There have been many great posts about the various terms that go into a termsheet for a venture investment. As a result entrepreneurs are much better informed which is a good thing all around. I am still puzzled at times though at the approaches taken by both VC firms and entrepreneurs when it comes to actually negotiating a term sheet. Here are a few things that I have learned.
For VCs (I have written about the VC side before, but this seems worth repeating): Behavior during the term sheet phase is not an unreasonable predictor for later behavior. So avoid exploding offers or sending fully baked and signed term sheets. When it comes to justifying a specific term “we always get this” is not an actual argument. In a reasonable term sheet every term is just that: reasonable. So be willing to take the time to explain why that term is there. And if there is no good explanation, take it out. Don’t send a term sheet that your firm doesn’t stand behind or has some undisclosed contingency.
For Entrepreneurs: Don’t play your cards too close especially for an early stage investment. If you want to work with a firm and have an offer that you don’t like make sure to communicate. You don’t know what someone is willing to change unless you engage in a dialog with them. Beware the high bidder. They are much more likely to suffer buyers remorse the second you hit the first bump in the road (cf “winner’s curse” in auctions). Optimize in the following order: syndicate (who do you want to work with), terms, and only then price. Of course that prioritization applies only once the price is in striking range. If you are very far apart on price with a firm you like take the time to understand why and consider changing the size of the financing. Don’t simply assume that a gap can’t be bridged until you have engaged in a dialog.
For both sides: Whatever you do, keep in mind this is not about “winning” a negotiation. It is about starting a long term partnership on the strongest possible foundation. With that as guidance you are likely to behave very differently and everyone will be better off.
