements are rare. Renegotiation requires leverage, and leverage often dissipates after exclusivity is granted. What remains is implementation.
The practical effect is that term sheets function less as summaries and more as blueprints.
Term sheets as capital architecture
Term sheets define how capital is layered, how control is allocated, and how risk is priced.
They establish the commercial logic that governs the relationship between founders and investors. Board control, economic seniority, veto rights, and future financing dynamics are all encoded here — long before formal documents expand the language.
For founders, the strategic importance of the term sheet lies not in its length, but in its architecture.
Valuation and dilution mechanics
Valuation determines ownership allocation, but pre-money and post-money constructs often obscure effective dilution.
Option pool expansions, SAFEs, and convertible instruments are frequently layered into capitalization in ways that shift dilution away from headline valuation numbers. Investors model valuation as an input into ownership, governance, and exit outcomes — not as a marketing figure.
Valuation is optics.
Dilution is reality.
Liquidation preferences and exit economics
Liquidation preferences dictate how proceeds are distributed in a sale or liquidation.
Preference multiples, participation rights, and seniority levels determine whether founders and common shareholders participate meaningfully in exit proceeds. These terms are among the most consequential economic provisions in venture financings, yet they often receive less scrutiny than valuation.
Over multiple rounds, liquidation stacks can materially subordinate founder outcomes.
Dividends as capital cost signaling
Dividend provisions are rarely exercised in early-stage companies, but they signal how investors conceptualize downside protection and capital cost.
Cumulative dividends, in particular, introduce compounding economics that can materially affect late-stage exit distributions. Even when unlikely to be paid, dividend structures reveal investor posture and risk allocation assumptions.
Dividends are often symbolic.
Their economics are not.
Board composition and governance allocation
Board structure determines how strategic and fiduciary decisions are made.
Term sheets allocate board seats among founders, investors, and independent directors, shaping governance dynamics long before disputes arise. Control over board composition often proves more consequential than day-to-day management authority — particularly during down rounds, acquisitions, or leadership transitions.
Board control outlives CEO control.
Protective provisions and veto rights
Protective provisions require investor consent for specified corporate actions, including equity issuances, mergers, and amendments to governing documents.
These provisions function as embedded veto rights, reallocating decision authority from founders to capital providers. While standard in venture financings, their scope and thresholds materially influence corporate flexibility and negotiating leverage in future transactions.
Protective provisions are investor veto rights with legal precision.
Investor rights that persist across rounds
Pro rata rights, information rights, rights of first refusal, and co-sale provisions shape future ownership dynamics and secondary liquidity.
These rights constrain capital allocation in later rounds and affect founder and employee liquidity pathways. Investors treat them as mechanisms to preserve ownership and oversight as companies scale.
Investor rights compound, even when founders forget them.
Founder-specific alignment provisions
Vesting resets, acceleration provisions, and employment-related conditions link founder incentives to company performance and transaction outcomes.
While framed as alignment tools, these clauses also function as leverage mechanisms in control transitions. They influence retention, negotiating posture, and exit economics at precisely the moments when leverage is least evenly distributed.
Why term sheets persist through definitive documents
Definitive financing agreements expand on term sheet provisions, but they rarely change the underlying economics or governance architecture.
Once the commercial equilibrium is set, renegotiation requires leverage founders often lack after signaling acceptance. The term sheet, in practical terms, is the deal.
What this means in practice
Term sheets define capital and control architecture
Valuation headlines fade; dilution mechanics persist
Liquidation preferences shape real exit outcomes
Governance rights compound across rounds
Early concessions are difficult to unwind
Term sheets are not preliminary documents.
They define the framework within which a company will operate, raise capital, and eventually pursue liquidity. Valuation is temporary. Governance rights and economic preferences are not.
Founders who treat term sheets as capital architecture — rather than transactional summaries — preserve control, align incentives, and reduce surprises when liquidity events arrive.