Raising money is one of the most stressful and exciting parts of a founder’s journey. You’ve pitched investors, refined your deck, survived endless rejections, and finally, after all the back-and-forth, an investor says, “Yes”. But instead of wires hitting your bank account, you’re handed a piece of paper: The Term Sheet.

This is where many first-time founders get caught off guard. A term sheet may look like a simple two-to-three-page document, but in reality, it’s the blueprint for how your company’s future will unfold. Get it right, and you keep control of your vision. Get it wrong, and you might sign away more than equity, you might sign away power, freedom, or even the upside of your own company.

As Y Combinator puts it, “fundraising is not just about valuation, it’s about the terms.” This article dives into what every founder should know, and more importantly, what every founder should do when they’re presented with a term sheet.

What Is a Term Sheet, Really?

At its core, a term sheet is a non-binding agreement between a startup and an investor. Think of it as a handshake deal written down, it sets out the key financial and governance terms of an investment before lawyers draft the full, legally binding contracts.

While most of it isn’t enforceable in court, a few clauses, like confidentiality and exclusivity, often are. More importantly, term sheets set the tone for the relationship between founders and investors. If a clause shows up here, you can bet it will appear in the final documents.

Put simply: if the term sheet is the blueprint, the final contracts are the actual house. And just like in construction, if the blueprint is flawed, the house will be too.

When Does a Term Sheet Come Into Play?

The term sheet usually shows up after serious investor interest but before due diligence and final agreements. This is the moment when an investor says, “We’re in, if you agree to these terms.”

For founders, this is both exciting and dangerous. Exciting, because it’s validation. Dangerous, because many first-time founders are so eager to secure funding that they overlook red flags in the fine print.

There’s a common saying, “If you don’t understand the term sheet, you don’t understand the deal.” This is why smart founders prepare for this moment long before they need money. The time to learn how a term sheet works is not the night before you sign one.

Why Founders Should Be Cautious

Here’s the hard truth: investors negotiate term sheets all the time. Founders usually don’t. This creates an experience gap that can cost founders dearly.

According to CB Insights, one of the top reasons startups fail is running out of cash. A bad term sheet can accelerate that failure, locking founders into structures that limit flexibility, dilute ownership, or restrict decision-making just when agility matters most.

Take WeWork’s failed IPO. While its collapse was due to many governance failures, the way early deals were structured gave Adam Neumann so much control. That unchecked power later became a key reason public markets rejected WeWork’s IPO.

On the flip side, Slack offers a different lesson. Stewart Butterfield’s agreement gave investors an upside, while still protecting founder control. By doing this, Slack had the flexibility to grow into a $27.7 billion exit to Salesforce.

The takeaway: a term sheet is not just “paperwork.” It’s the foundation of your fundraising journey and your company’s long-term governance.

Breaking Down the Key Clauses in a Term Sheet

Let’s unpack the most important sections every founder should understand.

1. Valuation and Equity

This is usually the first number founders look at. How much is the company worth? How much equity are you giving up?

A high valuation may feel like a win, but if it’s not realistic, it can hurt you later. According to PitchBook, down rounds surged in 2023 as inflated pandemic-era valuations came crashing back to earth.

Case in point: Instacart. At its peak in 2021, Instacart was valued at $39 billion. By the time it IPO’d in 2023, its valuation was down to roughly  $10 billion, a 75% drop. Early investors with strong terms survived, but later-stage founders and employees were left with far less upside.

Lesson? Don’t chase vanity valuations. Focus on sustainable, fair terms that let you raise future rounds without pain.

2. Liquidation Preferences

This decides who gets paid first if the company sells or shuts down. The “standard” is 1x non-participating preferred stock, meaning investors get their money back before common shareholders (founders, employees) see anything.

But some investors push for more aggressive clauses like 2x or 3x liquidation preferences or “participating preferred,” which lets them double-dip.

The classic cautionary tale is Digg. Despite being valued at $160 million at its peak, it was later sold for a meager $500,000, investor liquidation preferences meant founders and employees walked away with little to nothing.

3. Board Composition

Who sits on your board determines who controls big decisions. Investors often want board seats. While this is normal, founders should ensure they don’t lose majority control too early.

Consider Uber. Founder Travis Kalanick was eventually ousted after a series of scandals, largely because the board had the power to push him out. Whatever you think of Kalanick, the point is clear: board dynamics matter as much as cash in the bank.

4. Anti-Dilution Provisions

These clauses protect investors if new shares are later sold at a lower valuation. There are two types: “weighted average” (founder-friendly) and “full ratchet” (very investor-friendly).

Without careful negotiation, these terms can shrink founder equity dramatically in a down round. During the 2008 crash, many startups saw founder ownership wiped out because of aggressive anti-dilution protections.

5. Founder Vesting and Clawbacks

Investors want to know founders won’t take the money and run, so they often insist on vesting schedules, commonly four years with a one-year cliff. That’s normal.

What’s not normal is overly punitive clawbacks or re-vesting demands in later rounds. Founders should negotiate reasonable timelines that reflect commitment without leaving them vulnerable.

What Founders Should Do With a Term Sheet

Knowing what’s in a term sheet is one thing. Knowing how to act on it is another. Here’s what every founder should actually do when one lands on the table.

Slow Down and Get Legal Help

The golden rule: don’t sign in a rush. Even if the investor says “we need this back by Friday,” resist the pressure. Hire a lawyer who specializes in startup financing.

As the NVCA notes, model documents are helpful, but there’s no substitute for experienced counsel who can explain the trade-offs in plain English.

Compare Multiple Offers

If you can, line up more than one investor. Having multiple term sheets gives you leverage. Investors compete not only on valuation but also on terms, networks, and long-term value.

This is why seasoned founders often run structured fundraising “processes” instead of taking the first check offered.

Understand What’s “Market Standard”

The good news? Founders have more resources than ever. Y Combinator’s SAFE agreements and the NVCA model term sheets give you a sense of what’s normal.

If your term sheet looks wildly different — say, with aggressive liquidation multiples or board control demands, that’s a red flag.

Think Long-Term, Not Just This Round

It’s tempting to grab the biggest check, especially if you’re running on fumes. But early terms set precedents that echo into later rounds.

Many founders regret giving up too much control at seed or Series A because those terms compound when new investors come in. Think beyond survival. Think about the Series B, C, and beyond.

Final Thoughts

A term sheet is more than a formality, it’s a window into your company’s future. As a founder, you can’t afford to see it as “just paperwork.” It decides who owns what, who controls decisions, and how money flows when success or failure comes.

The best founders treat term sheets with respect. They slow down, seek expert advice, and make sure they’re not just signing a deal, but signing the right deal.

So the next time an investor slides one across the table, remember, you’re not just raising money, you’re shaping the future of your company.

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