Fundraising adviser, Mountside Ventures, today released their inaugural Term Sheet guide, entitled, “Demystifying Venture Capital Term Sheets.” The report provides insights from 203 global venture capital investors, with over £11 billion in assets under management investing in over 1,000 deals per year, on the typical terms they offer founders. The report is published in partnership with Landscape VC and Beauhurst.
“Term Sheets are a crucial tool for founders which dictate the terms that an investment will be structured. Whilst founders can lean on their advisers (like us!) to help them with this, having an upfront understanding of the market, the different types of investors and why this impacts their terms, provides an invaluable advantage as you start your fundraising journey” says Jonathan Hollis, Managing Partner of Mountside Ventures.
The objective of the report is to increase transparency in the early-stage fundraising ecosystem by demystifying the world of term sheets for founders, as well as to provide benchmarks for VCs on how their peers are investing and how competitive their terms are.
“We want to give entrepreneurs the know-how to be able to understand the key components of a term sheet. This is a useful benchmarking exercise, even for founders who have raised capital previously and know their way around a term sheet; “market standard” is not a static concept” says Jonathan Hollis.
Highlights of the Report Include…
Share preferences: 80% of all investors surveyed expect preference shares rather than ordinary shares, with the most common being a 1x non-participating liquidation preference. Only 14% of such investors expect a participating preference.
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Valuation: Beauhurst’s market insights show that although rumours of valuation squeezes increasing, this has not yet been reflected in the data. Between 2011 and 2021, the average pre-money valuation has more than tripled; rising from £6m in 2011, to £29m in 2021. A large contributing factor to this growth is the increase in mega round deals during this time period.
Fees: Most investors charge fees to their investee companies in order to cover the operational costs of their fund (19% charge no fees). These fees can be split into two components: one-off deal fees (e.g. external legal, commercial and financial diligence fees), and ongoing annual management fees, often charged in advance (e.g. arrangement, board and monitoring fees).
Looking at all investor types, the majority of investors (c. 70%) recharge their deal fees to the companies they invest in. On average, these fees are around 1% of the investment.
VCs are less likely to charge management fees to investee companies than other types of investors, as the majority of VC funds recharge their management fees to their limited partners (typically 15% over the fund cycle) rather than their portfolio companies. The most common fee structure for those investors is 1%-2% of the fund size. On the other hand, EIS and VCT investors are more likely to charge management fees to their portfolio companies. The most common fee structure for those investors is between 5%-7% of the cheque size.
Board presence: The majority of investors (c. 80%) will expect a board seat, especially if they are leading the round. This will typically be accompanied by a list of Board Reserved Matters over which the Investor Director will have a veto right.
Founder vesting: There was significant variance across the investor landscape on what is “market” for founder vesting, with no clear approach on the percentage of vesting shares or a vesting schedule and terms. In our experience, this is the most hotly contested and negotiated area of the term sheet. However, the survey was clear that almost all investors (98% of those surveyed) will require reverse vesting over a percentage of founder shares; the most common position being that such shares will vest monthly over a 4 year period, with a 12 month cliff.
Share options: The majority of investors, irrespective of type and stage, ask founders to create or top-up their share option pool. “Market standard” for a share option pool is 5-10% of the total equity (57% ask for this), although many funds require 10-15% (32% ask for this). This is important for investors to see that founders have ringfenced value to incentivise existing management and attract new talent. As expected, for earlier stage rounds, founders are more likely to be asked to reserve a higher portion of the equity for share options.
Exclusivity period: 35% of investors expect a 4 week exclusivity period, which operates as a binding term in the term sheet.
Transaction timeline: the majority of funds (c. 50%) expect to take 8-12 weeks to perform their diligence and agree the equity documents. The quickest funds are able to complete an investment in under 2-3 weeks; this data likely represents small cheque sizes, with limited due diligence.
“I can see this Term Sheet report becoming a staple of founder education in the market,” says Chris Smith, Managing Partner at Playfair Capital.