- The other category of terms in a term sheet are control terms. These are terms that discuss and describe who has control over what and most importantly, what aspects of the company the investor has control over. In a lot of cases, companies and entrepreneurs sort of think, well, controlling the board is the most important thing. As long as I control the board, I'm good. That's sort of true but not necessarily completely true. For example, there's usually a whole category of protected provisions in the term sheet that give affirmative control to the investor.
So these are situations where the investor has to say yes to anything happening. And they could be things including, for example, selling the company, raising debt that's above a certain amount of money, issuing options or expanding the option pool beyond what it already is. So these protected provisions that require affirmative control often shift a lot of control from the board to the specific investor, or at least make the investor, many of whom are on the board, have to think about the specific issue both from the perspective of a board member as well as an investor.
There's also usually a situation where investors have veto rights over certain things and this is important the recognize in the context of control, is that if have only one investor, that's all you're dealing with, you don't have to worry about it too much in terms of the rights between investors. But let's say you have four investors in a round, and those four investors in that round might or might not agree with each other on different things and let's say that two of them could decide to have something happen, and the other two don't have veto rights over that.
Or let's say that one of the investors has the ability to veto what the other three investors do. You could find yourself in a very complicated situation even though as an entrepreneur, you might view what's happening as completely logical. For whatever reason, one or more of the investors might view things in different ways. So recognizing and understanding the importance of the different control provisions is key and even more importantly, understanding which of your investors can influence which ones.
Recognize that in most companies the board of directors, especially early stage venture-backed companies typically has representation from some or all of the investors on the board. In a lot of these companies, no one has particular control over the board. You might have a board of five people with two founders and two investors and one outside director. Usually the boards are behaving in a very collaborative way, except for when there's conflict. It's particularly important to understand as an entrepreneur what the control dynamics are in situations with conflict because in those situations, you might have things that aren't easily resolvable, even if you think about it collaboratively, like that's a logical answer.
But if you're having conflict, who actually has the rights, and who has the controllability to do certain things in different situations that are difficult? Understanding that will help you understand what leverage you have or don't have in any particular situation.
- Exploring potential stakeholders: friends, family, and more
- Finding a venture capital firm
- Breaking down the term sheet
- Taking on debt
- Asking for NDAs
- Accepting a no