A sophisticated investor’s terms can be both confusing and daunting, particularly for first-time entrepreneurs. Negotiating a term sheet is something that you might do three or four times over the course of your entrepreneurial career. Investors negotiate that many every month. They are experts at the process and understand the nuances and implications of every…single…word. One seemingly insignificant detail could mean millions of dollars to you down the line.
Given the asymmetry of this negotiation, there are two things you need to do. First and foremost, get a lawyer who specializes in early-stage financing. Not just any lawyer will do – he or she must have negotiated dozens (ideally hundreds) of term sheets similar to yours. Resist the temptation to call in a favor from your lawyer friend. You need an expert on your team who can go toe to toe with the investor.
Next, if you don’t understand the implications of a term, ask the investor for clarification by way of an exit analysis model that shows how money will be paid out given different scenarios. You need to model the scenarios because it’s too easy to get confused with vague, verbal explanation of the terms. By doing these two things, you’ll level the playing field and get down to the brass tacks of the terms.