The Ideal First Round Term Sheet (continued)
So Adeo Ressi of The Funded has posted his version of the idea first round term sheet. TechCrunch blogged about it here.
I have not had a chance to go through the term sheet line by line and evaluate it against other versions I've seen. I do think it is progress that we've got a discussion going on about this issue and I hope we'll coalesce around something standard that we can all use.
But I thought I'd address the three terms that TechCrunch highlights about The Funded's term sheet:
- A 1X liquidation preference – I am all for this. I cannot imagine why anyone would want a multiple liquidation preference in a first round term sheet. There are reasons why that might make sense in a late round financing, but not in a first round.
- Elimination of participating preferred – I prefer a straight preferred but there are times when a participating preferred makes sense, even in a first round. When the valuation gets bidded up to a price that would not allow the investors to make a return on an exit in the short term, and when the entrepreneur wants to control the exit, it makes to issue a participating preferred so that the investors can still get a return on their capital in the event of an early exit (the quick flip). If a participating preferred is used, it should go away at some multiple of the price paid (I prefer 3x).
- Single trigger acceleration – I don't like this provision for a lot of reasons. Chris Dixon, who started this whole discussion off last week, describes it well in this blog post. Chris recommends a double trigger with a partial single trigger acceleration:
acquired and you are fired). In addition you should have partial
acceleration on “single trigger” (company is acquired and you remain at
company). I prefer a structure where you accelerate such that you have
N months remaining (N=12 is a good number). This gives the acquirer
comfort that the key people will be around for a reasonable period of
time but also lets the founders get the equity they deserve without
spending years and years at the acquirer.
There are now about a half dozen templates out there for the ideal first round term sheet. There is the Y Combinator version, the Wilson Sonsini version, the Cooley version, the Gunderson version, and now the Funded's version. I am on vacation today and trying to unplug as much as possible so I am not going to hunt all these down and link to them. Maybe someone will do that in the comments.
The bottom line is this is a great conversation and we are headed to a place where we will see more standardization of terms, lower legal fees, and better terms for entrepreneurs. But there are times when you need to veer off the standard form and it's important to recognize when that is and why.