Can an entrepreneur back out of a signed term sheet without damaging his/her reputation?
I’m going to say Yes, probably.
There is a lot of drama around broken term sheets. Mostly around VCs backing out, not founders.
But here’s the thing — term sheet are term sheets. 95% of the time, they are non-binding statements of intent. For both sides.
Is it considered bad form to bail on a signed term sheet? Yes. For both sides. No doubt.
But you know, I’d like to think reputations get damaged over these things. But they don’t. All of the bad VC behavior I know of, 95% of other founders don’t care down the road, or at least, don’t bother to do due diligence. So few founders really do due diligence on VC firms.
And other VCs don’t really care much unless it truly damages their own portfolio.
I backed out of an unsigned term sheet once as a founder/CEO. Why? Well, the “lead” VC gave me a significantly lower valuation than we’d orally agreed. And tried to force us to take on a second investor we didn’t want. We’d talked about 20% dilution, and because of this, in the end the unsigned term sheet they gave me was 40% dilution. So I said no, and found another investor.
And they went ballistic, this multibillion-dollar fund. They threatened me. They shouted. They summoned me to their Sand Hill offices. Over an unsigned term sheet, for Yet Another Start-Up (aren’t there 1,000s?), where they changed the terms.
You know what? When we raised again, I told the next round investor exactly what had happened. I told them if they called this VC firm, they might hear bad things, and why. And the new investor got it, and didn’t care.
And that fund that shouted at me, after they changed the terms on an unsigned term sheet? It’s raised $4b+ since. So no harm to them there, either.
So be a good person. Do what is right. Treat people the way you’d want to be treated. Lead from the front.
But term sheets are a summary of terms. If someone’s wrong, something is off, something has changed. Do what you need to do.