1.Term Sheet: The First Step in Negotiation
What is it?
A term sheet is a non-binding document that outlines the key terms of a potential investment. Think of it as the “first handshake” between you and your investor.
Example: Imagine a Bangalore-based fintech startup, “PayEase,” negotiating with a VC. The term sheet will specify the investment amount, valuation (say, ₹20 crore pre-money), board seats, and investor rights like anti-dilution protection, inspection, information.
Key Points:
- Valuation: Pre-money and post-money values.
- Investment Amount: How much the investor will put in.
- Control: Board composition, voting rights.
- Exit Options: IPO, acquisition, etc.
Why it matters:
While most clauses are non-binding, some (like confidentiality and exclusivity) are enforceable. This document sets the tone for all further negotiations.
2.Shareholders’ Agreement (SHA): The Governance Blueprint
What is it?
The SHA is a legally binding contract that details the rights and obligations of all shareholders. It’s the most critical document post-term sheet.
Example:
Suppose “GreenRide,” a Bangalore-based EV startup, closes a seed round. The SHA will specify how decisions are made, who sits on the board, what happens if a founder leaves, and how shares can be transferred.
Key Clauses
- Voting Rights & Board Composition: Who gets to make key decisions
- Exit Mechanisms: What happens in an IPO or acquisition.
- Anti-dilution: Protects investors if future funding happens at a lower valuation.
- Pre-emption Rights: Existing investors’ right to participate in new rounds.
- Transfer Restrictions: Prevents unwanted share transfers.
Why it matters:
The SHA supplements your Articles of Association and is crucial for conflict resolution and protecting minority shareholders.
3.Subscription Agreement: Executing the Investment
What is it?
This agreement formalizes the investor’s commitment to buy shares or convertible instruments at a specified price.
Example:
If “HealthTrack,” a Bangalore healthtech startup, is raising ₹5 crore, the subscription agreement will specify how many shares the investor gets at what price and the payment schedule.
Key Elements:
- Number of Shares & Price: Clear allocation.
- Payment Terms: When and how the money is paid.
- Conditions Precedent: What needs to happen before closing.
- Warranties: Assurances from both sides.
Why it matters:
It ensures the legal transfer of ownership and helps avoid disputes over share allocation.
4.Convertible Note Agreement: Flexible Early-Stage Funding
What is it?
A convertible note is a debt instrument that converts into equity at a future event, usually the next funding round.
Example:
“CodeNest,” a Bangalore SaaS startup, raises ₹50 lakhs from an angel investor via a convertible note. The note specifies that the amount will convert into equity at a 20% discount when the next round happens.
Key Terms:
- Maturity Date: When the note must convert or be repaid.
- Interest Rate: Often used to increase shares, not paid in cash.
- Discount Rate: Early investors get shares at a discount.
- Valuation Cap: Maximum valuation for conversion.
Why it matters:
Convertible notes are fast and flexible, ideal for early-stage startups that want to delay valuation discussions.
5.SAFE/iSAFE Notes: Simple, Founder-Friendly Instruments
What is it?
SAFE (Simple Agreement for Future Equity) notes, popularized by Y Combinator, have been adapted in India as iSAFE notes. These are not debt and have no interest or maturity date.
Example:
“UrbanGro,” a Bangalore agri-tech startup, issues iSAFE notes to early investors. The notes convert into equity during the next priced round, with minimal paperwork and no interest.
Key Features:
- No Interest or Maturity: Less pressure on founders.
- Conversion on Trigger Events: Funding round, acquisition, or IPO.
- Founder-Friendly: Deferred valuation, simple documentation.
Why it matters:
iSAFE notes are increasingly popular in India for their simplicity and compliance with local regulations.
6.ESOPs and Employment Agreements: Attracting Talent
What is it?
Employee Stock Option Plans (ESOPs) allow startups to offer equity to employees, aligning their interests with the company’s growth.
Example:
“Shoply,” a Bangalore-based e-commerce startup, grants ESOPs to its first 10 employees, with a 1-year cliff and 4-year vesting schedule.
Key Components
- Vesting Schedule: Minimum 1-year as per SEBI.
- Exercise Price: Price at which employees can buy shares.
- Repurchase Rights: Company’s right to buy back shares if an employee leaves.
Employment Agreements cover job roles, compensation, confidentiality, and termination.
Why it matters:
ESOPs help attract and retain top talent, which is crucial in Bangalore’s competitive startup ecosystem.
Explore: SEBI ESOP guidelines
Document Comparison Table
Document | Purpose | Binding? | Typical Timeline | Key Focus |
Term Sheet | Initial negotiation framework | Non-binding* | 2-4 weeks | Valuation, basic terms |
Shareholders’ Agreement | Governance & relationships | Legally binding | 4-8 weeks | Control, exit rights |
Subscription Agreement | Share issuance formalization | Legally binding | 1-2 weeks | Transaction execution |
Convertible Note | Early-stage debt-to-equity | Legally binding | 2-3 weeks | Deferred valuation |
ESOP Agreement | Employee equity participation | Legally binding | 3-4 weeks | Talent retention |
*Some clauses (confidentiality, exclusivity) are binding.
