Term sheet line-by-line: liquidation preference, anti-dilution, drag-along, tag-along
A term sheet is two pages. Two of those pages decide who gets what when the company is sold. Read them like that, not like a price quote.
Most founders see the term sheet and look first at the valuation. Then they look at the round size. Then maybe they ask their lawyer what the rest means. By then it is too late to push back without looking unprepared.
Here is the order we read it in.
Liquidation preference. The number that decides what happens on an exit. A 1x non-participating preference means the investor gets their money back OR their pro-rata share, whichever is bigger. A 1x participating preference means they get their money back AND their pro-rata share — double-dipping. A 2x or 3x preference is rare in growth-stage India deals but shows up in distress rounds. If the term sheet has a participating preference, push back. Hard.
Anti-dilution. The clause that protects investors if you raise a future round at a lower price (a 'down round'). The market-standard form is broad-based weighted-average — a partial adjustment that reflects how much new dilutive issuance happens. The aggressive form is full-ratchet, which adjusts the investor's price all the way down to the new round's price, regardless of size. Full-ratchet was common in 2014–2017. Avoid it.
Drag-along. The clause that lets a majority of preferred shareholders force a sale on the rest. Reasonable in principle — you do not want a 2% holder blocking a $200M exit. The question is the threshold. Pure majority is too low; 75% of preferred and a majority of common is the comfortable range. Insist on a minimum value protection — drag-along only kicks in above a defined exit value.
Tag-along. The mirror image — if a major shareholder sells, minority shareholders can 'tag along' on the same terms. This is founder-friendly and you want it generous.
Pre-emptive rights. The right of existing investors to participate in future rounds. Pro-rata is standard. Over-pro-rata (i.e., taking more than their existing percentage) is a negotiation point — investors will often ask, and you can usually negotiate it out.
Board composition. How many seats, who appoints them, who chairs. The right structure for an early Series A is two investors, two founders, one independent. Investor-majority boards at Series A are a red flag and reflect either a distressed company or a weak negotiating position.
Vesting and reverse-vesting. The investor will usually ask the founders to put their shares on a four-year vesting schedule starting at the closing. This is reasonable. The version to push back on is one-year cliff with no credit for time already served.
Information rights. Quarterly financials, annual budget approval, audited statements. Standard. The thing to watch is veto rights on operating decisions — the term sheet should list these explicitly. If a founder needs investor consent to hire a single engineer, that is a problem.
Read the term sheet in this order. Spend ten minutes on each of these clauses, not on the valuation. The valuation is a number you negotiate up by 15% with a good story. The clauses are what determine the next five years of how this company runs.
