A term sheet is a pre-contractual document. It sets out the key terms of a transaction agreement between parties. A term sheet can also be called a heads of agreement or memorandum of understanding and is drawn up prior to more formal, long-form documents. You can use a term sheet to negotiate key terms and it can be binding or non-binding.
A term sheet is short, usually in table or dot-point form for clarity. It covers the most important elements of the transaction. Because of its generic form, you can use a term sheet as a template. Commonly, we see term sheets used for sale of business transactions, share sales, and capital raising. This article shows how you can use a term sheet:
- when selling or purchasing a business;
- when selling or purchasing shares; or
- when doing a round of capital raising.
1. Selling or Purchasing a Business
When selling or purchasing a business, the details of the transaction can be quite complex. You may only be selling particular assets or the seller might be staying on with the business for a period of time. In other situations, payment might be in installments or financed via a vendor loan. Further, there might be a number of conditions that must be met before the sale can complete.
When your sale is not completely clear, a term sheet is a very useful document for early negotiations. It is simple and cost-effective to prepare. A term sheet can be quickly reviewed by each party, speeding up negotiations and ensuring parties are clear on the deal before preparing the formal documents. This also means you can easily draft the formal documents, making it a more cost-effective process.
2. Selling or Purchasing Shares
A share sale can also be a complex transaction. In addition to the aforementioned complexities of a business sale, the purchaser may only be purchasing a portion of shares or the two parties could be continuing business together. If this is the case, it is likely that you will need not just a share sale agreement, but also a shareholders agreement or employment agreement.
When preparing for a more complex share sale, you can use a term sheet to clearly set out the key terms of the future share sale agreement. It can also highlight what will be contained in the accompanying documents.
3. Capital Raising
Another common way to use a term sheet is in the early stages of a capital raise. When a company wishes to bring on an investor, there are key terms which both parties should agree upon upfront. For example:
- How much is the investor investing and at what valuation?
- Will there be other investors investing at the same time?
- Will the investor receive a seat on the board or preferential terms for their shares?
- Is there a shareholders agreement and what are its key terms?
A term sheet for a capital raise should set out all of this within one to five pages. Parties can negotiate the term sheet before drafting the formal investment documents. Most term sheets associated with capital raises are non-binding. However, they will include some binding provisions, such as confidentiality protections for the parties.
It is always important to include all key terms when you use a term sheet. If the other party adds something to the formal documents later on and you do not agree, this can cause considerable issues. If the term sheet is binding, parties may not be able to modify terms or add in other key terms. Even if the term sheet is not binding, the formal documents should reflect the term sheet or else the deal may fall through.
If you require assistance with preparing or reviewing a term sheet, get in touch with one of LegalVision’s commercial lawyers on 1300 544 755 or fill out the form on this page.
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