Conquering the Term Sheet

Everything You Need to Know About Deal Terms

Part 2

David StarkPartner, OurCrowd

@starkupnation

Zack MillerPartner, OurCrowd

@newrulesinvest

OurCrowd

Leading equity crowdfunding platform with 8000+ investors

from over 100 countries

Quick ReviewLesson 1 - Equity

Valuation Liquidation preferences

ESOP

Key takeawayNeed to look at the

WHOLE term sheet to see the full

picture

Mailbox: Liquidation preferences

preferred shares automatically convert to common in a

qualified IPO

Q: What happens to liquidation preferences in

the event of an IPO?

Mailbox: Investment amount

Warrants are the rights to invest X amount at $Y for a period of Z

months.

Q: Can you explain how warrants work?

Real life example: Currently funding company on OurCrowd.com with 15% warrant coverage at current

price (for 2 years)

Today’s agenda

Pre-emptives Anti-dilution provisions

Board of Directors Information Rights

Veto Rights Right of first refusal Drag along rights Registration rights

Pre-emptive (Pro-rata) Rights

Pro-rata right is the right to invest in later rounds in

order to maintain your ownership

–Fred Wilson, Union Square Ventures

“I think pro-rata is the single most important term anyone can negotiate for in a venture

capital investment.” (Source)

Because returns in early stage investing come from a small portion of

your portfolio and therefore, you want to own as much as you can in the winners

Let’s illustrate

Ownership % in the company * new investment amount = pro-rata right

Invest $100k at $10M post, you own 1% Say the company raises $5M at $20M premoney They are selling 20% of the company and you would be diluted to 0.8% (without pro-rata)

Formula

Example

If you want to maintain 1% holding, then you would invest 1% of the $5M (or, $50k)

Implications for upround, downround scenarios

Individual angels rarely get “the most important right” (prorata) —>

institutional investors (like OurCrowd and VCs) do

Current''Ownership'

Total'New'Investment'

Post'Money'Ownership'

1%'1%' ?'

100%'of'the'company'

25%'being'sold'to'new'investor'

25%'

.75%'

.25%'1%'

25%$99%$ 74%$

Current''Ownership'

Total'New'Investment'

Post'Money'Ownership'

1%'1%' ?'

100%'of'the'company'

25%'being'sold'to'new'investor'

25%'

.75%'

.25%'1%'

25%$99%$ 74%$

Current''Ownership'

Total'New'Investment'

Post'Money'Ownership'

1%'1%' 1%'

100%'of'the'company'

25%'being'sold'to'new'investor'

25%'

.75%'

.25%'1%'

25%$99%$ 74%$

Anti-dilution provision

protection from dilution resulting from later issues of stock at lower price than investor originally paid

Definition

Weighted Average

Full Ratchet Broad-based Narrow-based

if company issues shares at a lower

price, earlier price is effectively reduced

to price of new shares

NCP = OCP * ((CSO + CSP) / (CSO + CSAP))

NCP = new conversion price OCP = old conversion price CSO = common stock outstanding CSP = common stock purchasable with consideration received by company (i.e. “what the buyer should have bought if it hadn’t been a ‘down round’ issuance”) CSAP = common stock actually purchased in subsequent issuance (i.e., “what the buyer actually bought”)

CSO = ALL shares of stock outstanding, including

options, ESOP, convertible securities

CSO = Only the number of shares of the series of Preferred that is being

adjusted

Anti-Dilution Provision

Without Anti-Dilution

Investor A invests $2M at $8M pre (20% ownership) Investor B invests $5M at $7.5M pre (40% ownership)

Full Ratchet

Investor A invests $2M at $8M pre (20% ownership) Investor B invests $5M at $7.5M pre (40% ownership)

Broad-Based Weighted

Investor A invests $2M at $8M pre (20% ownership) Investor B invests $5M at $7.5M pre (40% ownership)

Narrow-Based weighted

Investor A invests $2M at $8M pre (20% ownership) Investor B invests $5M at $7.5M pre (40% ownership)

Anti-dilution Cheat Sheet

Investor A invests $2M at $8M pre (20% ownership) Investor B invests $5M at $7.5M pre (40% ownership)

Vesting

Key here is to ensure management’s commitment

What’s a cliff?

Typical Schedule

?

Board representation

• Liquidation preference • Right to participate pro-rata in future rounds • Right to a board seat

–Fred Wilson, Union Square Ventures

The 3 terms you must have in a venture investment (other than price):

Typical Board Composition

Investors, Founders, Industry Expert

What does a BOD do?• corporate governance • approving annual budgets • accounting to the stakeholders for the organization's

performance • selecting, appointing, supporting and reviewing the

performance of the chief executive; • ensuring the availability of adequate financial resources • setting the salaries and compensation of company

management

director vs.

observer

Information rights

Starting point: Entrepreneurs want happy investors and owe them communication. How much, though?

Veto rights

Protective and Control

Right of first refusal / Co-saleIf common holders want to sell stock, investors

have a right of first refusal on purchasing the stock or they have the right to participate in the

proposed sale

Bring along/Drag alongMajority shareholders

can force minority to sell

Registration rights

• an investor’s right to force a company to list shares publicly so investor can sell them

• demand registration, piggyback rights, S-3

Next step?

Join us next week for Lesson 3Other common investment structures:

Convertible Notes SAFEs

OurCrowd.com

Check out our real-life term sheets by

accrediting on our website