- More top firms are attaching short expiration dates to their investment offers, VCs tell Insider.
- These “exploding” term sheets can force founders to make decisions in as little as 24 hours.
- “They are a disservice and, frankly, an insult,” a founder said.
Last year, a founder stared at an investment offer from a venture capitalist for “many tens of millions of dollars” and was furious. “I swore out loud and said no way,” he said.
It was an offer of a significant amount of capital that could have taken his e-commerce startup to the next level. But a single clause soured it: The firm gave the founder 24 hours to accept — or else the offer would disappear.
It was what’s colorfully known in the industry as an “exploding” term sheet. But to that founder, “it’s just bulls—,” he said.
This is a choice that a growing number of founders are being forced into: Make a major legal, contractual decision in a day, or watch what could be life-changing money for the company slip away.
The founder, who spoke on condition of anonymity to protect his relationship with the firm, turned down the millions. To his surprise, the firm came back with better terms, which the founder still ultimately turned down.
Exploding term sheets used to be the tool of choice only for less desirable investment firms. But they are becoming more common in Series A and B funding rounds, according to four venture capitalists and founders Insider talked to.
The expiration date can vary from five days to just 24 hours.
“Even the best firms are using it, while previously they would have taken the high road and said, ‘Hey, we want you to pick us because we are the smartest, most experienced, and best partners for you,'” Villi Iltchev, a partner at Two Sigma Ventures, told Insider.
In a world where Tiger Global can close a deal every business day and Silicon Valley is awash with unicorns, venture capitalists said exploding term sheets were just a reaction to an ultracompetitive dealmaking market.
Investors are using the tactic to pressure founders into taking their deals without shopping around for better offers, venture capitalists said.
An ‘insult’ to founders
But they antagonize founders.
“They are a disservice and, frankly, an insult to the founder,” Iman Abuzeid, a cofounder of Incredible Health, said.
Investors are more than just a source of money. These are years-long relationships, sometimes involving board seats where the investor is influencing major company decisions. Being pressured “does not bode for a successful relationship,” Abuzeid said.
John Tough, a managing partner at Energize Ventures, suggested exploding term sheets rarely have teeth and that firms often capitulate instead of losing the deal all together.
“There’s enough capital out there that it’s generally just a negotiating tactic to make you accelerate your process,” he said.
But even if it’s a just hollow play, an expiration date can panic founders and force them to guess at a crucial question: Is it a bluff?
“It’s literally the $100 million question sometimes,” Tough said.
What to do if you receive an exploding term sheet
When Abuzeid was raising Incredible Health‘s seed round, she received a term sheet set to expire after a few days. When she asked for a week, the investor told her, “We made a fast decision on our end, so we need you to be fast as well.”
He wasn’t bluffing. The offer expired, but Abuzeid said all she felt was relief.
“If this is how we’re starting, I mean, I can’t even imagine what drama and problems are going to show up later,” she said.
Jason Boehmig, a cofounder of the digital-contract startup Ironclad, said choosing an investor was comparable to the hiring process. He wouldn’t hire someone who was dictating terms in a “totally unnecessary and very draconian way at the beginning of our relationship,” he said.
Similarly, Boehmig recommended turning down investors that give you tight expiration dates.
“That investor is going to be a disaster when it comes time to have an exit event or if you ever have to sell the company,” he said.
Of course, turning away millions is easier said than done. Jenny Decker, the chief financial officer at the email-collaboration startup Front, navigated exploding term sheets during the company’s $59 million Series C round last year.
Decker found that exploding term sheets often didn’t actually expire as long as both parties were communicating about their ideal timelines and expectations.
“If the venture firm or the investor feels like you are negotiating in good faith, they’re not going to think twice about the expiration date in the offer,” she said.
But if all the offers are truly exploding, founders should “go with people you’ve known longer,” as long as the terms are relatively similar, Tough said.
Once the term sheet is signed, a 24-hour decision becomes a permanent relationship.
“You cannot break up with your investor,” Abuzeid said. “They’re with you for the entire journey.”