Entrepreneurs hear a lot about term sheets. VCs and Angels agonize over terms in their standard term sheet. If you want to read about all the terms, what they mean, and how they are executed, there are plenty of blogposts all over the net for someone to search and learn.
Since investing in startups, I have learned why getting an early agreement for engagement matters. That agreement protects both parties, and should give each of them actual deliverables that have to be met-otherwise trust is broken and the deal sours.
You build trust in relationships over time. Term sheets help you skip over a lot of that time and make dealing with people you barely know efficient. Once in a presentation an entrepreneur said, “I need to raise X at X valuation.”. A person in the presentation said, “I can get you that.”. Without a signed term sheet, who knows? Exclusive of the fact that no one should be making claims like that in any presentation until well down the road, stating anything concrete without any agreed upon terms is a sign of bad faith. It could be a sign the person won’t perform.
Raising capital is brutal business. Entrepreneurs cannot afford to hang their hat on promises that may or may not happen. As the nation’s entrepreneurial ecosystem grows larger, more and more sharks will enter the pond looking for some easy money.
Sometimes it’s best for the entrepreneur to walk into the room with a good idea of the way they want the term sheet structured. Jeff Hyman of Retrofitme did that. They might structure the deal, and then meet with potential investors and negotiate with them on the finer points of the terms. It’s more than just money invested and valuation. At early stages, there should be some sort of general duties that each side should perform. It needs to be communicated in writing, and verbally.
Take control of your deal as much as you can. Corporate finance isn’t just about the numbers. It’s an integral strategy for success. Just like marketing or operations.
In very early stages, try to set small unobtrusive goals for parties to perform. Maybe it’s a simple introduction. Maybe it is meeting another party that might be integral to the business. Maybe it’s just setting a meeting and seeing if everyone can show up on time. If they can’t, it’s a sign that they are too busy for you. Wait until you hang your hat on their investment-they will have even less time for you then.
There are other ways entrepreneurs can protect themselves. First, before you get a meeting with a potential investor, find out about them from references. You don’t have to do a deep dive on diligence at this early stage, but you ought to know if they followed through before or not. What other deals are they in? In many cases, a person’s reputation will precede them. Or, they are a part of a larger organization that has a track record of being on the entrepreneur’s side. But, if you are meeting with a lone wolf individual, it’s best to button up as much of the research as you can before you enter the room. “Trust but verify”, isn’t just a slogan that applies to international treaty negotiations. It’s applicable to entrepreneurial interaction with investors at an early stage too.