The term sheet is short, mostly non-binding, and decides almost everything
A term sheet is usually two or three pages, and founders who have just been told "we're in" tend to skim it for the two numbers they care about — the valuation and the cheque size. That is the mistake. Those two numbers are the least negotiated part of the document. The clauses underneath them — liquidation preference, anti-dilution, board control, transfer restrictions — decide who actually gets what when the company is sold, who can block a decision, and whether a founder walks away with anything in a middling exit. This is a plain-English read of the terms that matter on an Indian priced round, and how they carry through into the shareholders' agreement (SHA) that makes them enforceable.
First: what is actually binding?
A term sheet is mostly a statement of intent, not a contract. The commercial terms — valuation, preference, board seats — are not binding until they are written into the definitive documents (the share subscription agreement, the SHA, and the amended articles). Two clauses usually are binding even at term-sheet stage: exclusivity (you agree not to shop the round to other investors for a set period) and confidentiality. So the practical rule is: you can still negotiate the economics after signing the term sheet, but you have often locked yourself out of talking to anyone else while you do. Read the exclusivity window before you sign.
The economics, part 1: liquidation preference
This is the single most important term most founders have never heard of. A liquidation preference decides who gets paid first, and how much, when the company is sold or wound up. It is expressed as a multiple:
- 1x non-participating (the fair, market-standard structure): on an exit, the investor takes back either their money (1x their investment) or their as-converted percentage of the sale — whichever is higher — but not both. In a good exit they simply convert to equity and take their share. This is what a founder should push for.
- Participating preferred (founder-unfriendly): the investor takes their 1x back first, and then also shares in whatever is left as if they were an ordinary shareholder — they "double dip". On a modest exit this can leave founders with far less than their ownership percentage suggests, and an uncapped participating preference can leave them with almost nothing.
A quick illustration. An investor puts in ₹10 crore for 20% on a 1x preference, and the company later sells for ₹30 crore. With 1x non-participating, the investor compares ₹10 crore (their preference) against 20% of ₹30 crore = ₹6 crore, takes the higher ₹10 crore, and the founders split ₹20 crore. With participating, the investor takes ₹10 crore first and then 20% of the remaining ₹20 crore = another ₹4 crore, so ₹14 crore to the investor and ₹16 crore to the founders on the same sale. Same headline valuation, very different outcome — decided by one word in the term sheet.
The economics, part 2: anti-dilution
Anti-dilution protects the investor if the company later raises at a lower price than they paid (a "down round"). It works by adjusting the rate at which their preference shares convert into equity, effectively giving them extra shares to compensate. There are two common flavours, and the gap between them is large:
- Broad-based weighted average (the market standard): the conversion price is adjusted using a formula that weighs the down round against the whole existing capital base. The investor is partly protected; the founders' dilution is real but proportionate. This is the fair default.
- Full ratchet (aggressive): the investor's conversion price is re-set all the way down to the new, lower price, as if they had invested at that price from the start — regardless of how small the down round was. This can wipe out a chunk of founder equity from a single soft round. Resist it; ask for broad-based weighted average.
Control: board seats and reserved matters
Economics decide who gets the money; control decides who runs the company. Two clauses matter:
- Board composition: how many directors each side appoints. Early on, founders usually keep a majority; watch for a structure that hands the investor a board majority or a swing seat at seed stage.
- Reserved matters (affirmative vote / veto rights): a list of decisions the company cannot take without the investor's specific consent — issuing new shares, taking on debt above a limit, changing the business, selling the company, altering the articles, related-party deals. A reasonable list protects the investor's minority stake. An overbroad one means the investor effectively runs the company despite owning a minority. Negotiate the list, not just the valuation.
Transfer and exit: ROFR, tag-along, drag-along — and why they must be in the articles
These clauses govern what happens to shares when someone wants out:
- Right of First Refusal (ROFR) / Right of First Offer (ROFO): before a founder or investor can sell shares to an outsider, the company or existing shareholders get first chance to buy them — so the cap table cannot be opened to a stranger without consent.
- Tag-along (co-sale): if a founder sells shares, the investor can "tag" along and sell their proportionate shares in the same deal, on the same terms — a minority-protection clause.
- Drag-along: the reverse — if a defined majority agrees to sell the whole company, they can "drag" the remaining shareholders into the sale so a small holdout cannot block an exit. The threshold that triggers it is worth negotiating.
Here is the part that is genuinely legal, not just commercial. Under Section 58 of the Companies Act, 2013, the shares of a public company are "freely transferable" — but the proviso to Section 58(2) expressly makes a contract or arrangement between shareholders restricting transfer enforceable as a contract between them. So a ROFR or drag clause in the SHA binds the people who signed it. To bind the company itself — and to be robustly enforceable, which for a private company is essential because a private company is required to restrict share transfers in its constitution — those same restrictions must be written into the Articles of Association (AoA). A transfer restriction that lives only in the SHA and never makes it into the amended articles is the classic diligence gap. This is why papering a round is not just signing the SHA; it is also amending the AoA to match.
The rest of the page: pre-emptive and information rights
- Pre-emptive / pro-rata rights: the investor's right to participate in future rounds up to their percentage, so they can avoid being diluted as the company raises more.
- Information rights: the investor's right to periodic financials, an audited annual account, and often a board-level information pack. Reasonable for any institutional investor.
- ESOP pool: term sheets usually require an option pool to be created (or topped up) before the round, which means the dilution of that pool falls on the founders, not the new investor. How ESOPs are then taxed is a separate matter we cover in our guide to ESOP taxation.
From term sheet to closing: the documents that make it real
Once the term sheet is signed, the deal is papered into three linked documents: the Share Subscription Agreement (SSA) (the investor's promise to pay and the company's to issue), the Shareholders' Agreement (SHA) (all the governance and transfer terms above), and the amended Articles of Association (which import the enforceable terms into the company's constitution). For a foreign investor, the whole thing also has to clear the India overlay — the round is almost always issued as CCPS, priced above the FEMA floor, and reported to the RBI on FC-GPR. The instrument mechanics behind that are in our guide to convertible notes, CCPS and the SAFE problem, and the clean-cap-table discipline that survives diligence starts with the documentation habits we describe in our explainer on the end of angel tax.
How we handle it at RDA, Baner
At RDA Advisory, Baner, we read the term sheet with the founder before they sign it. We flag a participating preference or a full-ratchet anti-dilution clause, sanity-check the reserved-matters list and board structure, and make sure the transfer restrictions that protect you are actually carried into the amended articles — not left stranded in the SHA. Then we complete the closing mechanics: the SSA and SHA alongside the company-law filings, the FEMA valuation and FC-GPR reporting where a foreign investor is involved, and Form PAS-3 for the allotment. The result is a round that holds up when a Series A investor's lawyers read it two years later. Office No. 102, Snehraj Apartment, Baner, Pune 411045 · call +91 77570 45059.
Handed a term sheet? Read it with a CA before you sign
Raising in Pune and staring at a term sheet? RDA decodes the economics and control terms, negotiates the ones that matter, and papers the round so it is both compliant and clean for future diligence. Book a consult at rdatax.in or call +91 77570 45059 — RDA Advisory, Baner, Pune. Start with our Startup India and DPIIT recognition guide, and see how the money actually comes in through convertible notes and CCPS.
Verification note: The legal position stated here — that under Section 58 of the Companies Act, 2013 the shares of a public company are freely transferable, while the proviso to Section 58(2) makes a contract or arrangement between shareholders in respect of the transfer of securities enforceable as a contract between them, and that a private company is required to restrict the transfer of its shares through its articles of association, so transfer restrictions agreed in a shareholders' agreement are best incorporated into the articles to bind the company — is based on the Companies Act, 2013 as administered by the Ministry of Corporate Affairs (mca.gov.in), read with the FEMA pricing and FC-GPR reporting framework of the Reserve Bank of India (rbi.org.in) for foreign-investor rounds. The commercial terms described (liquidation preference, anti-dilution, drag-along, tag-along, ROFR and reserved matters) are market conventions, not statutory requirements, and their meaning depends entirely on the specific drafting in your documents. This is general information, not legal advice; have your actual term sheet and shareholders' agreement reviewed by your CA and company secretary before signing.
