Reading a term sheet

The email arrives on a Tuesday. It holds a two-page PDF with the title “Summary of Terms,” and a line that asks for your signature by Friday. Each clause looks short and polite. A few of them decide how much of a sale you get, and who can fire you. This lesson shows a complete clean seed term sheet, one clause at a time. Then it shows the red flags that make a term sheet unclean.

The deal in one paragraph

Northwind Labs gets its first priced round. The term sheet comes from the Series Seed form, a short set of seed documents that the law firm Cooley publishes. The economics in four lines:

• Security: Series Seed Preferred Stock
• Amount: $4,000,000 of new money, plus the conversion of the earlier SAFEs
• Valuation: $16,000,000 pre-money, fully diluted
• Option pool: an unallocated pool equal to 10% of the post-money, inside the pre-money.

The last line changes the price. The lesson on the option pool shuffle explains why in detail.

Predict first

The investors buy 20%, and the pool is 10% of the post-money. What percentage of the company do the current holders keep after the round?

Type a guess before you continue. A guess first, even a wrong one, makes the answer easier to remember.

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Here is the calculation for Northwind:

Worked example · step 1 of 5

What the valuation clause says

1. 1

   The post-money valuation

   Add the new money to the pre-money valuation.

   Post-money = $16M + $4M
              = $20M

Show step 2Show all steps

The headline says $16M. The current holders get a price of $14M. That gap is the first thing to find in each term sheet.

Read it in four passes

A term sheet does not put its clauses in the order of their importance. Read it four times, with one question each time:

1. The deal. What does the investor buy, for how much, and at what price? Read the security, the amount, and the valuation with the pool.
2. The economics. Who gets the money in a sale? Read the liquidation preference, the dividends, the conversion, the anti-dilution, and the redemption.
3. The control. Who decides, and who can stop a decision? Read the protective provisions, the board, the pro rata and information rights, and the founder vesting.
4. The binding and process terms. What binds you now, and what does the deal cost? Read the expenses, the no-shop, the confidentiality, and the expiration.

In the economics pass, read the conversion clause with care. All preferred stock converts to common automatically at a qualified IPO, an IPO that meets the conditions in the charter. Some investors ask for a minimum IPO price of 3x to 5x their own price. Then, at a lower IPO price, the company needs the approval of the investors.

The term sheet, clause by clause

Open each clause of Northwind’s term sheet. Each one has a plain explanation, the market data for 2025-2026, and what to watch for. Then select “With red flags.” In that version, 11 clauses change. Open each clause, and decide if it is clean or a red flag.

Term sheet

Northwind Labs: Series Seed term sheet

Select a clause to read it in plain words. Then switch to the second version, and decide for each clause: clean or a red flag?

Version

CleanWith red flags

Clauses read

0 of 18

Red flags to find

11

In the second version

Summary of terms for the sale of Series Seed Preferred Stock

• SecuritySeries Seed Preferred Stock of Northwind Labs, Inc. (the "Series Seed").
• Amount$4,000,000 of new money, plus the conversion of the outstanding SAFEs into Series Seed.
• Valuation$16,000,000 pre-money valuation on a fully diluted basis, including an unallocated option pool equal to 10% of the post-money.
• Liquidation preference1x the Original Issue Price, plus declared but unpaid dividends, non-participating. A merger or a sale of the company counts as a liquidation.
• DividendsDividends only when the board declares them, and only when the common stock gets the same dividend. Unpaid dividends do not accumulate.
• ConversionThe Series Seed can convert into common stock at any time, at first one-for-one. It converts automatically at an IPO, or when a majority of the Series Seed agrees.
• Anti-dilutionBroad-based weighted average, with the standard exceptions for employee options, conversions, and stock splits.
• RedemptionNone.
• Protective provisionsA majority of the Series Seed must approve: changes that hurt the rights of the Series Seed, new stock that is senior or equal to it, buybacks (except from employees), dividends, a change in board size, and a sale or liquidation of the company.
• Board of directorsThree seats. The common stock elects two directors, and the Series Seed elects one.
• Information rightsMajor Purchasers (investors with $250,000 or more) get annual and quarterly financial statements and an annual budget.
• Pro rata rightsMajor Purchasers can buy their pro rata share of later rounds.
• Future rightsThe Series Seed gets the same rights as the investors in the next round of preferred stock.
• Founder vestingFounder shares vest over four years, with credit for time already worked. Double-trigger acceleration. Each founder assigns all company IP to the company.
• ExpensesThe company pays the legal fees of the investors at the closing: a flat $10,000.
• No-shopFor 30 days, the company does not look for other investors or a buyer. This section is binding.
• ConfidentialityThe company does not share these terms, except with its board, employees, stockholders, accountants, attorneys, and possible co-investors that the lead accepts. This section is binding.
• ExpirationThis term sheet expires five working days after the date below.

This term sheet has 18 clauses. Start with the four that move the most money and power: the valuation, the liquidation preference, the board, and the protective provisions.

Seed forms and Series A forms

Northwind’s term sheet is short because it uses the Series Seed form. A Series A term sheet usually follows the NVCA model, which is much longer. The two forms differ in these ways:

Term	Series Seed	NVCA model
Length	Approximately 2 pages	15 pages (the July 2020 version)
Investor legal fees	A flat $10,000	The company pays at the closing. A cap is a reasonable request.
No-shop	30 days	A blank to fill: usually 45 to 60 days
Investor rights	Many rights wait for the next round (the “future rights” clause)	Registration rights, ROFR and co-sale, drag-along, and more

The NVCA updated its five model financing documents in 2025 and 2026, but its documents page lists no model term sheet. The most recent NVCA term sheet text that this course found is the July 2020 version. In 2022, the NVCA and the data company Aumni released an “enhanced” edition of that term sheet, with market data for each term. The lesson on the anatomy of a priced round explains the final documents.

A longer form is not a dirtier form. The NVCA model is the market standard for a Series A. Read it with the same four passes, and compare each clause with the clean versions in the widget.

The red flags

Each term in this list moves money or power to the investor. Survey data exists for the economic terms, and it shows that they are rare in 2025-2026 deals. The list:

• A liquidation preference of more than 1x (2.7% of primary rounds on Carta in Q1 2026)
• Participating preferred, most of all without a cap
• Cumulative or accruing dividends
• Full ratchet anti-dilution
• Redemption rights, most of all with penalties if the company cannot pay
• A board that the investors control, or a 2-2-1 board with an independent director that the investors select
• An investor-director veto on budgets, executive hires, or pivots
• Super pro rata, or pro rata for all small investors
• Full re-vesting of founder shares, with no credit for time served
• A no-shop of more than 60 days
• No cap on investor legal fees, or fees that the company pays if the deal does not close
• An expiration of less than three working days.

Exploding offers

An exploding offer expires very quickly. Its purpose is to get your signature before you get other offers. An expiration date is normal, and the NVCA model has one. The problem is a deadline that is too short.

Paul Graham wrote about these deadlines in 2013. He calls a deadline of three working days acceptable. He calls a shorter deadline a sign of a “sketchy investor,” and he writes that you can usually call their bluff. He also writes that the top investors do not often do this.

For example, a VC sends a term sheet at 5 p.m. on a Friday, and it expires at 9 a.m. on Monday. That is zero working days. Ask for at least three working days. If the investor says no, you learn how that investor can act later, when it sits on your board.

How to respond to a term sheet

A signed term sheet changes your position. After you sign, the no-shop stops talks with other investors, so you have less leverage. Do this work before you sign:

1. Speak to a lawyer who does venture financings. The term sheet decides the final documents, and the binding clauses apply at signature.
2. Calculate the effective pre-money valuation and the payouts at a few sale prices.
3. Ask about each unusual term. The answer tells you how the investor sees the risk of your company.
4. Put your effort into the price, the liquidation preference, and the board. Accept the standard clauses.
5. Speak to the other investors in your pipeline before the no-shop starts.

Practice

Work it out

A term sheet offers $3M at a $12M pre-money valuation, with an unallocated pool of 10% of the post-money inside the pre-money. What is the effective pre-money valuation?

Your answerCheck

Work it out

The dirty version of Northwind's term sheet has an 8% cumulative simple dividend on the $4M. Ignore its 2x multiple. Northwind sells after 4 years. What is the liquidation preference?

Your answerCheck

Quiz · question 1 of 5

Test what you learned

A term sheet says "$16M pre-money, including an unallocated pool of 10% of the post-money," with a $4M investment. What is the effective pre-money valuation for the current holders?

• A$16M
• B$12M
• C$18M
• D$14M