A term sheet is the negotiating document that precedes a formal investment. It outlines the proposed valuation, investment amount, share class, liquidation preferences, board composition, anti-dilution rights, and other key commercial terms. Critically, most term sheets are non-binding — they are statements of intent that the parties will use to negotiate and draft final legal documents. The exceptions are typically exclusivity clauses (preventing the company from shopping the deal to other investors for a period) and confidentiality provisions.
The most important terms to negotiate are the pre-money valuation (which determines dilution), the liquidation preference (which determines how exit proceeds are distributed), and the anti-dilution provisions (which protect investors from future down rounds). A participating preferred liquidation preference, for example, can dramatically reduce founder returns in a modest exit scenario relative to a non-participating preferred structure. The difference can be millions of dollars at exit.
Founders receiving their first term sheet often focus excessively on valuation to the exclusion of structural terms. A higher pre-money valuation with aggressive preferred terms can leave founders economically worse off than a lower valuation with clean terms. Experienced venture lawyers and founder communities like YC's Startup School have done significant work to standardise "clean" term sheets — founders should have legal counsel review any deviation from NVCA or YC model documents before signing.