This article provides a comprehensive overview of term sheets in business transactions and investments, particularly in the Indian legal context.

What is termsheet?

A term sheet is fundamentally a non-binding document that outlines the basic terms and conditions of a potential business transaction or investment. While the passage romanticizes it as a “tapestry” and “blueprint,” it’s more accurately described as a preliminary agreement that helps parties align on key deal points before investing time and money in formal legal documentation.

Legal Precedents on enforceability of termsheet:

In the recent order by Delhi High Court in the matter of Oravel Stays Pvt. Ltd. (Oyo) vs. Zostel Hospitality Pvt. Ltd. (Zostel), the issue of enforceability of termsheet has been reviewed thoroughly, where the Delhi High Court quashed the decision given by the Arbitral Tribunal which had upheld the termsheet signed between Oyo and Zostel, as both the parties i.e. Zostel and Oyo have undertook substantial steps and action to fulfil the obligations as defined in the termsheet. The decision by Delhi High Court settled the issue that termsheet are non-binding documents that express intent for investment through definitive agreements, but are not complete agreements themselves.

Why do we need termsheet in the first place?

In case of dispute among the investors and promoters, the litigation can be commenced based on reps and warranties, why can’t we do all of this with a handshake or a simple document? Given that there are only few things that really matter, why have all of the ponderous structure and legalese?

It turns out nothing in the Companies Act, 2013 or in the Indian Contract Act, 1872, there is any requisite which makes the termsheet mandatory prior to any investment in the company.

Mostly the negotiations between the investor(s) and the promoters are done literally by shaken hands and agreed on valuations, board structure, option pool size verbally or over email. While this approach works if there is close relationship between investor(s) and promoters.

Regardless of whether a termsheet is drafted or not, a plethora of legal documents will need to be created. However, termsheet serve several practical purposes:

1. Investor Protection: Investors need documented terms to satisfy their own investors and auditors;
2. Risk Mitigation: Prevents costly misunderstandings later in negotiations;
3. Alignment of Intent: Ensures all parties understand the fundamental deal structure;
4. Early Problem Resolution: Surfaces major disagreements before significant legal costs are incurred.

In termsheet, economic and control provisions are the major considerations that matter to ensure incentives are aligned and that potential bad behaviour is mitigated.

Economics refers to the return the investors will ultimately get in liquidity event, usually either on the occurrence of events such as a sale of the company, a winding up, an initial public offer (IPO), buy back by the promoters or third parties, etc. and the terms that will be direct impact on the return.

Control refers to the mechanisms that allow the investors either to affirmatively exercise control over the business or to veto certain decisions the company can make.

Key elements that an effective term sheet should include the followings:

1. Financial Terms: Purchase price, valuation, payment structure, and any earn-out provisions.
2. Deal Structure: Asset purchase vs. stock purchase, merger structure, or investment type.
3. Key Conditions: Due diligence requirements, regulatory approvals, and closing conditions.
4. Timeline: Important milestones and expected closing date.
5. Exclusivity Provisions: No-shop clauses or break-up fees (these are often the only binding portions).
6. Governance Rights: Board composition, voting rights, and major decision thresholds.
7. Risk Allocation: Basic framework for representations, warranties, and indemnification.

The real value of a term sheet lies not in poetic aspirations but in its ability to surface and resolve major disagreements early, before significant legal and due diligence costs are incurred. It’s a practical tool that saves time and money by ensuring all parties understand the fundamental deal structure before proceeding to definitive agreements. This article is for information purpose only and should not be taken as legal advice. To know further details, clarification, assistance or any advice on corporate legal issues, legal structuring for your business, due diligence or drafting of investment documents or any legal issues on investment/corporate law, you may connect with us at admin@equicorplegal.com  / 08448824659 and visit www.equicorplegal.com