How to read a term sheet, line by line

A term sheet is an indication of what a funder is prepared to do, subject to conditions. It is not a commitment, it is usually not binding except for a few specific clauses, and it is the last document in the process you can still influence. Read it as a worksheet, not an announcement.

The eleven things to extract

Write these down in your own list, in your own words, from whatever format the document arrives in.

The two calculations to run before you respond

If both numbers are acceptable, you have an offer. If only one is, you have a problem that structure might fix — a longer term, weekly instead of daily, a smaller amount.

Illustrative only — two term sheets, worked

Offer A: 3% origination deducted at funding, 24 monthly payments, a 15% nominal note rate. You receive $116,400. The payment is $5,818.40 and the total repaid is $139,641.60. Cost per dollar received is 1.1997, and the annualised cost computed on the cash you actually got is 18.1%.

Offer B: a 1.5% program fee plus an $895 documentation charge deducted at funding, 30 monthly payments, a 13.5% nominal note rate. You receive $117,305. The payment is $4,735.14 and the total repaid is $142,054.20. Cost per dollar received is 1.2110, annualised on cash received 15.4%.

Read those two rows carefully, because they disagree. A is cheaper per dollar received — $139,641.60 against $142,054.20 — and it carries the higher annualised rate. B is the cheaper rate and the more expensive deal, because it is outstanding for six months longer. It also asks $1,083 less a month, which is the number that decides whether you can run the business.

Neither figure alone answers the question. Write all three down for every offer — total dollars, cost per dollar received, and the payment — and the comparison becomes obvious rather than arguable.

What is often missing, and should be asked for

• Prepayment terms. Is there a discount for early payoff, a fixed total regardless of timing, or a prepayment penalty? On many advances the full factor is owed whenever you pay, so early repayment saves nothing.
• The reconciliation mechanism. On percentage-based products, whether adjustment when sales fall is mandatory or discretionary, what you must file to request it, and how quickly.
• Renewal. Whether the offer assumes you will renew, and what happens to the outstanding balance if you do.
• Default pricing. Late fees, NSF fees, default rate, and what constitutes default.
• Who the counterparty actually is. The legal name of the entity that will hold the paper, which may not be the brand on the email.

Then compare the term sheet with the contract

The contract governs. The term sheet does not. When the documents arrive, put them side by side and check every one of the eleven items above against the executed version — this is exactly where numbers move, and it is covered in why an offer changes between the term sheet and the contract.

Anything a salesperson promised that is not in the contract does not exist. Most agreements contain an integration clause saying so explicitly.

The reply to send

A term sheet is an invitation to ask, and most owners answer it with a signature instead. One email, sent the day it arrives, closes almost every gap this article describes:

1. Please confirm the net amount that will reach our account, in dollars.
2. Please confirm this is the complete list of amounts payable at or before funding.
3. Please confirm the total repayment, including anything payable at the end.
4. What is the prepayment position — discount, no saving, or penalty?
5. What is the exact legal name of the entity that will hold this agreement?

Five questions, and the answers are either in writing or they are not. A funder that answers four of five has told you which one to worry about.

What changes after you sign it

Signing commits you to less than people think and more than nothing. Exclusivity, confidentiality, expense reimbursement and any deposit typically bind immediately, which means that from signature you may be barred from shopping the deal, liable for third-party costs whether or not it closes, and out of pocket on a deposit.

Check three things before signing the sheet itself: whether exclusivity has an end date, whether expense reimbursement is capped or open-ended, and what happens to the deposit if the funder declines after diligence rather than you walking away.